ACCA Strategic Professional · Advanced Financial Management · Management of international trade and finance
Spot is EUR 1.1000 per GBP 1. Annual interest rates are 4% in the UK and 2% in the eurozone. Using interest rate parity, what is the approximate one-year forward rate (EUR per GBP, to four decimal places)?
The one-year forward rate is EUR 1.0788 per GBP. Interest rate parity multiplies spot by the ratio of the quoted currency's interest factor to the base currency's, 1.02 over 1.04, so sterling, with the higher interest rate, trades at a forward discount against the euro.
- A1.0788Correct
- B1.1000
- C1.1220
- D1.1212
Explanation
Forward = spot x (1 + eurozone rate)/(1 + UK rate) = 1.1000 x 1.02/1.04 = 1.0788. The currency with the higher interest rate (GBP) trades at a forward discount. The option 1.1212 inverts the ratio, which is the wrong direction.
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