Prof. T.R.

Panigrahi
Q. 1 Consider the following exchange rates :
US $ Equivalent
US Market
Singapore Dollar (S$) 0.6330/33
Spot
3 – month forward 0.6357/60
Euro (€) Spot 1.2818/21
3 – month forward 1.2898/01

Equivalent Singapore $
Singapore Market
Euro (€) Spot 2.0379/82
You are required to
a. Verify whether there is a possibility of triangular arbitrage to exploit the difference between S$-Euro cross rates in the U.S.
market and the S$-Euro rates in the Singapore market. Indicate clearly which currency you would buy/sell and in which
market.
If you have $1 million, calculate the profit or loss from the triangular arbitrage.
b. Compute what is the 3-month risk less interest rate in the U.S. (expressed as effective annual rate), if risk less rate of interest in
the Singapore market for 3-month is 3.25% p.a. compounded annually?
a. In the U.S. market the cross rate of S $/Euro is:

(S$/€)bid = (S$/$)bid ($/€)bid = ($/€)bid = = 2.0240

(S$/€)ask = (S$/$)ask ($/€)ask = ($/€)ask = = 2.0254

Cross rates: S$/€ 2.0240/2.0254
Spot rate: S$/€ 2.0379/2.0382
Since synthetic ask rate is lower than the actual bid rate there is possibility of three point arbitrage.
Thus, Euro is cheaper in the US market and worth more in Singapore. Therefore, we can buy Euro in the US, sell Euro in
Singapore for Singapore $. Which we will sell in the US to convert back into US$. The triangular arbitrage will be
implemented as follows:
First we buy euro for $1,000,000 in US.

Thus we get Euro 1,000,000 = € 779,970.36

Then we sell this € 779,970.36 in Singapore market for S$
Thus we get S$ = 779,970.36 2.0379 = S$ 1,589,501.60
Finally we sell this S$ in US market for dollars = 1,589,501.60 0.6330 = $1,006,154.51
Profit from the trasaction = 1,006,154.51 - 1,000,000 = $ 6,154.51.
b. 3 month risk less rate in Singapore

=
= 0.8028%
By interest rate Parity.
 Or, 1+ rus =
rus = 0.01233 for 3 months
Effective annual rate = (1 + 0.01233)4 – 1 = 1.05024 – 1 = 5.024%.

Q. 2 A Finance company in Mumbai proposes to invest rupee funds equivalent to €10 million for one year in London market. The
return on investment over the period of investment will be 8%. The current exchange rates are as follows:
Rs./€ Spot 53.15/53.20
1- year forward 53.25/53.30
A foreign bank has agreed to offer €10 million at a rate of Rs.53.10/€ and swap the same amount at Rs.53.20/€ after one year. The
rupee cost of the funds to the company is 7%.
You are required to calculate the actual returns earned under forward cover and swap deal and suggest the company whether it
should go for the simple forward cover or accept the foreign bank’s offer.
Ans. Rupee out flow at spot rate for acquiring €10 million 10 × 53.20 = Rs.532 million
Rupee cost of funds = 532 × 0.07 = 37.24 million
Return from Investment = 10 × 0.08 million
= € 0.80 million
Total inflow = 10 + 0.80 = € 10.80 million
Rupee inflow if covered through forward market = 10.80 × 53.25
= Rs.575.10 million
Net gain = 575.10 – [500 + 37.24] = Rs.37.86 million.

Return = , say 7.12%.

