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Q.4180 Suppose the market EUR/USD spot exchange rate is 1.3536 with a one-year forward rate of 1.3280. The market consists of a risk-free rate of 4% USD and 6% EUR per annum, respectively. Calculate the ratio of returns. | Financial Risk Manager Part 2 Quiz - LeetQuiz

Explanation:

The correct answer is B.

Covered interest rate parity is checked using the formula:

\frac{F}{S} = \frac{1 + r}{1 + r^*}

\Rightarrow \text{The ratio of returns} = \frac{1 + \text{Quote currency interest rate}}{1 + \text{Base currency interest rate}}

In this case, the quote currency rate is the US dollar interest rate, while the base currency rate is the EUR interest rate.

\frac{1 + 4\%}{1 + 6\%} = \frac{1 + 0.04}{1 + 0.06} = 0.9811

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