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Accounting
On June 1, 2000, the fly has depreciated to waf 0.90, but the six-month interest rates have not changed. In early 2001, the fly is back at par. Compute the gain or loss (and the cumulative gain or
Repeat the previous exercise, except that after six months the exchange rate is at waf/fly 1, not 0.9.Use the following time-0 data for the fictitious currency, the Walloon Franc (waf) and the
Compare the analyses in Exercises 4 and 5 with a rolled-over money-market hedge. That is, what would have been the result if you had borrowed waf for six months (with conversion and investment of
For each pair shown below, which of the two describes a forward contract? Which describes a futures contract?(a) Standardized/made to order(b) Interest rate risk/no interest rate risk(c) Ruin risk/no
What is the day's cash flow from marking to market for the holder of a:(a) jpy June contract?(b) nzd June contract?(c) chf June contract?
What are the daily high, low, and settlement prices for the December contract for:(a) Japanese yen?(b) New Zealand Dollar?(c) Swiss Franc?
What is the day's cash flow from marking to market for the holder of a:(a) jpy June contract?(b) nzd June contract?(c) chf June contract? Discuss.
What statements are correct? If you disagree with one or more of them, please put them right.(a) Margin is a payment to the bank to compensate it for taking on credit risk.(b) If you hold a forward
Innovative Bicycle Makers of Exeter, uk, must hedge an accounts payable of myr 100,000 due in 90 days for bike tires purchased in Malaysia. Suppose that the gbp/myr forward rates and the gbp
On the morning of Monday, August 21, you purchased a futures contract for 1 unit of chf at a rate of usd/chf 0.7. The subsequent settlement prices are shown in the table below.(a) What are the daily
On November 15, you sold ten futures contracts for 100,000 cad each at a rate of usd/cad 0.75. The subsequent settlement prices are shown in the table below.(a) What are the daily cash flows from
On the morning of December 6, you purchased a futures contract for one eur at a rate of inr/eur 55. The following table gives the subsequent settlement prices and the p.a. bid-ask interest rates on a
You want to hedge the eur value of a cad 1m inflow using futures contracts. On Germany's exchange, there is a futures contract for usd 100,000 at eur/usd 1.5.(a) Your assistant runs a bunch of
In the preceding question, we assumed that there was a usd futures contract in Germany, with a fixed number of usd (100,000 units) and a variable eur/usd price. What if there is no German futures
A German exporter wants to hedge an outflow of nzd 1m. She decides to hedge the risk with a eur/usd contract and a eur/aud contract. The regression output is, with t-statistics in parentheses, and R2
You have an outstanding fixed-for-fixed nok/nzd swap for nok 100m, based on a historic spot rate of nok/nzd 4 and initial seven-year swap rates of 7 percent (nzd) and 8 percent (nok). The swap now
You can borrow cad at 8 percent, which is 2 percent above the swap rate, or at cad libor + 1 percent. If you want to borrow at a fixed-rate, what is the best way: direct, or synthetic (that is, using
Use the same data as in the previous exercise, except that you now swap the loan into floating rate (at libor). What are the payments on the loan, on the swap, and on the combination of them? Is
You borrow nok 100m at 10 percent for seven years, and you swap the loan into nzd at a spot rate of nok/nzd 4 and the seven-year swap rates of 7 percent (nzd) and 8 percent (nok). What are the
Your firm has USD debt outstanding with a nominal value of USD 1m and a coupon of 9 percent, payable annually. The first interest payment is due three months from now, and there are five more
You borrow usd 1m for six months, and you lend eur 1.5m-an initially equivalent amount-for six months, at p.a. rates of 6 percent and 8 percent, respectively, with a right of offset. What is the
1. A forward sale can be replicated by: (a) Selling a put and buying a call. (b) Selling a foreign T-bill and buying a domestic T-bill. (c) Buying a put and selling a call. (d) Both b and c (e) All
A cylinder option on the sale of foreign currency is a contract defined as follows: If S T > X1, you sell foreign exchange at X1, the floor • If S T > X2, where X2 > X1, you sell at X2, the
The lower bound on a non-degenerate American-style put (that is, a put where there is still some uncertainty about whether S T > X or not) is:Assume that ST = 0 and rtT = 0. Common sense says that
You have purchased a zero-coupon eur bond that gives you the choice between eur 100,000 at T2 = 2 or eur 90,000 at T1 = 1.What options (put and/or call) are implicit in this bond? Show that the two
The software giant, Kludge Systems, has issued a bond that gives the holder the choice between USD 10,000, NZD 20,000, and GBP 5,000. Can Kludge's bond be replicated using simple options?
