Question 5
James Zhang, a foreign exchange trader at J. P Morgan Chase, can borrow USD800,000, or its yen equivalent, in a covered interest arbitrage between U.S. dollars and Japanese yen.
Spot exchange rate: JPY124/USD Six-month forward exchange rate: JPY123/USD
180-day USD interest rate: 1.5% 180-day JPY interest rate: 0.5%
Assume that there is no transaction cost. Explain the specific steps James must take and calculate the profit in U.S. dollar from the covered interest arbitrage.
Calculation &Conclusion:
Time = 0
1)
2)
3)
4)
Time = 1
1)
2)
3)
Profit in U.S.dollar