Japan investor invests in UK bond, bond return: 5% per year Spot exchange rate at beg: 200 Yen/pound spot exchange rate at end: 190 What is the ex post return from Japan investor’s perspective: post answer later.
I GUESS 5% + (190-200)/(200) = 0%
i did the same thing. answer is -0.25% 5%+(-0.05)x(1+0.05%)=-0.25% I have no clue why they did it this way.
You invest your money ($1.00) abroad in GBP. You earn Rf of 5% in GBP. You have $1.05 pounds after. You convert it back at a lower price. You are buying back Yen at 190 per GBP and not 200 per GBP. Therefore the total return will be 1. GBP % bond * 2. JPY decline in currency %. 1. (1 + 0.05) * (1 + (190-200)/200)= (1.05) * (0.95) = 0.9975. subtract 1 - 0.9975 = 0.0025% your return.
makes sense. except -0.25%. when do we use linear approximation and when do we do it like this? so inconsistent
Here is my take Jap guy sells Y200 to get GBP1 Invest GBP 1 for a year @ 5% to get GBP 1.05 Sell GBP 1.05 at year end spot rate to get 1.05*190 = Y199.5 Your return is Y199.5/Y200-1 = -0.25% prophets has the same answer but the owrong order Yo essential started with with 1GBP and end up with GBP 0.9975 so 0.9975 -1 = -.25% I prefer the logical route so I never get confused, its the same principal for all currency concepts Fwd, Future, Swaps, Eco and PM
-0.0025?
Convert 200 JPY to Pounds at 200 JPY/P = 1P invest at 5% for the period. Ending value = 1.05 Convert back at 190 JPY/P = 1.05*190 = 199.5 Return = 199.5/200 - 1 = -0.0025 = -0.25%