A U.S. investor is considering investing $100 million in Fiat stock in Italy. The stock has an
Question:
A U.S. investor is considering investing $100 million in Fiat stock in Italy. The stock has an expected return of 5% in euros, including the dividend yield, and the investor is forecasting a 3% appreciation of the euro over the next year. U.S. and euro interest rates are 1% and -1%, respectively. The euro-based return on Fiat stock has an annualized volatility (standard deviation) of 40%, $/euro exchange rate volatility is currently at 10% annualized, and the correlation between the two is -0.2.
a) What is the U.S. investor's expected return on a covered investment in Fiat?
b) What is the U.S. investor's expected return on an uncovered investment in Fiat?
c) What is the annualized volatility of a U.S. investor's uncovered investment in Fiat? d) What is the U.S. investor's 5% Value at Risk on a 1-year uncovered investment of $100 million in Fiat stock? Explain what this number represents.