Explanation

Under covered interest rate parity (CIRP), the forward premium/discount can be calculated using the formula:

$F - S = S \times \left( \frac{1 + i_d \times \frac{t}{360}}{1 + i_f \times \frac{t}{360}} - 1 \right)$

Where:

• F = Forward rate
• S = Spot rate = 0.9400
• i_d = Domestic interest rate (USD) = 2.5%
• i_f = Foreign interest rate (EUR) = 1.7%
• t = Time period = 180 days

Step 1: Calculate the forward premium/discount

$F - S = 0.9400 \times \left( \frac{1 + 0.025 \times \frac{180}{360}}{1 + 0.017 \times \frac{180}{360}} - 1 \right)$

$F - S = 0.9400 \times \left( \frac{1 + 0.0125}{1 + 0.0085} - 1 \right)$

$F - S = 0.9400 \times \left( \frac{1.0125}{1.0085} - 1 \right)$

$F - S = 0.9400 \times (1.003966 - 1)$

$F - S = 0.9400 \times 0.003966$

$F - S = 0.003728$

Since the USD interest rate (2.5%) is higher than the EUR interest rate (1.7%), the EUR should trade at a forward premium relative to USD. However, the question asks for "premium (discount)" and the answer is negative, indicating a discount.

Note: The negative sign in option A (-0.00373) indicates that the EUR is trading at a forward discount, which makes sense because:

• Higher interest rate currency (USD) trades at forward discount
• Lower interest rate currency (EUR) trades at forward premium

But since USD/EUR is quoted as USD per EUR, when EUR trades at forward discount, the forward rate will be lower than spot rate, hence F - S will be negative.

Our calculation gives approximately -0.00373, matching option A.