Buckley: Multinational Finance Instructors Manual, 5th edn

SECTION THREE

FURTHER MULTIPLE CHOICE QUIZZES

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MULTIPLE CHOICE QUIZZES

A AND B

TO ACCOMPANY

TEST BANK ONE

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MULTIPLE CHOICE QUIZ A

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

Assume the bid rate for the Australian dollar against the US dollar is AUD1.6685 while the offer rate is AUD1.6695 at Bank A. The bid rate US dollar/Australian dollar is AUD1.6585 while the offer rate is AUD1.6595 at Bank B. Given this information, what would be your gain were you to use $1,000,000 to exploit the arbitrage opportunity? (a) (b) (c) (d) US$5,394 US$5,423 US$6,583 US$6,643

2.

A US firm which will need AUD5,000,000 in 90 days to make payment on imports from Australia and wishes to avoid foreign exchange risk might: (a) enter into a 90-day forward purchase contract of Australian dollars for US dollars (b) enter into a 90-day forward sale contract of Australian dollars for US dollars (c) (d) purchase Australian dollars 90 days from now at the spot rate sell Australian dollars 90 days from now at the spot rate

3.

Assume that the Eurodollar interest rate is 10% while the Eurosterling interest rate is 15%. If interest rate parity holds:

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(a)

British investors who invest in pounds will earn the same return as US investors who invest in the US dollar

(b)

US investors will earn a higher rate of return when using covered interest arbitrage than what they would earn in the domestic US money markets

(c) (d)

US investors will earn 15% if they invest in sterling covered forward US investors will earn approximately 10% whether they invest covered in sterling or invest in the Eurodollar

4.

The Fisher Effect suggests that should British investors expect a 5% rate of domestic inflation over one year, and a 2% rate of inflation in Japan, and require a 3% real return on investments for one year, the nominal interest rate on one-year UK government securities would (approximately) be: (a) (b) (c) (d) 2% 3% 5% 8%

5.

The following information is available: US $ deposit rate for 1 year US $ borrowing rate for 1 year Swiss franc deposit rate for 1 year Swiss franc borrowing rate for 1 year Swiss franc forward rate for 1 year Swiss franc spot rate = 11% = 12% = 8% = 10% = $.40 = $.39

A US exporter denominates its Swiss exports in Swiss francs and expects to receive CHF2,400,000 in 1 year. What will be the approximate value of these exports in 1 year in US dollars if the firm enters into a money market hedge?

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(a) (b) (c) (d)

US$954,336 US$960,000 US$936,000 US$944,509

6.

Suppose the following direct quotes are received for spot and one-month sterling in New York: 1.7475-85, 1.01-0.99 cpm. The outright one month forward quote for sterling is: (a) (b) (c) (d) 1.7576-86 1.7374-86 1.7575-82 1.7374-84

7.

That the difference in expected inflation rates in two countries equates with the difference between the spot and forward exchange rate (as indicated by the four way equivalence model) is termed: (a) (b) (c) (d) (e) interest rate parity the Fisher effect the international Fisher effect purchasing power parity none of the above is correct

8.

Which of the following correctly ends the sentence? When the exchange rate is expressed as a direct quote: (a) the price is given as the number of units of foreign currency necessary to buy one unit of home currency (b) the price is given as the number of units of home currency necessary to buy one unit of foreign currency

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(c) (d)

the forward rate is never given as an outright quote one needs information in addition to the direct quote to determine the exact exchange rate

9.

That the spot exchange rate should change in an approximately equal but opposite direction to the difference in interest rates (as indicated by the four way equivalence model) between two countries is called: (a) (b) (c) (d) (e) (f) interest rate parity covered interest arbitrage the Fisher effect the international Fisher effect expectations theory purchasing power parity

10.

Ceteris paribus, a countrys capital account balance would tend to: (a) (b) (c) weaken if the home currency weakened strengthen if the home currency is weakened strengthen if interest rates decrease in the home country and increase in other countries (d) strengthen if real interest rates in the home country fall

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MULTIPLE CHOICE QUIZ B

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

Assume that the New York indirect quotation for the Canadian dollar is 1.1860 and the New York direct quote for the Australian dollar is 0.6024. The value of the Australian dollar in terms of Canadian dollars is: (a) (b) (c) (d) about AUD1.9688 about AUD1.3997 about CAD1.3997 about AUD0.7144

2.

