CFA curriculum volume 6 pg 521 8.c) …it says “Negative IRP means Forward Discount” 11.A)…it says “Positive IRP means Forward Premium” can any one explain above relation? thanks
I have yet to read PM but I am comfortable with these things from econ and derivatives… Without getting into the “wording” or negative IRP and positive IRP, cause i wonder if that would get confusing depending from which currency you are looking at it…? Just thing of this if euro is paying 5% rf, and USD is paying 6% risk free why the F is the USD paying more? these opportunities should not exist, and the explanation is that the USD is paying more because it is going to depreciate in value, and thus it is paying more to make up for that fact…thus the USD will trade at a forward discount… that is the answer from an econ expectations view etc… actually a better explanation is from an arbitrage view if the cost of 1$ today is 0.5 euro to sell you 1$ in a year i need to buy (1/1.06) $ today it will cost me 0.5 euro and i will want to earn 5% on those euros so the formulas becomes (0.5/1.06)*1.05 since your multiplying buy 1.05 and deviding by 1.06, the value must “shrink” to 0.495 if the price was higher than that in the future, i will sell the future and make money… i hope this is close to what you want…?