If the company accepts foreign bank’s offer:
Initial rupee outflow = 10 m × 53.10
= 531.00 million
Rupee cost of funds = 531.00 × 0.07 = 37.17 million
Out of the total investment matured, € 10 million is to be paid back to foreign bank and will pay Rs. 53.20/€ and rest € 0.80 million
can be sold through forward cover @ Rs. 53.25/€.
Rupee inflow from swap deal = 10m × 53.20 = Rs.532 million
Rupee inflow from forward cover = € 0.80m × 53.25 = Rs.42.60 million
Total rupee inflow after one year = 532 + 42.60 = Rs.574.60 million
Net gain = 574.60 – (531.00 + 37.17)
= 574.60 – 568.17 = Rs.6.43 million

Return =
Q.3 The finance manager of a shipping company in Mumbai proposes to send a remittance of SFr 1 million to the parent company
in Zurich on July 18, 2005. The finance manager approaches the banker for a better rate to send the remittance. The banker in
Mumbai agrees to load an exchange margin of 5 paise by covering the transaction either through inter-bank market in Mumbai,
or Bahrain market or Singapore market whichever is favorable to the company. The spot exchange rates in Mumbai, Bahrain
and Singapore markets on July 18, 2005 are given below.
Mumbai Rs. / $ 43.50 / 52
Rs. / £ 79.20 / 22
Rs. / CHF 34.34 / 35
Bahrain CHF / £ 2.3070 / 72
Singapore CHF / $ 1.2688 / 90
You are required to determine
 (a) The market in which the dealer should opt to cover the position to send the remittance of SFr 1 million.
(b) The income to the banker in sending the remittance.
Ans.
a. (i) If the banker covers in the local inter-bank market of Mumbai
Spot selling rate = 34.3
5
Add Exchange margin = 0.05
Rate to be quoted = 34.4
0

(ii) If the banker covers the transaction in Bahrain market

(Rs. / CHF)ask = (Rs. / £)ask × (£ / CHF)ask

= (Rs. / £)ask ×

= 79.22 ×
= 34.3389.
Say Rs. 34.3
4
Add Exchange margin 0.05
Rate to be quoted 34.3
9
(iii) If the banker covers the transaction in Singapore market
(Rs. / CHF)ask = (Rs. / $)ask × ($ / CHF)ask

= (Rs. / $)ask ×

= 43.52 ×
= 34.3
0
Add Exchange margin 0.05
34.3
5
The dealer should quote Rs. 34/35 / CHF by covering the transaction in Singapore market.
b. Income to the banker in the transaction (34.35 – 34.30) = 1000000 × 0.05 = Rs. 50,000.
< TOP >

Q.4. Lucky Diamond company received orders to export diamond jewelry to Germany at the rate of one consignment every month
in August, September and October 2005. Amounts will be received at the end of each month. The company has the option to
invoice the exports either in US $ or euro. The terms are as under:
US $ Euro To be received at the end of
First consignment 121500 100000 August 05
Second consignment 182625 150000 September 05
Third consignment 243800 200000 October 05

You, as the Finance Manager of the Company have the following forecast for the exchange rates at the end of the following
months:
August September October
 $ / Euro 1.2155 / 56 1.2180 / 81 1.2198 / 99
Rs. / $ 43.52 / 54 43.56 / 58 43.60 / 62

The current forward rates in the market are as under:

August September October
$ / Euro 1.2160 / 61 1.2188 / 89 1.2200 / 01
Rs. / $ 43.58 / 60 43.62 / 64 43.66 / 68

You are required to suggest the currency in which the company should invoice for each of the consignment:
(a) If the exposure is hedged.
(b) If the exposure is left uncovered.
Ans.
Rs. / euro rates can be calculated as follows:
Forward rates
(Rs. / euro)bid: (Rs. / $)bid × ($ / euro) bid
Aug 05 : 43.58 × 1.2160 = Rs.52.99
Sept 05 : 43.62 × 1.2188 = Rs.53.16
Oct 05 : 43.66 × 1.2200 = Rs.53.27
Expected rates
(Rs. / euro)bid Aug 05 : 43.52 × 1.2155 = Rs.52.90
Sept 05 : 43.56 × 1.2180 = Rs.53.06
Oct 05 : 43.60 × 1.2198 = Rs.53.18

