Suppose you are a Swiss investor who has initial capital equal to 2,000 Swiss francs (Swf). You are looking to borrow an additional 18,000 in Swiss francs (at the Swiss interest rate). You plan to invest the full 20,000 in U.S. dollar‒denominated deposits. The interest rate on Swiss deposits is equal to 3.5%, and the interest rate on U.S. deposits is equal to 5%.

a. Suppose the exchange rate remains unchanged. Calculate your return on this carry trade.

b. Is your answer inconsistent with the efficient markets hypothesis (EMH)? Explain why or why not.

c. Suppose the Swiss franc is expected to appreciate by 1%. Calculate your return on this carry trade.

d. According to the EMH, what should be the average return on the carry trade? For the EMH to hold in this case, what is the implied appreciation or depreciation in the Swiss franc relative to the U.S. dollar over the next few months?

e. Suppose the Swiss franc appreciates by 5%. Calculate your return. Did you lose your initial capital investment? Explain how this relates to the concept of leverage.