Spot rate of £ = $1.596
Spot rate of Australian dollar (A$) = $.70
Cross exchange rate: £1 = A$2.28
One-year forward rate of A$ = $.71
One-year forward rate of £ = $1.58004
One-year U.S. interest rate = 8.00%
One-year British interest rate = 9.09%
One-year Australian interest rate = 7.00%
1) Determine whether triangular arbitrage is feasible, and if so, how it should be conducted to make a profit.
- Triangular arbitrage is not feasible because the cross exchange rate between £ and A$ is properly specified:
Proper cross exchange rate = spot rate of £/spot rate of A$ = $1.596/$.7 = 2.28
2) Using the information in question 1, determine whether covered interest arbitrage is feasible between Pound and US$, and between A$ and US$. Furthermore if so, how you should be conducted to make a profit and how much would you make with one million US dollars?