Suppose that, instead of funding the $200 million investment in 10 percent German loans with U.S. CDs, the FI manager in Problem 10 funds the German loans with $200 million equivalent one-year euro CDs at a rate of 7 percent. Now the balance sheet of the FI would be as follows: (LG 9-5)
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Assets
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Liabilities
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$300 million U.S. loans (6%)
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$300 million U.S. CDs (4%)
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$200 million German loans (10%) (loans made in euros)
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$200 million German CDs (7%) (deposits raised in euros)
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a. Calculate the return on the FI's investment portfolio, the average cost of funds, and the net interest margin for the FI if the spot foreign exchange rate falls to $1.15/€1 over the year.
b. Calculate the return on the FI's investment portfolio, the average cost of funds, and the net interest margin for the FI if the spot foreign exchange rate rises to $1.35/€1 over the year.
The promised one-year U.S. CD rate is 4 percent, to be paid in dollars at the end of the year; one-year, default risk-free loans in the United States are yielding 6 percent; and default risk-free one-year loans are yielding 10 percent in Germany. The exchange rate of dollars for euros at the beginning of the year is $1.25/£1.