Assume that the interest rate for the euro is much higher than euro sterling interest rates. If interest rate parity holds, the euro: (a) (b) should exhibit a premium on the pound may be at a premium or a discount on the pound depending upon whether the market expects it to strengthen or weaken (c) will not be at a premium or discount because Britain is a member of the European Union and this will mean that the euro should be stable against the pound (d) should exhibit a discount on the pound

3.

Assume interest rate parity holds, the greater the extent to which a foreign interest rate exceeds the US dollar interest rate, then the:

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(a) (b) (c)

larger will be the forward discount of the foreign currency on the dollar larger will be the forward premium of the foreign currency on the dollar smaller will be the forward premium of the foreign currency on the dollar

(d)

smaller will be the forward discount of the foreign currency on the dollar

4.

Assume a home country and a foreign country. The International Fisher Effect suggests that: (a) (b) (c) the nominal interest rates of both countries should be the same the inflation rates of both countries should be the same the exchange rates of both countries will move in a similar direction against other currencies (d) neither (a), (b) nor (c) is correct

5.

According to the Fisher effect, if investors in all countries require the same real rate of return, the differential in nominal interest rates: (a) (b) (c) (d) indicates potential directions of movement of exchange rates is due to inflation differentials is due to different real interest rate requirements in different countries is constant over time

6.

According to the international Fisher effect: (a) exchange rates move in accordance with income differentials between countries (b) interest rates move in accordance with income differentials between countries (c) exchange rates move in accordance with interest rate differentials between countries

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(d)

exchange rates move in accordance with risk differentials between countries

7.

If expected inflation is 20% and the real required return is 10%, then the Fisher effect suggests that the nominal interest rate should, without any approximations, equal: (a) (b) (c) (d) 30% 32% 22% neither (a), (b), nor (c)

8.

The spot rate for the US dollar versus the Australian dollar is AUD1.8685-95 and the three month forward points are quoted as 2.52-2.55 Australian cents. The difference between the spot and forward rates means that: (a) interest rates should be higher for Australian dollars than for US dollars (b) (c) (d) the Australian dollar will rise against the US dollar the Australian dollar will fall in value relative to the US dollar three month interest rates should be higher for US dollars than for Australian dollars

9.

When a foreign currency loan is less expensive than a local loan (after adjusting for the cost of forward cover), the making of such loans tends to ________ the particular foreign currency interest rates and ________ local interest rates: (a) (b) (c) (d) lower; raise raise; raise raise; lower lower; lower

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10.

Calculate the forward per annum premium or discount. The pound sterling is quoted against the US dollar at: spot = $1.8000; 3 months forward = $1.7800. (a) (b) (c) (d) (e) the $ is at an 11.11% premium the $ is at a 4.44% premium the $ is at a 4.44% discount the $ is at a 1.11% discount the $ is at an 11.11% discount

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MULTIPLE CHOICE QUIZZES

C AND D

TO ACCOMPANY

TEST BANK TWO

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MULTIPLE CHOICE QUIZ C

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

If a countrys government imposes a tariff on imported goods, that countrys current account balance will tend to _______ (assuming no retaliation by other governments) in the short run: (a) (b) (c) (d) decrease increase be unaffected none of the above is correct

2.

The J curve describes: (a) the long-term relationship between a countrys current account balance and its growth in gross national product (b) the short run tendency for a countrys balance of trade to deteriorate even while its currency is depreciating immediately thereafter (c) the tendency for exports initially to reduce the price of goods when their own currency appreciates (d) the tendency of a countrys currency initially to depreciate immediately following a decline in its inflation rate

3.

Ceteris paribus, a weaker pound sterling places _______ pressure on UK inflation, which in turn places _______ pressure on UK interest rates, which places _______ pressure on UK bond prices.

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(a) (b) (c) (d) (e)

upward; downward; upward upward; downward; downward upward; upward; downward downward; upward; upward downward; downward; upward

4.

Assume a depreciation of the home currency. Which of the following tactics creates benefits for a firm in the home country: (a) borrowing in a foreign currency and converting the funds to home currency prior to the depreciation (b) (c) purchasing foreign supplies rather than home produced goods borrowing in a foreign currency and not converting the funds to home currency prior to the depreciation (d) investing in foreign bank accounts denominated in foreign currencies prior to depreciation of the local currency

5.

Generally, companies with less foreign costs than foreign revenues will be _______ affected by a _______ foreign currency. (a) (b) (c) (d) favourably; stronger neutrally; stronger favourably; weaker neutrally; weaker

6.

It is generally least difficult to hedge effectively various types of: (a) (b) (c) (d) translation exposure transaction exposure economic exposure it is equally difficult to hedge all types of exposure

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7.