Consignment Invoicing in Hedged / Rate Inflow Inflow in

not hedged In foreign Rs.
currency
First (August 05) $ Hedged 43.5 121500 5294970
8
Euro Hedged 52.9 100000 5299000
9
Second (Sept 05) $ Hedged 43.6 182625 7966103
2
Euro Hedged 53.1 150000 7974000
6
Third (Oct.05) $ Hedged 43.6 243800 10644308
6
Euro Hedged 53.2 200000 10654000
7
First (August 05) $ Un hedged 43.5 121500 5287680
2
Euro Un hedged 52.9 100000 5290000
0
Second (Sept 05) $ Un hedged 43.5 182625 7955145
6
Euro Un hedged 53.0 150000 7959000
6
Third (Oct.05) $ Un hedged 43.6 243800 10629680
0
Euro Un hedged 53.1 200000 10636000
8
 All the three consignments have to be invoiced in euro and hedged to receive more cashflows.
Q .5 You are a dealer in the treasury department of a bank and found the following quotes:
Rs./₤ 84.70/85.00
Rs./$ 45.75/45.80
You are required to
a. Find the limits for the cross rate for $/£ to prevent two point arbitrage.
b. If the $/£ quote in UK market is 1.8590/1.8605, will the dealer be able to make profit? If so quantify the same for an
investment of Rs.1,00,000.
Ans. a. Rs/£ = 84.70/85.00
Rs/$ = 45.75/45.80
The non-arbitrage condition is
($/£) bid < ( Rs./ £ )ask x ($/Rs.) ask and
($/£) ask > (Rs./ £ ) bid x ($/Rs.) bid
($/Rs) ask = 1/45.75
(Rs/ £) ask =85.00

($/£) synthetic bid should be ≤ 85.00 × ≤ 1.8579

($/Rs) bid =1/45.80 = 0.02183
(Rs./£) bid = 84.70

$/£ synthetic ask should be ≥ 84.70x ie, ≥ 1.8493

b. Since the actual cross currency bid rate does not fulfill the non-arbitrage condition, an arbitrageur is

able to make risk less profit. Assume that he has Rs.1 lakh with him. He will buy Pound for rupee

.He will get pound 100000/85 = 1176.47, Immediately will sell pound for dollar at the cross currency

bid rate of $1.8590/£ to get 1176.47 × 1.8590 = $2187.05.

When the above dollar is sold for rupee he will get Rs.100058 (2187.05 × 45.75)
Arbitrage profit =100058 – 100000 = Rs.58.
Q. 6 Mr. Alex approaches an authorized dealer in Mumbai for 8 months rupee-AED swap. Mr. Alex will buy 1.6 million Arab
Emirates Dirham (AED) spot against rupee and sell 1.6 million AED 8 months forward against rupee. The forward markets for
AED is almost non-existent. The exchange rates and interest rates in the market are as follows:
Rs./AED Spot 12.15
8 months Rupee interest rate (p.a.) 5.0%
8 months AED interest rate (p.a.) 3.5%
You are required to find the swap margin if the bank wants to maintain an exchange margin of 0.5% in the forward leg.
Ans. Suppose swap is done at the spot rate if Rs./AED 12.15. The bank borrows AED 1.6 million at 3.5% for 8 months and delivers
it to the customer. The bank will invest the rupee amount received from the customer at 5% for 8 months.
Rupee inflow = 1.6 × 12.15 = Rs.19.44 million

Rupee receivable after 8 months = = Rs.20.09 million

AED amount to be repaid after 8 months = = Rs.1.64 million

 The bank will break-even if it charges a rate of = 12.25 rupee per AED
Since the bank wants to maintain a forward margin of 0.5%, thus towards the forward leg it will quote =
12.19. So, swap margin is 4 paisa.
Q. 7 On September 10th 2005, the Federal Bank entered into a 3-m forward contract for purchase of S$ 10 million. The 3-month
forward quotation on the same day was Rs /S$ 27.45/46. The delivery date for the transaction was December 12 th, 2005. On
November 14th 2005, the client approached the bank to sell S$ under the original contract on the same day. The following rates
prevailed on that day:

