Which One of the Following Formulas Illustrates the Mechanics of Covered

question 48

Multiple Choice

Which one of the following formulas illustrates the mechanics of covered interest arbitrage? Assume the $1 is borrowed and S0 = spot rate; F1 = one-year forward rate; RF = foreign country risk-free rate; and RUS = U.S.risk-free rate.

• A)$1 × F₁ × (1 + R_F)/S₀- $1 × (1 + R_US)
• B)$1 × S₀ × (1 + R_F)/F₁- $1 × (1 + R_US)
• C)$1 × F₁ × (1 + R_F)/S₀ + $1 × (1 + R_US)
• D)$1 × S₀ × (1 + R_F) - $1 × (1 + R_US)/F₁
• E)$1 × S₀ × (1 + R_F)/F₁ + $1 × (1 + R_US)

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Definitions:

Recording

The act of documenting financial transactions in the books of accounts as part of the accounting process.

Transactions

Financial events that affect the assets, liabilities, or equity of a company, recorded in its accounting system.

Accounting

The systematic process of recording, measuring, and communicating information about financial transactions.

Risk

The exposure to uncertainty or potential financial loss in decision-making and investment.