Which of the following is not true? (a) economic exposure may be partially managed by production and marketing adjustments (b) (c) (d) translation exposure may be fully covered in the forward market transaction exposure may be fully hedged in the forward market transaction exposure may be fully hedged in the money market

8.

What would be the amount of the exchange gain or loss in the following situation? The exchange rate changes from 1 peso = $1 to half a peso = $1. Translate according to the current rate approach. Pesos Equity capital Reserves Non-current debt Current payables 950 900 600 300 2,750 (a) (b) (c) (d) (e) $1,850 gain $1,850 loss $925 gain $925 loss none of the above is correct Fixed assets Inventory Cash Pesos 1,500 350 900 2,750

9.

Assume that movements of the British pound and the euro are highly correlated. A Japanese firm anticipates the equivalent of Yen 1 billion cash outflows in British pounds and the equivalent of Yen 4 billion cash outflows in euros. During a _______ cycle against the euro, the unhedged Japanese firm is _______ affected by its exposure. (a) (b) strong Yen; favourably weak Yen; not

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(c) (d)

strong Yen; not weak Yen; favourably

10.

General Building Holdings Inc. (GBH) is a US-based multinational with net cash inflows of euros and net cash inflows of Ruritanian doppels (a fictitious country and currency). The euro and the doppel are highly negatively correlated in their movements. Black Stuff Inc. is another US-based multinational with the same exposure as GBH in euros and doppels, except that its doppels represent cash outflows. On the basis of these data, which firm has a higher exposure to exchange rate risk? (a) (b) (c) (d) GBH Black Stuff it depends which way the currencies move both have the same exposures in aggregate

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MULTIPLE CHOICE QUIZ D

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

Ceteris paribus, an increase in the current account deficit will place _______ pressure on the home currency: (a) (b) (c) (d) upward downward no upward or downward (depending on the size of the deficit)

2.

Other things being equal, a weak pound is normally expected to cause pressure in terms of: (a) (b) (c) (d) increasing unemployment and increasing inflation in the UK increasing unemployment and depressing inflation in the UK depressing unemployment and depressing inflation in the UK depressing unemployment and increasing inflation in the UK

3.

A firm can effectively reduce its translation exposure by: (a) (b) transferring its foreign operations to one foreign country only increasing its export business whilst maintaining its subsidiary operations as they are (c) (d) increasing the sales volume of its subsidiaries none of the above effectively achieves a reduction in translation exposure

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4.

Hammett Spade Inc is a US-based multinational with net cash inflows in euros and net cash inflows of krone. These two currencies are highly correlated in their movements against the US dollar. Chandler Marlowe Inc is a US-based multinational that has the same level of net cash flows in euros and krone as Hammett Spade except that its euros represent net cash outflows. On the basis of these data, which firm has a higher exposure to exchange rate risk? (a) (b) (c) (d) Hammett Spade Chandler Marlowe both have the same level of exposure it depends which way the currencies move

5.

Gatsby, Fitzgerald, Jay and Scott Inc (GFJS) is a US alcoholic beverage and literary services conglomerate that has net inflows of Doppels 400 million and net outflows of krone 600 million. The present exchange rate of the US dollar to the Doppel is Doppel 1.67 while the present exchange rate, US dollar to the krone, is krone 5.67. GFJS has not hedged these exposures. The Doppel and the krone are fixed against each other. If the dollar weakens, then: (a) GFJS will benefit since the dollar value of its krone position exceeds the dollar value of its Doppel position (b) GFJS will be adversely affected since the dollar value of its Doppel position exceeds the dollar value of its krone position (c) GFJS will benefit since the dollar value of its Doppel position exceeds the dollar value of its krone position (d) GFJS will be adversely affected since the dollar value of its krone position exceeds the dollar value of its Doppel position

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6.

Assume the following information: I I I I I You have $1,000,000 to invest Current spot rate US dollar/pound = $1.70 Ninety day forward rate of pound = $1.67 Three month deposit rate in Eurodollar = 5% p.a. Three month deposit rate in Eurosterling = 10% p.a.

Using covered interest arbitrage for a ninety day investment, what will be the amount of US dollars you will have after ninety days? Ignore taxation. (a) (b) (c) (d) $1,043,413 $994,633 $1,050,000 $1,006,911

7.