Spot Rs/S$ (Nov 14th, 2005) 27.34/27.39

Forward rate Rs/S$ (Dec 12th, 2005) 27.65/27.70

1 month borrowing and deposit rates for the bank are 7.5% p.a. and 4% p.a. respectively.
You are required to determine the amount to be collected from /paid to the customer due to early delivery.
Federal Bank entered into an agreement to buy S$ 3-m forward at 27.45. The bank covers the transaction with
a contract to sell the S$ in the inter bank market 3-m forward.
On early delivery date the bank buy S$ from the customer at the agreed upon forward rate of 27.45, and sell the same at the
spot rate of 27.34. Due to early delivery, there is additional cash outflow to the bank on 14/11/2005 to the extent of difference
between the spot sell and forward purchase contract rate ie. Rs (27.45-27.34)=Rs. 0.11. Since the additional cash outflow is
with the bank for 28 days ie. till the original contract date. The bank will charge interest on this amount at its 1 month
borrowing rate (FEDAI rule)

The bank will do a swap by selling the S$ in the spot market on the day of early delivery and buying forward. In this process
the bank would square off the forward contract it had entered into to cover itself from the original contract. That is it sells spot
at 27.34 and buys forward at 27.70. The difference between this two is Rs.0.36, the bank will recover from the customer. The
swap loss can be recovered by Federal Bank at the time of early delivery or on the date of original contract due date.
Therefore the total amount to be collected from the customer is Rs. (36,00,000-6328.77) = Rs.3606328.77
Q. 8 Magnum Pension Fund, an offshore investment company floated by a multinational investment banker in Canada has invested
in a few selected mutual funds in India for a period of one year.
Rs./C$ one year ago Rs.35.4706/10
Rs./C$ now Rs.39.3712/16
Unit value of investment Rs.90,000
Cash flow at the end of six months Rs.5,000
Cash flow at the end of one year 1,01,100
Reinvestment rate in India 7%
Inflation rate in India 5%
Inflation rate in Canada 3%
You are required to
a. Compute nominal rate of return to the company.
b. Compute the real rate of return to the company.
c. Compute the real rate of return to an Indian Investor who invested in the same mutual fund.
Ans. Nominal rate of return to Magnum Pension Fund

Or 2567.84 + 131.44 = 2537.31 (1 + r)

Or 2699.28 = 2537.31(1+ r)
Or r = 6.38%
Real rate of return to Magnum pension fund.
 Hence the inflation should be adjusted. The inflation in U.K. should be considered to compute the real rate of return.

That is
2493.05 + 127.61 = 2537.31 (1 + r)
or 2620.65 =2537.31 (1 + r)
or r = 3.28%
Real rate of return for an Indian investor.
The amount is invested in India itself; hence the exchange rate will not be considered. Inflation rate should be
considered while computing the real rate of return.

Cash flow invested will grow by the end of the year to 5,000 = Rs.5175
Total inflow at the end of the year = 101100 + 5175
= Rs.1, 06,275

∴ Nominal rate = = 18.08%

Real return = = 12.46%

Q.9 Marico Ltd. has imported machines for leather manufacturing worth US$ 2,56,000 from a company in US. The amount due for
the imports is payable after 6 months. Mr. Deshpande, the treasury manager of Marico Ltd. has collected the following market
quotes:
Exchange rates:
Spot Rs./$ 46.07/46.11
Forward 6 month 46.18/46.22
Interest rates (p.a.):
Dollar (6 months) 5.50% / 6.00%
Rupee (6 months) 9.50% / 11.00%
The supplier of the equipment, Camco International, has offered a discount of $ 2,500 if the payable is settled at the current
date. Mr. Deshpande is reviewing the following alternatives to settle the payable:
i. Cover through forward market
ii. Cover through money market
iii. Avail the cash discount of $ 2,500 by taking a bridge loan at 13.5% p.a. from a lending institution.
You are required to suggest Mr. Deshpande the best alternative to settle the payable.
Ans. Spot Rs/$ 46.07 / 46.11
6m forward 46.18 / 46.22
Forward market cover:
Rupee outflow after 6 month = 2,56,000 × 46.22
= Rs.118.32 lakh
Money market cover:
As the company has to pay dollar 6 months hence, so it will borrow in rupees, convert into dollar at spot
and invest in dollar.

