What is the ONE forumula where the “unspoken rule” of keeping all your DC/FC all the same, is not true. for example IRP : F/S= domestic (DC) RF/Foreign (FC) RF if F and S are quoted in DC/FC and if you know which forumula I’m talking about, please explain why it is that way in layman terms if you can. I’m having trouble with the why part. Edit: I think there is only one situation where the DC/FC thing is reversed, but if there are others please list them also.
Asset market approach?
(DC/FC) real X rate / spot rate = (F price level) / (D price level) I think Here it is a bit intuitive, the more inflated your price at home (high D), the more DC you need to spend to buy FC (higher spot rate). Assuming of course real exchange rates remain constant
Real Fx(DC/FC) = Spot Fx * (P(FC)/ P(DC))
always right out the units when using the currencies - helps to prevent easy mistakes.
It depends how you present formulas… For example you could say: S0 / E(S1) = (1 + RF_FC) / (1 + RF_DC) Advice: ALWAYS use DC/FC (direct quotes) it is much simpler, less error prone. Then the quote is the “cost of the FC expressed in the DC”. Note that most of the FX formulas are somehow “similar” to the forward / future formulas: F = S0 * (1+r)^t.
yup you guys got it!