Answer:
A) 10.82%
B) 5.27%
C) 8.56%
Explanation:
Given data :
North Bank Borrow ; $1.4 million at 5 percent
Lend in pounds at 9%
spread = ( 4% )
spot rate = 1.454
<u>A) Determine the loan rate to maintain the 4 percent spread</u>
Expected spot rate = 1.43
First step :
Lending amount = $1.4 million / initial spot rate = 1.4 / 1.454 = £ 0.9628 million
next :
calculate the final amount Required in $ to maintain 4% Spread
= principal ( $1.4 million ) + interest ( 9% of 1.4 ) = 1.4 + 0.126 = $1.526 million
In pound ( at the expected spot rate )
= 1.526 / 1.43 = £1.067 million
expected profit = £1.067 - £0.9628 = £ 0.1042 million
Therefore the interest rate tp maintain the 4 percent spread
= 0.1042 / 0.9628 = <em>10.82%</em>
B) <u>Determine the net interest margin if the bank hedges its forward foreign exchange exposure</u>
Forward rate = 1.46
assuming interest as value calculated above = ( 10.82% )
lending amount = £0.9628 million
Repayment = 0.9628 * 111% * 1.46 = $1.5603 million
therefore return rate = $1.5603 - $1.4 = $0.1603 million = 10.27%
hence : Net interest margin = 10.27% - 5% = 5.27%
<u> C) Determine the loan rate to maintain the 4 percent spread if the bank intends to hedge its exposure using the forward rates.</u>
Forward Hedging contract forward rate = 1.46
lending amount = $1.4 / 1.454 = £ 0.9628 million
Total Interest and Principal Repayment Required in $ to maintain 4% Spread = $1.526 million
In pound = 1.526 / 1.46 = £ 1.0452
Interest = £1.0452 - £0.9628 = £0.0824 million
therefore interest Rate to maintain 4℅ Spread
= ( 0.0824 / 0.9628 ) * 100 = 8.56%