Dollar amount to be invested today = = $ 2,49,148.42

∴ Rupee amount to be borrowed today = $2,49,148.42× 46.11
= Rs.114.88 lakh
 ∴ Rupee outflow after 6 months = 114.88
= Rs.121.20 lakh
Availing cash discount
Amount to be paid if cash discount is availed = $2,53,500
Rupee equivalent of $ 2,53,500 at the spot rate = 2,53,500× 46.11 = Rs.116.89 lakh

∴ Rupee outflow after 6 months = 116.89 = Rs.124.78 lakhs

So it is better to avail forward market, as the outflow is minimum in this case.
Q. 10 Eric Inc. an Export Oriented Unit (EOU) engaged in export of consumer durables in Mumbai has submitted a 90 days bill
of S$ 150,000 drawn under an irrevocable LC for negotiation. The company decided to retain a portion of it and solicit its
banker to retain 70% of the bill amount under EEFC (Exchange Earners Foreign Currency) account.
The rates for US dollars in the inter-bank market are quoted as under:
Rs./ $ Spot : 44.54/58
1 month forward : 12/15 paise
2 months forward : 21/24 paise
3 months forward : 26/29 paise
4 months forward : 30/33 paise
Singapore Dollar quoted in Bangkok market as under:
$/S$ Spot : 0.6061/65
1 month forward : 25/30
2 months forward : 31/36
3 months forward : 37/42
4 months forward : 43/48
Note: Transit period is 25 days
Interest on post-shipment credit is 6% p.a.
Exchange margin required is 0.3%
You are required to compute
(a) The exchange rate quoted to the company.
(b) The cash-inflow to the company.
(c) The interest amount to be recovered by the banker from the exporter.
Ans. a. Bank has to quote Rs/S$ bid rate. Transit period and usance period involve 115 days. In Rs/$ quote,
dollar is at premium. Therefore the transit period and usance period will be rounded of to the lower
month and 3 months forward bid rate is to be taken.
Rs/$ spot bid rate = Rs.44.54
Add premium for 3 months = Rs. 0.26
Rs.44.80
Less exchange margin at 0.3% = 0.1344
Bid rate for dollar 44.67
In $/S$ quote. Singapore Dollar is at premium. The transit and usance period will be rounded off to lower month.
$/S$ spot bid rate 0.6061
Add premium for 3 month 0.0037
0.6098
Rs/S$ bid rate = (Rs/$)bid × ($/S$)bid
= 44.67× 0.6098
= Rs.27.24 /S$
b. Cash inflow to the exporter
Amount of the Export bill = S$ 150000
 Less 70% to be kept in EEFC a/c = S$ 105000
S$ 45000
Amount paid to the exporter at the rate of Rs. 27.24 per Singapore dollar
= 27.24 × 45000
= 12,25,800

c. Interest amount recovered = = Rs.23172.66.

