Chapter 5 Practice questions and answer keys

Lecture #3

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Practice Questions

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International Financial Management 456

Chapter 5

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The Market for Foreign Exchange

1.

Most foreign exchange transactions are for

A. intervention by central banks.

B. interbank trades between international banks or nonbank dealers.

C. retail trade.

D. purchase of hard currencies.

2.

The difference between a broker and a dealer is

A. dealers sell drugs; brokers sell houses.

B. brokers bring together buyers and sellers, but carry no inventory; dealers stand ready to buy

and sell from their inventory.

C. brokers transact in stocks and bonds; currency is bought and sold through dealers.

D. none of the above

3.

Intervention in the foreign exchange market is the process of

A. a central bank requiring the commercial banks of that country to trade at a set price level.

B. commercial banks in different countries coordinating efforts in order to stabilize one or more

currencies.

C. a central bank buying or selling its currency in order to influence its value.

D. the government of a country prohibiting transactions in one or more currencies.

4.

The spot market

A. involves the almost-immediate purchase or sale of foreign exchange.

B. involves the sale of futures, forwards, and options on foreign exchange.

C. takes place only on the floor of a physical exchange.

D. all of the above.

5.

Using the table shown, what is the most current spot exchange rate shown for British pounds?

Use a direct quote from a U.S. perspective.

A. $$1.61 = ?

1.00

B. $$1.60 = ?

1.00

C. $$1.00 = ?

0.625

D. $$1.72 = ?

1.00

6.

Suppose that the current exchange rate is ?0.80 = $$1.00. The direct quote, from the U.S.

perspective is

A.

?1.00 = $$1.25.

B.

?0.80 = $$1.00.

C. ?

1.00 = $$1.80.

D. None of the above

7.

Suppose that the current exchange rate is ?1.00 = $$1.60. The indirect quote

, from the U.S.

perspective is

A.

?1.00 = $$1.60.

B.

?0.6250 = $$1.00.

C.

?1.60 = $$1.00.

D. None of the above

8.

The Bid price

A. is the price that the dealer has just paid for something, his historical cost of the most recent

trade.

B. is the price that a dealer stands ready to pay.

C. refers only to auctions like eBay, not over the counter transactions with dealers.

D. is the price that a dealer stands ready to sell at.

9.

Suppose the spot ask exchange rate, S

a

($$|?

), is $$1.90 = ?

1.00 and the spot bid exchange rate,

b

S

($$|?

), is $$1.89 = ?

1.00. If you were to buy $$10,000,000 worth of British pounds and then sell

them five minutes later, how much of your $$10,000,000 would be

A. $$1,000,000

B. $$52,910.05

C. $$100,000

D. $$52,631.58

10.

If

the $$/? bid and ask prices are $$1.50/? and $$1.51/?, respectively, the corresponding ?/$$ bid and

ask prices are

A.

?0.6667 and ?0.6623.

B. $$1.51 and $$1.50.

C.

?0.6623 and ?0.6667.

D. cannot be determined with the information given.

11.

In the Interbank market, the standard size of a trade among large banks in the major currencies is

A. for the U.S.-dollar equivalent of $$10,000,000,000.

B. for the U.S.-dollar equivalent of $$10,000,000.

C. for the U.S.-dollar equivalent of $$100,000.

D. for the U.S.-dollar equivalent of $$1,000.

12.

The dollar-

euro exchange rate is $$1.25 = ?1.00 and the dollar

-yen exchange rate is ?

100 = $$1.00.

What is the euro-yen cross rate?

A.

?125 = ?1.00

B.

?1.00 = ?125

C.

?1.00 = ?0.80

D. None of the above

13.

Suppose you observe the following

exchange rates: ?1 = $$1.25; ?1 = $$2.00. Calculate the euro

-

pound exchange rate.

A.

?1 = ?1.60

B.

?1 = ?0.625

C.

?2.50 = ?1

D.

?1 = ?2.50

14.

Suppose you observe the following exchange rates: ?1 = $$1.60; ?1 = $$2.00. Calculate the euro

-

pound exchange rate.

A.

?1.3333 = ?1.00

B.

?1.3333 = ?1.00

C.

