2. (3) Assume that there is perfect capital mobility between the U.S. and Japan. Latest data show that economic growth in the U.S. was unexpectedly strong in the last quarter and consumer prices rose more than that had been forecast. It the economic conditions in Japan have been stable, how will the forward exchange rate between the yen () and the U.S. dollar (5), Fm, respond to the latest economic news? Explain why. XYZ Corporation enters into a five-year currency swap agreement to receive Swiss francs and pay euros on a notional principal of 5,000,000 euros. The spot exchange rate at the time of signing the agreement is 1.05 Swiss francs per euro. The swap rates for the euro and Swiss franc are as follows: Currency Swap Rates Euro Swiss franc U.S. dollar Japanese yen Years Bid Ask Bid Ask Bid Ask Bid Ask 1 2.99 3.02 1.43 1.47 5.24 5.26 0.23 0.26 2 3.08 3.12 1.68 1.76 5.43 5.46 0.36 0.39 3 3.24 3.28 1.93 2.01 5.56 5.59 0.58 0.59 4 3.44 3.48 2.15 2.23 5.65 5.68 0.82 0.85 5 3.63 3.67 2.35 2.43 5.73 5.76 1.06 1.12 Immediately after the interest payments for the third year are made, XYZ decides to unwind the swap agreement and settle it in Swiss francs. Assume that now the twoyear fixed interest rate on the Swiss franc is 2.10%, the two-year fixed interest rate on the euro is 3.53%, and the spot exchange rate is 1.15 Swiss francs per euro. Should XYZ make payment to or receive payment from the swap dealer? How much is the payment? 3. (C) Toby is a currency speculator. He expects that the U S dollar WIII depreciate significantly againstthe British pound in the coming three months. The current spot exchange rate is 1.3553 dollars per pound. Assume that Toby can only choose between the followmg 907 day option contracts on the pound Strike Price Premium Option (deltas per pound) dollars. per pound) Sterling put option 1.3650 0 0128 Sterling call option 1.3650 0 0050 (0 Assume that the interest rate for the next 90 days is zero. anjghtoI Toby's expectation about the future movements of the dollarrpound exchange rate should he buy a call or put option on the pound? What is Toby's profit (net ofthe option premium) if the spot exchange rate at the end of 90 days IS i 3625 dollars per pound? (ii) Suppose that heightened uncertainty aboutfuture ination in the U.S. and UK makes the exchange rate between the dollar and pound more volatile What Will happen to the premiums of the put and call option contrads? Explain why We Mentis University (PMU) is a prestigious private institution and a member of the Holly League, which is made up of universities. based in Rdsinante and renowned worldWide as being of the highest quality Universities in Rosinante have benefited particularly from students coming from m and PMU has been no exception However, PMU has recognised that am has a large population of able students who cannot afford to study overseas. Therefore, it wants to investigate hoW it can otfer some of its most popular degree programmes in mm where students Will be able to study at a significantly lower cost. It is considering whether to enteljntq a Joint venture With a local institution or to independently set up its own university site in mm Offering courses overseas would he a rst from a Holly League institution and indeed from any academic institution based in Rosinante. However, there have been less renowned academic institutions from other countries which have formed yoint ventures With small private institutions in mm deliver degree programmes. These have been of low quality and are not held in high regard by the population or the government oflgaptalga, BUS Prosgice Mentis UniverSIty (PMU) is a prestigious private institution and a member of the Holly League, which is made up of universities based in Rosinante and renowned worldwide as being of the highest quality Universities in Rosinante have beneted particularly from students coming from W and PMU has been no exception However, PMU has recognised that Mam has a large population of able students who cannot afford to study overseas. Therefore, it wants to investigate how it can otter some of its most popular degree programmes in [Sam where students Will be able to study at a significantly lower cost. It is considering whether to enleleo. a Joint venture With a local institution or to independently set up its own university site in mm, Offering courses overseas would be a rst from a Holly League institution and indeed from any academic institution based in Rosinante However, there have been less renowned academic institutions from other countries which have formed Joint ventures With small private institutions in mm deliver degree programmes. These have been of low quality and are not held in high regard by the population or the government of [55mm in mm government run universities and a handful or large private academic institutions, none of which have entereduntu joint ventures are held in high regard However, the demand for places in these institutions far outstrips the supply of places and many students are forced to go to the smaller private institutions or to study overseas if they can afford it. After an initial investigation the following points have come to light 1. The mugovemment is keen to attract foreign direct investment (FDI) and offer tax concessions to businesses which bring investment tunds into the country It is likely that PMU would need to borrow a substantial amount of money if itwere to set up independently However, the investment funds required would be considerably smaller if it went into ajoint venture 2. Given the past experiences of poorrquality education offered by joint ventures between small local private institutions and overseas institutions the m government has been reluctant to approve degrees from such institutions, E the government has not allowed graduates from these institutions to work in national or local government, or in nationalised organisations Page 3 of? 5. Bonnie pic is a large toy manufacturer that has recently been approached by the owners of the patent of a new toy that has become extremely popular in Asia. They have offered Bonnie pic exclusive rights to make and distribute the toy in Asia for an immediate payment of $3.2 million and a royalty payment of $1 for each toy produced and sold. To assess the feasibility of the offer, Bonnie plc appointed a specialist firm of marketing consultants, at a cost of 20.5 million, to provide a report on the market potential of the new toy in Asia. The report, which has just been produced, concluded that Bonnie pic could sell the new toy for $9 each and that 400,000 toys could be sold each year during its anticipated four-year life. To produce the toy, equipment costing $1 million would be required immediately: this would have a residual value at the end of four years of 10.5 million. The variable costs of production (excluding the royalty payments) are expected to be $3.25 per unit and the fixed costs (excluding depreciation) are expected to be f1.2 million per year. Half of these fixed costs have been apportioned to the new product based on a 'fair share' of the fixed costs relating to the company as a whole and half directly relate to the production of the new toy. Bonnie plc believes that a suitable discount rate for this project is 10%. Ignore taxation and work in Emillions. Required: (a) Calculate the net present value (NPV) for Bonnie pic of producing and selling the new toy. (10) (b) Carry out a sensitivity analysis to show by how much each of the following would have to change before producing and selling the new toy would no longer be worthwhile: (i) the residual value of equipment; (ii) the net annual operating cashflows; (iii) the discount rate (use a discount rate of 15%). (18) BU52006 Page 4 of 7