Q. 11 An MNC based in Zurich Switzerland has identified surplus funds to the tune of CHF 5 million for three months. The
treasury manager has collected the following information from his banker to invest in any currency including home currency to
earn more interest without exposing the investment to exchange risk. For this purpose he proposes to cover the amounts under
forward rates.
Spot CHF / $ 1.2686 / 88
3 months 0.0060 / 0.0058
Spot €/£ 1.4986 / 88
3 months 0.0036 / 0.0038
Spot $/£ 1.8197 / 99
3 months 0.0025 / 0.0024
3 months interest rates (p.a.)
CHF : 1.2% – 1.8%
€: 2.00% – 2.6%
$: 3.00% – 3.6%
£: 4.00% – 4.6%

You are required to determine the currency in which the company should invest to earn more interest on the surplus funds.
Ans. The company can invest in home currency (CHF) at 1.2%, $ at 3%, £ at 4.00% and euro at 2% for 3 months.
(i) Investment in CHF

50,00,000 × = 50,15,000
Return after 3 months = 50,15,000 – 50,00,000 = CHF 15,000
(ii) Investment in $
Surplus of CHF 5000000 is to be converted into $ and is invested at 3%. The amount in $ is converted into CHF by
covering at 3 months forward rate.
CHF 5000000 converted into $ at 1.2688

Amount received in $ =
= $ 3940731.4
Invest at 3% for 3 months

= 3940731.40
= $ 3970286.89
Convert into CHF at forward buying rate of 1.2626 (1.2686 – 0.0060)
= 3970286.89 × 1.2626
= CHF 5012884.23
Return after 3 months = 5012884.23 – 5000000
 = CHF 12884.23
(iii) Investment in £
CHF / £ spot bid rate = 1.2686 × 1.8197 = 2.3085
CHF / £ spot ask rate = 1.2688 × 1.8199 = 2.3091
CHF / £ 3 months forward bid rate = 1.2626 × 1.8172 = 2.2944
CHF / £ 3 months forward ask rate = 1.2630 × 1.8175 = 2.2955
Surplus of CHF 5000000 is to be converted into £ at CHF / £ spot selling rate

Amount received in £ =
= £ 2165345.81

Invest at 4% for 3 months = 2165345.81

= £ 2186999.27
Convert into £ at 3 months forward buying rate of 2.2944 = 2186999.27 × 2.2944
= CHF 5017851.13
Return after 3 months = 5017851.13 – 5000000
= CHF 17851.13
(iv) Investment in euro

CHF / euro spot bid rate = 1.2686 × 1.8197 × = 1.5402

CHF / euro spot ask rate = 1.2688 × 1.8199 × = 1.5408

CHF / euro 3 months forward bid rate = 1.2626 × 1.8172 × = 1.5270

CHF / euro 3 months forward ask rate = 1.2630 × 1.8175 × = 1.5281

Surplus of CHF 5000000 is to be converted into euro and the amount is invested in euro at 2% for 3 months.
CHF 5000000 is converted into euro at CHF / euro spot selling rate

Euro received = = euro 3245067.50

Invest at 2% for 3 months = 3245067.50

= euro 3261292.84
Convert into CHF at 3 months forward buying rate of 1.5270
= 3261292.84 × 1.5270
= CHF 4979994.17
Return after 3 months = 5000000 – 4979994.17
= – 20005.83
The company should invest in £ to have more return on the investment.
Q. 12 Quality Textiles Ltd. exported readymade garments to Sweden on April 01, 2005 and the buyer agreed to settle the payment
on June 30, 2005. The amount of receivable is Skr 500,000.
On April 01, 2005 the exporter requested its banker in Mumbai to book a forward contract for delivery due on June 30, 2005.
Exchange rates in the local inter-bank market and Singapore market are quoted as under on April 01, 2005:
Mumbai Rs. / $ Spot 43.50 / 52
April 4 / 5 paise
May 8 / 9 paise
June 12 / 13 paise