The Thailand Plettery Steel Company has a debt of NZD 100,000, which is repayable in twelve months. Plettery's controller Jane Due is having trouble sleeping at night knowing that the debt is
Consider a one-period call option on the British pound. Suppose that the current exchange rate is usd/gbp 2, the exercise price is usd/gbp 1.9, the one period risk-free rate on the usd is 5 percent,
Suppose that the current spot rate is S0 = usd/gbp 2 and the one-period interest rates today are r is 5 percent and r∗ is 10 percent. Also, you are given that in the next period the spot rate will
In this exercise, we numerically verify that the probabilities derived for European calls also work for other contracts by (i) valuing the contracts starting from the value of a call, and (ii) by
Consider a four-month call option on the British pound. Suppose that the current exchange rate is usd/gbp 1.6, the exercise price is usd/gbp 1.6, the risk free rate on the usd is 8 percent p.a., the
Suppose that the spot rate is usd/cad 0.75 and the volatility of this exchange rate is 4 percent p.a. The risk-free rate in the US is 7 percent p.a. and in Canada it is 9 percent p.a. Suppose that
A foreign currency put option is equivalent to a position in the foreign currency T-bill and a certain amount of borrowing/lending of the home currency. Is your replicating position in the foreign
Suppose that the current eur/gbp spot rate is 0.6, the effective risk-free rates of return are r = 6 percent and r∗ = 8 percent, and the spot rate will either increase to 0.62 or decrease to 0.57
Repeat the question above using a put with the same strike price, instead of a call. Suppose that the current eur/gbp spot rate is 0.6, the effective risk-free rates of return are r = 6 percent and
In the one-period example in Section??, how could you make risk-free money if the call were valued at 10 rather than at 1.905?
Show that CEQt(FT1,T2) = Ft,T2.
What happens to the value of an option when both S0 and X change by the same factor, holding u, d, r, and r∗ constant?
In the same example, how would you change your answer if you discovered that the probability of "up" were 0.1, so that the exchange rate looked grossly overvalued?
Using the following data, compute the cost of hedging for each forward contract in terms of implicit commission and in terms of the extra spread as a percent of the midpoint spot rate.
In the wake of the North American Free Trade Agreement, the firm All-American Exports, Inc. has begun exporting baseball caps and gloves to Mexico. Suppose that All-American is subject to a tax of 30
In order to hedge its Mexican peso earnings, All-American is considering borrowing mxn 25 million, but is concerned about losing its usd interest tax shield. The exchange rate is usd/mxn 0.4, rt,T =
Graham Cage, the mayor of Atlantic Beach, in the us, has received bids from three dredging companies for a beach renewal project. The work is carried out in three stages, with partial payment to be
The American firm, American African Concepts, has a one-year eur A/P totaling eur 100,000 and a one-year Senegalese A/R totaling cfa 120,000,000. The cfa/eur exchange rate is fixed at 655.957. (a)
The Dutch manufacturer Cloghopper has the following jpy commitments:• A/R of jpy 1,000,000 for thirty days.• A/R of jpy 500,000 for ninety days.• Sales contract (twelve months) of jpy
From the parent's (usd) perspective, is the exposure of SynClear Canada to the usd/cad exchange rate positive or negative? Explain the sign of the exposure.
Determine the exposure, and verify that the corresponding forward hedge eliminates this exposure. Use a forward rate of usd/cad 0.80, and usd/cad 0.75 and 0.85 as the possible future spot rates.
