On Thursday 1November 2007, currency traders are betting in the forward exchange-rate market that the Hong Kong Monetary Authority will abandon its currency's 24-year peg to the U.S. dollar as overseas investment floods into the city. In the forward currency market, an investor can buy HK dollars for delivery in 12 months at a rate of 7.701 per U.S. dollar, beyond the authority's permitted trading range of 7.75-7.85. 

"The pricing in the forward market shows that money is being placed on bets that Hong Kong will revalue its currency," said Chris Turner, head of currency research at ING. "Currencies around the world with a dollar peg are under pressure given the U.S. dollar's weakness." The current Hong Kong dollar is at 7.7527 per U.S. dollar. 

 

Speculators use forwards to bet on price movements. The interest rate banks charge each other to borrow Hong Kong dollars is 0.35% lower than that for U.S. dollars. The HK dollar has appreciated 0.8% since the U.S. Federal cut the rate in August.

 

Question:

Assume that if the peg doesn't change, the Hong Kong dollar will remain at the current exchange. rate. Based on currency traders' speculations discussed. 

What is the probability that the HK dollar will be revalued to 7.550 per dollar? State the theory that you use.           

Answer rating: 100% (QA)

To calculate the probability of the HK dollar being revalued to 7550 per dollar we can use the theor... View the full answer