Singapore Skr / $ Spot 7.6400 / 05

April 0.0100 / 0.0090
May 0.0200 / 0.0190
June 0.0300 / 0.0290
The bank booked the contract as requested by the exporter. Later the buyer raised a quality dispute and agreed to settle 80% of
the value of the shipment. The exporter had to concede the demand of the buyer and advised the banker to cancel the
remaining amount of the forward cover on the due date.
On June 30, 2005 the exporter received 80% of the value of the shipment from the buyer.
The following exchange rates prevailed in the markets on June 30, 2005:
Mumbai Rs. / $ Spot 43.25 / 27
Spot July 3 / 4 paise
Singapore Skr / $ Spot 7.6250 / 60
Spot July 0.0100 / 0.0110
Exchange margin required by the bank is 0.10% for buying as well as selling.
You are required to
(a) Compute the forward rate quoted by the bank on April 01, 2005.
(b) Calculate the cancellation charges payable/receivable to/from the exporter.
(c) Cash flows to the exporter on June 30, 2005.
(d) Effective exchange rate to the exporter.
Ans. a. The bank has to quote outright forward or fixed forward rate to the exporter as the foreign currency is to be delivered on
June 30, 2005.
Forward bid rate of Rs. / Skr :
Rs. / $ Spot buying rate 43.5
0
Add: Premium upto June 2005 0.12
43.6
2
Less: Exchange margin at 0.10% 0.04
43.5
8
Dollar is at discount against Swedish Kroner. Since the selling rate is being considered the forward margin for three
months will be taken.
Skr / $ Spot selling rate 7.6405
Less: Discount for three months 0.0290
7.6115
Forward buying rate for (Rs. /Skr)bid = (Rs. / $)bid × ($ / Skr) bid

= (Rs. / $)bid ×

= 43.58 ×
 = Rs. 5.7255
b. Cancellation charges
The exporter booked forward contract for Skr 500000. However the exporter received Skr 400000 on June 30, 2005.
Therefore the bank cancels the remaining amount of Skr 100000 on June 30, 2005 as requested by the exporter.
The forward purchase contract balance of Skr 100000 is cancelled at the ready TT selling rate on June 30, 2005
Rs. / $ Spot selling rate 43.2
7
Add: Exchange 0.04
margin
43.3
1
TT selling rate of Rs. / Skr : (Rs. / $)ask × ($ / Skr)ask

: (Rs. / $)ask ×

= 43.31 ×
= Rs. 5.68
Bank buys Skr from exporter at : 5.7255
Bank sells Skr to exporter under : 5.6800
cancellation
Exchange difference payable to exporter 0.0455
Amount payable under the contract
= 100000 × 0.0455
= Rs. 4,550
Exporter is paid Rs.4,450 after deducting Rs.100 towards flat charge for cancellation.
c. Cash flows to the exporter
400000 × 5.7255 = 22,90,20
0
Charges payable for = 4,450
cancellation
22,94,65
0

d. Effective exchange rate to the exporter = = Rs.5.7366

Q,13 A foreign institutional investor (FII) proposes to invest $ 5 million in an Indian security with a beta of 1.25 and standard
deviation of returns of 9%. The holding period of investment will be one year. The current rupee-dollar exchange rate is
Rs.43.50/$. The expected appreciation of rupee against dollar over the period is 2% with a standard deviation of 6%. The
expected return from the market portfolio in India is 16% and the correlation between the return on security and the exchange
rate is 0.66. The risk free rate of return in India is 5%.
You are required to calculate the expected return and risk for the FII.
Ans. Expected return from the security = Rf + β (Rm – Rf)
= 0.05 + 1.25 (0.16 – 0.05)
= 18.75%
Let the rupee-dollar exchange rate after one year will be ‘X’
 or

or or – 0.022989 = 0.00046
x = 42.647 say Rs. 42.65
If the FII invested $ 5 million in Indian security
Amount invested in rupees = 5 × 43.50 = Rs.217.50 million
The value of investment after one year = 217.50 × 1.1875 = Rs.258.28 million

∴ Value of investment in $ = = $ 6.0558 million

∴ $ return on investment = = 21.116%

Say 21.12%.
∴ Expected return to FII = 21.12%

Variance of returns = Var (rf) + Var ( ) + 2 Cov (rf, )

= (9)2 + (6)2 + 2 × 0.66 × 9 × 6
= 188.28 (%)2
Total risk of investment = 13.72%.