SynClear's chairman argues that, as the exposure is positive and the only possible exchange rate change is an appreciation of the cad, the only possible change is an increase in the value of the
Compute the exposure, the optimal forward hedge, and the value of the hedged firm in each state. The forward rate is usd/cad 0.80.
Multiple choice question1. In a small, completely open economy,(a) PPP holds relative to the surrounding countries.(b) A 10 percent devaluation of the host currency will be offset by a 10 percent
Suppose that you are a manager at a British firm, and you are responsible for managing exchange rate exposure. Determine whether the following statements are related to accounting exposure,
Graucho, Chico's brother and Freedonia's president, along with his Cabinet Ministers (Harpo, Gummo and Zeppo Marx-picture) wonder why k exceeds unity, whether there is no typo (the formula says Max
Zeppo doubles as treasurer of Duck Soup Inc.-admittedly owing his position to the fact that he is from the ruling family. Duck Soup Inc. has an asset of $25 million and he needs to know the 99%
Harpo, the bright star in the Marx Intellectual Sky, muses that a 99% VaR means 2.33 std's, so the Basel number k = 3 stipulates a capital of just 7 std's. Yet, Harpo wonders, Philippe Jorion writes
Discuss the impact of the following factors on VaR: (a) Options (b) Liquidity
Multiple choice questions1. The market risk department of Trustworthy Bank reports a $5 million overnight VaR figure with 99.5 percent confidence level. The bank(a) Can be expected to lose at most $5
Why is legal redress in international trade disputes more difficult than in domestic trade?
The writing and confirming of L/Cs must achieve more than just risk shifting without overall gains, otherwise these techniques would not exist. What are the advantages?
Fill in the correct word from the following list: accept, the drawer, trade bill, promissory note, the drawee, You Owe Me, I Owe You, banker's acceptance, trade acceptance. As the word suggests, in
Complete the following table, by adding "+," "-," or "0" in each cell. A "+" rating means that the exporter (in part a of the table), or the importer (in part b) is adequately covered against the
(This is a tough one, for readers who actually studied the appendices to Chapter 9 on lognormal option pricing.) The Johannesburg branch of Shanghai Chartered Bank (SCB) is considering a three-month
Euro banks borrow for short maturities and lend for longer maturities. They can reduce the interest risk by: (a) Extending fixed-rate loans. (b) Extending floating-rate loans. (c) Extending revolving
A cap on a floating-rate euro loan: (a) Protects the borrower against high short-term interest rates. (b) Protects the lender against high short-term interest rates on the funding side. (c) Is
Which of each pair best describes euro banking? (a) Retail/wholesale (b) Individual lender/bank consortium (c) Reserve requirements/limited or no reserve requirements (d) Unsecured/secured (e)
Matching Questions: Choose from the following list of terms to complete the sentences below: paying agent, managing banks, trustee bank, placing agents, market, lead bank (or lead manager),
You bought an option that limits the interest rate on a future six-month loan to, at most, 10 percent p.a. (a) If, at the beginning of the six-month period, the interest rate is 11 percent, what is
You bought an option that limits the interest rate on a future six-month deposit to at least 10 percent p.a. (a) If, at the beginning of the six-month period, the interest rate is 11 percent, what is
Check the correct statement(s): (a) English-based law is more shareholder-friendly (b) The UK and the US have similar standards for creditor protection (c) Companies can compensate for weak
Suppose that you observe an efficient portfolio. There are two methods with which you can infer the degree of risk aversion of the investor that selects this particular portfolio. What are these two
What's wrong with the following statement: "The CAPM says that the expected return on a given stock j is equal to the best possible replication that one can obtain using the risk-free assets and the
Suppose that investors from a country have access to a large set of foreign stocks, and that foreign investors can also buy stocks in that country. Which of the following statements is (are)
Suppose that you have the following data:Asset 0 is the (domestic) risk-free asset, and asset weights in a portfolio are denoted as xj, where j = 0,..., 2. Which of the following portfolios is
Suppose that the capital markets of the following three countries are well integrated: North America (with the dollar), Europe (with the eur), and Japan (with the yen). Suppose that you choose the
Suppose that your assistant has run a market-model regression for a company that produces sophisticated drilling machines, and finds the following results (t-statistic in parentheses):Your assistant
Suppose that the world beta for a German stock (in euro) equals 1.5, and its exposures to the dollar, the yen, and the pound are 0.3, 0.2, and 0.1, respectively. (a) What is the best replicating
Suppose that there are two countries, the us (which is the foreign country) and Canada. The exposure of the company XUS, in terms of usd, is estimated as follows:What is the company's exposure in
What does one mean by the residence principle and the source principle? What do these principles imply for the taxation of income on (a) Pure (direct) exports? (b) Exports through a dependent
How do companies take advantage of the basic exclusion system for dividends? Which additional tax rules can be applied to prevent these unintended uses?
