Theory of co
mpetitive advantage: a basis for explaining and
justifying international trade in a model assumed
to enjoy free trade, perfect competition, no
uncertainty, costless information, no government
interference
Law of One Price: If an identical product can be
sold in two different markets, and no restrictions
exist on the sale or transportation costs, the
product's price should be the same in both
markets
Absolute PPP: states that the spot exchange rate
is determined by the relative prices of similar
baskets of goods.
Relative PPP: states that differential rates of
inflation between two countries tend to be offset
over time by an equal but opposite change in the
spot exchange rate.
The Fisher Effect: states that nominal interest
rates in each country are equal to the required
real rate of return plus compensation for
expected inflation// i = r +
International Fisher Effect: The relationship
between the percentage change in the spot
exchange rate over time and the differential
between comparable interest rates in different
national capital markets
Forward rate: an exchange rate quoted today for
settlement at some time in the future.
Foreign currency futures contract calls for the
future delivery of a standard amount of foreign
exchange at a fixed time, place, and price.
difference between currency futures and forward
contracts--futures contracts are standardized for
ease of trading on an exchange market whereas
forward contracts are specialized and tailored to
meet the needs of clients.
speculator in the futures market looking--
could buy a foreign currency will buy a
futures contract. // speculator that has
sold FCshort position
A foreign currency option gives the purchaser the
right, not the obligation, to buy a given amount of
foreign exchange at a fixed price per unit for a
specified period. //call buy & put sell
strike price: price at which option can be
exercised
Call options:
1. OTM: exercise price exceeds the spot rate
2. ITM: exercise price less than spot rate 3.
ATM: exercise price=spot rate
The buyer of a long call option has a maximum
loss equal to the premium paid, has a gain equal
to but opposite in sign to the writer of the option,
has an unlimited maximum gain potential. Writer
of call option: maximum loss is unlimited & gain
or loss is equal to but of the opposite sign of the
buyer of a call option.
Put option:
The buyer of a long put option (includes the
above) but has maximum gain potential limited
to the difference between the strike price and the
premium paid. Writer of put option: maximum
loss is limited to the strike price of the underlying
asset less the premium, gain or loss is equal to
but of the opposite sign of the buyer of a put
option, maximum gain is the amount of the
premium
European: only on expiration date; value of euro
style call option is sum of intrinsic value + time
value vs. American: anytime between writing &
incl. exercise date
Main forecasting approaches: technical, fundamental, Efficient Market
Reasons for government and/or central banks foreign exchange intervention
Types of government and/or central banks foreign exchange intervention:
o direct,
o coordinated,
o indirect,
o capital controls