?3.00 = ?1

D.

?1.25 = ?1.00

15.

Find the no- arbitrage cross exchange rate. The dollar-euro exchange rate is quoted as $$1.60 =

?1.00 and the dollar

-pound exchange rate is quoted at $$2.00 = ?

1.00.

A.

?1.25/?1.00

B. $$1.25/?

1.00

C.

?1.25/?1.00

D.

?0.80/?1.00

16.

The euro- pound cross exchange rate can be computed as:

A.

S

(?/?) =

S

($$/?

)

?

S

(?/$$)

B.

C.

D. all of the above

17.

Suppose a bank customer with ?1,000,000 wishes to trade out of euro and into Japanese yen. The

dollar-

euro exchange rate is quoted as $$1.60 = ?1.00 and the dollar

-yen exchange rate is quoted at

$$1.00 = ?

120. How many yen will the customer get?

A. ?

192,000,000

B. ?

5,208,333

C. ?

75,000,000

D. ?

5,208.33

18.

Suppose you observe the following exchange

rates: ?1 = $$.85; ?1 = $$1.60; and ?2.00 = ?1.00.

Starting with $$1,000,000, how can you make money?

A.

Exchange $$1m for ?625,000 at ?1 = $$1.60. Buy ?1,250,000 at ?2 = ?1.00; trade for

$$1,062,500 at ?1 = $$.85.

B.

Start with dollars, exchange for euros at ?1

= $$.85; exchange for pounds at ?2.00 = ?1.00;

exchange for dollars at ?

1 = $$1.60.

C. Start with euros; exchange for pounds; exchange for dollars; exchange for euros.

D. No arbitrage profit is possible.

19.

You are a U.S.-based treasurer with $$1,000,000 to invest. The dollar-euro exchange rate is quoted

as $$1.20 = ?1.00 and the dollar

-pound exchange rate is quoted at $$1.80 = ?

1.00. If a bank quotes

you a cross rate of ?1.00 = ?1.50 how much money can an astute trader make?

A. No arbitrage is possible

B. $$1,160,000

C. $$500,000

D. $$250,000

20.

You are a U.S.-based treasurer with $$1,000,000 to invest. The dollar-euro exchange rate is quoted

as $$1.60 = ?1.00 and the dollar

-pound exchange rate is quoted at $$2.00 = ?

1.00. If a bank quotes

you a cross rate of ?1.00 = ?1

.20 how can you make money?

A. No arbitrage is possible

B.

Buy euro at $$1.60/?, buy ? at ?1.20/?, sell ? at $$2/?

C.

Buy ? $$2/?, buy ? at ?1.20/?, sell ? at $$1.60/?

21.

The Singapore dollar

—

U.S. dollar (S$$/$$) spot exchange rate is S$$1.60/$$, the Canadian dollar

—

U.S. dollar (CD/$$) spot rate is CD1.33/$$ and the S$$/CD1.15. Determine the triangular arbitrage

profit that is possible if you have $$1,000,000.

A. $$44,063 profit

B. $$46,093 loss

C. No profit is possible

D. $$46,093 profit

22.

Market microstructure refers to

A. the basic mechanics of how a marketplace operates.

B. the basics of how to make small (micro-sized) currency trades.

C. how macroeconomic variables such as GDP and inflation are determined.

D. none of the above

23.

The forward price

A. may be higher than the spot price.

B. may be the same as the spot price.

C. may be less than the spot price.

D. all of the above

24.

For a U.S. trader working in American quotes, if the forward price is higher than the spot price

A. the currency is trading at a premium in the forward market.

B. the currency is trading at a discount in the forward market.

C. then you should buy at the spot, hold on to it and sell at the forward

—

it's a built-in arbitrage.

D. all of the above

—

it really depends if you're talking American or European quotes.

25.

The forward market

A. involves contracting today for the future purchase of sale of foreign exchange at the spot rate

that will prevail at the maturity of the contract.

B. involves contracting today for the future purchase of sale of foreign exchange at a price agreed

upon today.

C. involves contracting today for the right but not obligation to the future purchase of sale of

foreign exchange at a price agreed upon today.

D. none of the above