How can one reduce excess foreign tax credits by transforming domestic income into foreign income? Which additional tax rules can be applied to prevent such tactics?
Conventional wisdom says that tax planning means minimizing foreign taxes. Is this true under the exclusion system? Is it true under the credit system? If your answer was yes in both cases, is there
The bartender at your favorite pub sneers that, by using transfer pricing, a company can always eliminate its excess foreign tax credits. Do you agree, or do you think that your friend is forgetting
A foreign-owned company earns 100,000 in its host country. The host-country corporate tax is 50 percent, the withholding tax 20 percent, and the home-country tax is 40 percent. (a) What is the total
Suppose that the corporate tax schedule in Finland is as follows:• 25 percent tax on income below eur 50,000.• 30 percent tax on income between eur 50,000 and eur 100,000.• 35 percent tax on
The company Think Tankards has a stable foreign income, which is taxed at a low rate abroad. In each of the three preceding income years, it effectively paid usd 50m in additional US taxes on foreign
A Belgian bank holds eur 10 billion worth of seven-year eur government bonds, with a direct yield of 10 percent (that is, its annual interest income is eur 1b). (a) Until a tax reform in 1992, the
Your two foreign outposts, a branch in Germany and one in Singapore, each have sales of 100. The host-country tax rates are 40 percent and 20 percent, respectively. (a) If your home country uses the
Your only source of foreign income is a marketing WOS in Hong Kong, where the tax rate is 20 percent. At home you pay 35 percent. There is no withholding tax. (a) Under the 100 percent exclusion
Suppose that the German parent has sales equaling 200, and the Tunisian branch, 100. Direct costs are 80 and 30, respectively. German tax authorities allocate over head, which amounts to 120, on the
A us corporation has two foreign marketing branches, one in France and one in Hong Kong. The current situation is summarized as follows (all numbers in thousands of usd):(a) The us tax rate is 30
Sales and costs are 200 and 100, respectively, for the Tunisian, and 100 and 60 for the Hong Kong branch. The tax rates are 50 percent in Tunisia, and 25 percent in Hong Kong. The parent's home
What are the reasons why the tax savings from corporate borrowing are often smaller than the present value of (borrowing capacity × borrowing rate × tax rate)?
Why does a firm often combine, for example, exports, foreign marketing, and licensing-rather than choosing only one of the above methods of operations?
What are the main differences between an independent agent and a dependent agent? A dependent agent and a branch? A branch and a subsidiary? A subsidiary and a joint venture?
Why is it better to separate the analysis of intra company financial arrangements from the analysis of the operations and the analysis of the effects of external financing?
Describe how the proactive and reactive management of transfer risk differ?
Why might a company prefer licensing over direct investment?
Tax rules, in themselves, favor corner solutions where either equity or licensing income is not used. Still, we often observe that both are used. Give some reasons why a contract may include both
The exercises below focus on the logic used in this chapter rather than on number crunching. You should try to solve them without using any of the analytical solutions from the text.Suppose that
Suppose that company A's project has an NPV of 200 on its own, while company B can realize 100. The synergy gain is 200. There are no taxes, and the financial markets are integrated. Assume, however,
In Freedonia and Prisonia there are no taxes, and the capital markets are well-integrated across the two countries. Two multinational utility firms, FreeCorp and PriCorp, have WOSs that compete in
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