Economic exposure: (a) (b) causes exchange rates to fluctuate relates to variations that a multinational company might experience affecting the value of an overseas subsidiary resulting from any kind of economic or political intervention on the part of a host government (c) (d) causes firms to report foreign exchange gains and losses is the possibility that the present value of future cash flows may change due to a change in foreign exchange rates or other government intervention

8.

Assume three countries, X, Y and Z. They produce goods that are perfect substitutes for each other. Assume also that countries X, Y and Z engage in trade with each other. Country Xs currency floats against Country Ys currency. Zs currency is pegged to Country Ys. If Xs currency depreciates against Ys then Xs exports to Z should _______, and Xs imports from Z should _______.

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(a) (b) (c) (d)

decrease; increase decrease; decrease increase; decrease increase; increase

9.

Assume that a US firm can invest funds for one year in dollars at 4% or invest funds in krone at 7%. The spot rate of the krone is $0.54 while the one year forward rate of the krone is $0.54. If firms attempt to use covered interest arbitrage, what effect should this have in terms of rates against the dollar? (a) (b) (c) (d) spot rate of krone strengthens, forward rate of krone weakens spot rate of krone weakens, forward rate of krone strengthens spot rate of krone weakens, forward rate of krone weakens spot rate of krone strengthens, forward rate of krone strengthens

10.

Which of the following is true of translation losses? (a) (b) (c) they result in long-term economic losses to the firm they show up in income statements according to FASB 8 and FASB 52 all translation losses represent extremely valuable information to the firms existing and prospective shareholders because they affect the present value of the firm (d) none of the above is correct

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MULTIPLE CHOICE QUIZZES

E, F AND G

TO ACCOMPANY

TEST BANK THREE

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MULTIPLE CHOICE QUIZ E

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

Should a US firm expect the pound sterling to depreciate substantially, it might speculate by _______ pound call options or _______ pounds forward. (a) (b) (c) (d) selling; selling selling; buying buying; buying buying; selling

2.

Ceteris paribus, the greater the volatility of a currency, the _______ will be the price of a call option for this currency, and the _______ will be the price of a put option for this currency. (a) (b) (c) (d) greater; lower lower; greater greater; greater lower; lower

3.

Ceteris paribus, which of the following is true for an exchange quoted option, US$ against another currency? (a) the longer the time to maturity, the lower is the value of a currency call option (b) the longer the time to maturity, the lower is the value of a currency put option

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(c)

the higher the spot rate relative to the strike price, the greater is the value of a currency put option

(d)

the lower the strike price relative to the spot rate, the greater is the value of a currency call option

4.

Assume zero transaction costs beyond the premium on the currency option. The premium on a pound put option is 3 cents per unit. The exercise price is $1.70. The breakeven point is _______ for the buyer of the put, and _______ for the seller of the put. Exclude time value of money effects. (a) (b) (c) (d) (e) (f) (g) (h) $1.73; $1.73 $1.73; $1.70 $1.73; $1.67 $1.67; $1.73 $1.57; $1.57 $1.70; $1.73 $1.70; $1.70 none of the above

5.

Imagine that you are a currency speculator. You sell an exchange traded call option on Swiss francs for a premium of 6 cents and an exercise price of $0.64. The option will not be exercised until the expiration date, if at all. If the spot rate of the Swiss franc is $0.69 on the expiration date, your net profit per unit is: (a) (b) (c) (d) (e) 2 cents loss 1 cent loss 1 cent profit 2 cents profit none of the above

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6.

A US based multinational is due to receive SFr10 million in thirty days. If the firm purchases a thirty day put option, what is the total dollar amount received after accounting for the option premium? Strike price = $0.64 Premium = 2 cents Spot rate at day 0 = $0.63 Spot rate at day 30 = $0.59 Thirty day forward rate = $0.65 (a) (b) (c) (d) (e) $6,600,000 $6,400,000 $6,300,000 $6,200,000 $5,800,000

7.

If the pound sterling appreciates against the US dollar whilst the Japanese yen depreciates against the US dollar, which of the following is true? (a) Japanese companies might increase profits from sales in the USA by shifting production from their UK subsidiaries to Japan (b) British companies might increase profits from sales in the USA by shifting production from their Japanese subsidiaries to the UK (c) American companies can increase profits from sales to Japan by shifting production from Japanese subsidiaries to US subsidiaries (d) Japanese companies might increase profits from sales in the USA by shifting production from their Japanese subsidiaries to the UK

8.

