PROBLEM $2$: Go to

www$.$x$-$rates.com $($ click on Historic Lookup$)$ and obtain the direct quotes

$($exchange rates$)$ of the Canadian Dollar and the Euro at the beginning of each of the last eight

years. You may have to change the years under the Historical Lookup tab to get the appropriate

rates for each year.

a$.$ Assume you are a US$-$based MNC and received C$$2$ million in earnings from your

Canadian subsidiary at the beginning of the year for each of the last eight years. Multiply

this amount by the direct exchange rate of the Canadian dollar at the beginning of each

year to determine how many U$.$S$.$ Dollars you received. Determine the percentage change

in the dollar cash flows from one year to the next. Determine the standard deviation of

these percentage changes. This measures the volatility of movements in the dollar

earnings resulting from your Canadian business over time.

b$.$ Now assume that you also received $1$ million Euros at the beginning of each year from

your German subsidiary. Repeat the same process for the Euro to measure the volatility

of movements in the dollar cash flows resulting from your German business over time.

Are the movements in dollar cash flows more volatile for the Canadian business or the

German business?

c$.$ Now consider the dollar cash flows you received from the Canadian subsidiary and the

German subsidiary combined. That is$,$ add the dollar cash flows received from both

businesses for each year. Repeat the process to measure the volatility of movements in the dollar cash flows resulting from both businesses over time. Compare the volatility in

the dollar cash flows of the portfolio to the volatility in cash flows resulting from the

German and Canadian businesses. Does it appear that diversification of businesses across

two countries results in more stable cash flows than the business in Germany or Canada

alone? Explain. $($Hint: If you do the calculations correctly, the volatility of the

combined cashflows should be less than the weighted average volatility of the

individual cashflows, assuming correlation between the cashflows is less than $1.)$