The Logic and Practice of Financial Management - Essay Example

Yes as the covered arbitrage would certainly be possible for a Moroccan investor, as they would convert the dirham to dollars, invest the dollars at the US rate of 1% and thereafter sell the dollars forward 60 days. Even if the interest rate earned by a Moroccan investor would lower in the US by 1%, the forward discount of the dirham more than compensates the difference.

Question 2

 Latin American countries characteristically have high inflation rates, with some countries having as many as three-digit percentages. In fact, in the 70-year history of Argentina, the country averaged more than 200 percent inflation rate, Brazil, on the other hand, averaged 390 percent from 1980, and attained a high of 6821 in the first quarter of this year. Venezuela's rates are very high, a rate of 63.4 percent. The concept of Purchasing power parity (PPP) would imply that the currencies of these countries shall depreciate compared to the United States dollar to consolidate the purchasing power across the countries. According to Keown, Martin & Petty (2008), PPP reflects the relative value of purchasing a product in one county versus another. A high inflation rate has the effect of making their exports cheap while making imports expensive, thereby discouraging demand for Latin American imports and forcing downward pressure on their Latin American currencies. Depreciation of the currencies compensates for the rising prices of Latin American exports when viewed by imports from the US and other countries.
Interest rate parity exacts pressure on the forward rates to contain a large discount as a result of the high-interest rate prevailing in Latin America, which shows a snag in hedging Latin American currencies. Hence, the option to hedge bears more sensibility if the expected rate of depreciation exceeds more than the forward rate. It is also important to factor in that certain remittances cannot be hedged anyway as a result of the value of uncertainty in future remittances

Question 3

a). If the forward rate is used as a market-based forecast, will this rate result in a forecast of appreciation, depreciation, or no change in any particular Latin American currency?   Explain. 

The forward rate of a Latin American currency would have a big discount; as a result, the Latin American interest rate would be higher than that of the US. The discount operates as the prediction of the rate of change in the value of the Latin American currency given a lengthy period, which I represented by the forward contact period.

b). If technical forecasting is used, will this result in a forecast of appreciation, depreciation, or no change in the value of a specific Latin American currency?  Explain.

The technical prediction would result in a forecast of depreciation because Latin American currency has been devalued consistently in the past and most complex methods would use the past trends for the future.

c). Do you think that U.S. firms can accurately forecast the future values of Latin American currencies?  Explain.

The US firms cannot forecast accurately the values of Latin American currency due to several reasons, but basically, the Currencies are very volatile to the effect that the US Multinational firms can have problems forecasting the values of currencies of developed countries. The rates change in response to not only economic conditions, but political temperatures have been known to affect the value, and are so volatile that it would be impossible to anticipate.