A UK exporter expects to receive payment from a foreign country in a foreign currency 90 days from the date of the transaction. The exporter might not cover the transaction in the forward market if:

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(a)

the foreign currency was expected to depreciate by an amount in excess of interest rate differentials against the pound within the period

(b)

the UK currency was expected to strengthen by an amount in excess of that implied by interest differentials

(c)

the foreign countrys government was expected to revalue its currency by an amount in excess of interest differentials during the 90 days

(d)

the foreign countrys balance of trade was expected to involve a big deficit

9.

If you were the treasurer of a foreign subsidiary and you expected the currency of that foreign country to devalue vis-a-vis the parents currency, which of the following actions would not be logical? (a) (b) (c) (d) remit dividends as quickly as possible speed up collection of local currency accounts receivable speed up payment of local currency accounts payable move to a net exposed liability position in local currency

10.

If you were the treasurer of a foreign subsidiary and you expected the currency of that foreign country to revalue vis-a-vis the parents currency, what action would you take? (a) (b) (c) remit dividends as quickly as possible move to a net exposed liability position in the host countrys currency adopt a lead policy for parent company payable balances denominated in the parent currency (d) none of the above because neither (a), (b) nor (c) is logical

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MULTIPLE CHOICE QUIZ F

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

If you have purchased _______, there is no obligation on your part. If you have purchased _______, there is an obligation on your part. (a) (b) (c) (d) call options; put options futures contracts; call options forward contracts; futures contracts put options; forward contracts

2.

If you expect the euro to depreciate against the US dollar, which of the following courses of action would be appropriate for speculation purposes? All options below have a strike price at todays spot. (a) (b) (c) (d) buy a euro call and buy a euro put buy a euro call and sell a euro put sell a euro call and sell a euro put sell a euro call and buy a euro put

3.

For a given currency and settlement date, the price of dollar futures with a settlement date six months from now will: (a) (b) (c) (d) definitely be above the six months forward rate definitely be below the six months forward rate be about the same as the existing spot rate be about the same as the six months forward rate

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4.

The spot rate for the US dollar against the Canadian dollar is USD0.82. The premium for a Canadian dollar call option with a strike price of USD0.81 is 4 US cents. The option may be exercised on the expiration date only. If the spot rate on the expiration date is USD0.87, the profit net of the premium as a per cent of the premium paid is: (a) (b) (c) (d) (e) 0 per cent 25 per cent 50 per cent 150 per cent none of the above

5.

As a speculator, you sell a put option on Canadian dollars with an exercise price of US$0.86 for a premium of 3 US cents. The option may only be exercised on the expiration date. If the spot rate of the Canadian dollar is US$0.78 on expiration, your net profit per unit would, after accounting for the premium, be: (a) (b) (c) (d) (e) (f) 8 cents loss 3 cents loss 5 cents profit 8 cents profit 5 cents loss 3 cents gain

6.

On 1 February a US based firm submits a euro denominated bid on a project in Italy. The contract will be awarded on 1 May of the same year. What is the most appropriate way for this contractor to manage the exchange risk on this bid? (a) (b) sell the euro amount of the bid forward for US dollars buy euros forward in the amount of the contract

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(c) (d)

buy a put option on euros in the amount of the contract sell a call option on euros in the amount of the contract

7.

Assume that a US exporter is selling merchandise to France for 1 million euros. Payment is denominated in EUR. The US dollar is expected to weaken against the euro by more than the amount embodied in the forward rate. Assuming that the EUR1 million is not covered forward, which of the following statements would be true? (a) the US exporter could lose on foreign exchange if the rate moves in the expected direction (b) the US exporter has no foreign exchange exposure because the export is denominated in euros and the purchaser is French (c) (d) the French importer is not protected from a transaction exposure the US exporter could gain on foreign exchange if the rate moves in the expected direction

8.

Assume that a US exporter is selling merchandise (all sourced in the USA) on credit to France for $10 million denominated in US dollars and that the euro is expected to strengthen (by a factor well in excess of interest differentials) against the US dollar during the credit period. If the exchange rate were to move as expected, which of the following statements would be true? (a) the US exporter might cover in the forward market to eliminate exposure to a foreign exchange risk (b) (c) the US exporter might raise prices to offset the potential exchange loss the French importer may lower his planned prices and still make his original expected pay-off (d) (e) the French importer is not exposed to a foreign exchange risk it would have been advisable, ex post, for the French importer to have bought dollars forward

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9.

Leads and lags are: (a) (b) used primarily to influence payment terms among related companies contractual clauses which require that customers prepay or delay payment of an invoice (c) (d) used to reduce taxable income and thereby minimise worldwide taxes a type of transfer pricing policy

10.

