medium · FRM Part 1 Financial Markets and Products
A U.S. bank borrows 100 million JPY for one year at 1%, converts them to USD at a spot rate of 140.00, and invests them in U.S. Treasuries at 5%. To lock in an arbitrage profit, the bank must simultaneously:
- Sell JPY in the spot market again in one year.
- Increase the U.S. interest rate to 6% using interest rate swaps.
- Sell USD forward for JPY at a rate that is more depreciated than the parity forward rate.
- Buy JPY forward (sell USD forward) at a rate that allows for a repayment of the JPY loan plus interest.
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