Currency futures contracts dealt on a futures exchange contain: (a) (b) a commitment to the owner, and are standardized a commitment to the owner, and may be tailored to the desire of the owner (c) a right but not an obligation, and may be tailored to the desire of the owner (d) a right but not an obligation, and are standardized

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MULTIPLE CHOICE QUIZ G

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

Ceteris paribus, the shorter the time to the expiration date for a currency option, the _______ will be the price of a call option, and the _______ will be the price of a put option. (a) (b) (c) (d) greater; greater greater; lower lower; lower lower; greater

2.

A firm sells a currency futures contract. Before the settlement date, it concludes that it no longer wishes to maintain such a position. It may close out its position by: (a) (b) (c) (d) (e) buying an identical futures contract selling an identical futures contract buying a futures contract with a different settlement date selling a futures contract for a different amount of currency buying a put option contract in the same currency for the same amount and maturity (f) buying a call option contract in the same currency for the same amount and maturity

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3.

Forward contracts contain: (a) (b) (c) an obligation on the owner, and are standardized an obligation on the owner, and may be tailored as desired a right but not an obligation on the owner, and may be tailored as desired (d) a right but not an obligation on the owner, and are standardized

4.

A US-based multinational buys a call option on sterling with an exercise price of $1.74 for a premium of 3 cents per unit. The option may only be exercised at expiration. If the spot rate at expiration is $1.75, the net profit per unit accruing to the US multinational is: (a) (b) (c) (d) 3 cents loss 2 cents loss 1 cent loss 2 cents profit

5.

American currency options can be exercised _______; European currency options can be exercised _______. (a) (b) (c) (d) any time up to the expiration date; any time up to the expiration date any time up to the expiration date; only on the expiration date only on the expiration date; only on the expiration date only on the expiration date; any time up to the expiration date

6.

Assume that a US corporation Diver Stahr Inc (DS) has a requirement for 2 million in three months time. A sterling call option with an exercise price of $1.78 and an expiration date in three months has a premium of 4 cents. A sterling put option with an exercise price of 1.78 and a three month expiration date has a premium of 3 cents. DS plans to use options to cover this exposure. The option may be exercised in 90 days only. DS expects the

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spot rate of the pound to be $1.88 in 90 days. What is DSs net amount required in dollars to meet its sterling need (inclusive of the option premium). (a) (b) (c) (d) (e) (f) $3,480,000 $3,500,000 $3,720,000 $3,620,000 $3,640,000 $3,760,000

7.

A Korean firm sells television sets to a Netherlands importer for ten billion won payable in ninety days. To protect against exchange risk, the importer might (a) borrow won now, convert to euros and lend euros for the ninety day period (b) (c) (d) sell won on the forward market for euros buy an OTC option to put won for euros none of the above

8.

Assume that a British exporter is selling goods sourced in the UK to Sweden with the price denominated and payable in 90 days in sterling. Neither exporter nor importer covers in the forward markets. Within the 90 days it is expected that the Swedish krona will strengthen against the pound by more than the figure embodied in the forward quote. According to this scenario, which of the following statements is not true? (a) (b) the British exporter is not exposed to transaction risk by not covering in the forward market, the Swedish importer could end up worse than he expected should the SKr/ exchange rate go the opposite way to that which is expected

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(c)

the Swedish importer may set lower prices for his end product compared with those based on covering forward and still get the same pay-off as that which was anticipated

(d) (e)

the Swedish importer is exposed to foreign exchange risk neither party is exposed to transaction risk because, according to the stated scenario, neither will be worse off as a result of currency movements

9.

A British importer is buying goods from Sweden. The goods are sourced entirely in Sweden and the Swedish manufacturer pays for them in Swedish krona. The denomination of payment for the export from Sweden to the UK is US dollars. The dollar is expected over the credit period to strengthen by more than the figure implied by interest rate differentials against both the pound and the Swedish krona but the SKr is anticipated to weaken by an amount in excess of interest differentials. Which of the following is not true? (a) (b) (c) the Swedish exporter carries exchange risk the British importer carries exchange risk if he does not cover, the Swedish exporter stands to gain because the Swedish krona is expected to be weaker than the dollar (d) if he does not cover, the British importer stands to gain because the pound is expected to be stronger than the Swedish krona (e) the logical tactic, given exchange rate expectations alone, would be for the Swedish exporter not to cover in the forward market and for the British importer to cover

10.

Which of the following is not true? (a) a UK company with a US $ receivable might cover it via a currency option under which the company would buy a sterling call option

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(b)

a UK company tenders for a US $ denominated contract under which it would be paid two years away. It would know whether it was awarded the contract in three months time. The British firm might cover by way of a three months sterling call option

(c)

OTC options cannot be arranged for those currencies for which there are no traded currency options quoted on one of the stock exchanges or financial futures exchanges

(d)

traded currency options are available for the euro against the US dollar

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MULTIPLE CHOICE QUIZZES

H AND I

TO ACCOMPANY

TEST BANK FIVE

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MULTIPLE CHOICE QUIZ H

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

The International Fisher Effect suggests (ignoring tax with the exception of (d) below) that: (a) in home currency terms, the effective yield on foreign securities should, on average, equal the yield on domestic securities (b) the effective yield on securities of high inflation countries is greater than the yield on domestic securities (c) if domestic income grows faster than foreign income, the effective yield on foreign securities is higher than domestic securities (d) only if foreign tax rates equal domestic tax rates will the exchange rate movements compensate for interest differentials

2.

Assume that a firm in the home country produces goods for which substitute goods are produced in all countries. Ceteris paribus, appreciation of the home currency should: (a) increase home sales because it reduces foreign competition in home markets (b) (c) (d) increase the firms exports denominated in the local currency increase returns accruing to the firms foreign bank deposits increase the firms cash outflow to pay for imported raw materials denominated in foreign currency (e) none of the above

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3.

Suppose subsidiary X sells goods worth 1 million monthly to subsidiary Y on credit terms of one month. A move in credit terms to four months will result in a once and for all shift in cash terms of: (a) (b) (c) (d) (e) 3 million from X to Y 3 million from Y to X 4 million from X to Y 4 million from Y to X none of the above

4.

The managers of an international bank are trying to determine the lowest average spread on the loan portfolio which is acceptable to them. Their target return on equity is 15% before tax. Equity is 6% of total assets. Loans average 80% of total assets while the remaining 20% of assets normally earn 0.25% above the cost of funds. Ignoring bad debts, what is the approximate required average spread on loans? (a) (b) (c) (d) (e) 0.75% 1.04% 1.06% 1.50% none of the above

5.

Other things being equal, a high home inflation rate relative to trading partners would tend to _______ the home countrys current account balance. A high growth in home country income levels relative to other countries would tend to _______ the home countrys current account balance, other things being equal. (a) (b) increase; increase increase; decrease

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(c) (d)

decrease; decrease decrease; increase

6.

Ceteris paribus, which of the following tactics creates benefits for a firm if there is an appreciation anticipated of the firms home currency? (a) borrowing in a foreign currency and converting the funds to the home currency prior to the appreciation (b) (c) (d) lagging dividends from foreign subsidiaries purchasing supplies locally rather than overseas exporting to foreign countries will become easier post appreciation

7.

A multinational company based in the Netherlands regularly has the equivalent of EUR15 million per annum cash outflows in each of two highly negatively correlated currencies. During cycles of euro _______, these cash outflows tend to be _______ in total: (a) (b) (c) (d) weakness, stable weakness, favourably affected weakness, adversely affected strength, adversely affected

8.

Under FASB 52: (a) (b) pure translation gains and losses are included in the income statement pure translation gains and losses are reported as movements in shareholders funds via the income statement (c) pure translation gains and losses are excluded from company accounts and balance sheets (d) pure translation gains and losses are shown as movements in shareholders funds without going through the income statement

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9.

If the home currency begins to appreciate against other currencies, this should _______ the current account balance, other things being equal. (a) (b) (c) (d) increase have no impact on reduce increase or decrease (depending on the degree of appreciation)

10.

Empirical tests indicate that purchasing power parity holds up well over the very long run: (a) but cannot be tested for periods when exchange rates have been free to fluctuate (b) (c) (d) (e) but not so well over shorter time horizons and even quite well for shorter time periods and is a good predictor of short run annual changes in exchange rates and is frequently used to aid the operation of covered interest arbitrage

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MULTIPLE CHOICE QUIZ I

STUDENTS NAME: ....................................................................................................

There is one right answer only to each question. Make only one choice of correct answer. You score +1 for each correct answer; minus 1/3 for each wrong answer and zero if you make no response.

1.

A multinational buys LDC debt at a discount in the secondary market and then trades it with the LDC government in exchange for local currency. This is an example of a: (a) (b) (c) (d) currency swap debt-equity swap interest rate swap back to back loan

2.

If a UK firm wished to lock in minimum proceeds from its Japanese yen receivables and wanted to capitalize if the yen were to appreciate substantially against the pound by the time payment arrives, the most appropriate hedge would be: (a) (b) (c) (d) (e) a forward sale of yen buying yen call options buying yen put options selling yen put options none of the above

3.

Assume that a US firm wishes to lock in the maximum dollar amount that it would have to pay in respect of euro payables but wanted to capitalize should

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the euro depreciate substantially against the US dollar by the time payment is due, the most appropriate and flexible hedge would be: (a) (b) (c) (d) (e) buying American style euro put options buying European style euro put options a forward purchase of euros buying European style euro call options buying American style euro call options

4.

Capital structures of foreign associate companies should: (a) be very similar to the parent companys capital structure since this will avoid the need for parent guarantees (b) conform to the standards of other multinationals operating in the country concerned (c) involve maximum debt because this will lower the weighted average cost of capital and thereby enhance shareholder value (d) (e) correlate highly with standards set by local companies be flexible with a view to taking advantage of opportunities to reduce risk and financing costs

5.

Which of the following statements is not true in respect of accounts prepared in inflationary environments? (a) (b) (c) assets carried at historic costs are understated in terms of current cost profits are understated if inventory is carried at historic cost use of replacement cost may offer one approach to accounting for inflation (d) in some countries, figures for plant and equipment are indexed on the balance sheet to reflect inflation (e) annual historic cost depreciation gives too low a figure for capital consumption

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6.

If a UK parent wishes to concentrate profits in the UK, it might: (a) set a high transfer price on merchandise shipped to the parent from a subsidiary (b) set a low transfer price on merchandise shipped to the parent from a subsidiary (c) set a low transfer price on merchandise shipped from the parent to the subsidiary (d) (e) adopt a policy of netting on intra-group balances adopt at least two of the above policies

7.

A firm in New Zealand has more revenues in foreign currency than it has expenses. If these items are left unhedged, the firm will _______ if the New Zealand dollar _______. (a) (b) gain; weakens be unaffected; weakens or strengthens because revenues and outgoings are accounting data and translation exposure does not matter in terms of shareholder value (c) (d) gain; strengthens none of the above

8.

An over-valued pound is normally expected to cause: (a) (b) (c) (d) increasing unemployment and high inflation in the UK increasing unemployment and low inflation in the UK falling unemployment and low inflation in the UK falling unemployment and high inflation in the UK

9.

Portfolios of investments in shares of large and well diversified British multinationals improve the risk-return profile in the same way that investment in foreign equities does. The statement is:

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(a) (b) (c) (d)

false accurate and empirically proven theoretically true, but empirically unproven true in theory and in practice

10.

An Australian firm has more outgoings in foreign currency than it has revenues. Ceteris paribus, the firm will _______ if the Australian dollar _______. (a) (b) (c) (d) (e) gain; weakens be unaffected; weakens be unaffected; strengthens gain; strengthens be unaffected; moves because outgoings and revenues are accounting data and translation exposure does not matter in terms of shareholder value

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ANSWERS TO FURTHER MULTIPLE CHOICE QUIZZES

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MULTIPLE CHOICE QUIZ ANSWERS

Quiz Number
A b a d d d* b e b d a B b d a d b c b a c b C b b c d a b b a a b D b d d a c d* d c a d E a c d e* c* d a c c d F d d d c* e* c d c a a G c a b b* b e d e d c H a e a c c a a d c b I b c e e b b a b c d

Question No.

1 2 3 4 5 6 7 8 9 10

* Indicates complicated answer see following page.

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ANSWER CLARIFICATIONS

QUIZ A No. 5

I I I I I I I

Borrow CHF2,181,818 (CHF2,400,000/1.1) Convert CHF2,181,818 to $850,909 (at $0.39 per mark) $850,909 to accumulate to $944,509 (at 11%)

QUIZ D No. 6

$1,000,000/1.70 = 588,235 1.025 = 602,941 1.67 = $1,006,911

QUIZ E No. 4

Break-even point on put option on both buyer and seller = $1.60 $0.03 = $1.57

QUIZ E No. 5

Profit per unit

= $0.64 + $0.06 $0.69 = $0.01

QUIZ F No. 4

Profit per unit

= $0.87 $0.81 $0.04 = $0.02

As a percentage of initial investment per unit =

0.02 0.04

= 50% I = $0.78 + $0.03 $0.86 = $0.05 I = $1.75 $1.74 $0.03 = $0.02

QUIZ F No. 5

Net profit

QUIZ G No. 4

Net profit

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