Investment Theory_UTS_Part II

Problem 1

Data Obtained and Information Given

es = 1/15714.18
ef = 1/15578
ee = 1/16657
ia = 0.05
a.0 = 100

Foreign equity portfolio is worth of

a1.0 = a.0 * es
a1.0

## [1] 0.006363679

Foreign equity portfolio is expected to be worth of

a1.1 = a1.0 * (1 + ia)
a1.1

## [1] 0.006681863

If hedges, total expected portfolio value in domestic currency

a.1 = a1.1/ef
a.1

## [1] 104.0901

The domestic currency expected return is therefore

expected.return = a.1/a.0 - 1
expected.return

## [1] 0.04090064

Not hedging would be

not.hedged = a1.1/ee
not.hedged

## [1] 111.2998

The domestic non-hedged expected return is therefore

er.nonhedged = not.hedged/a.0 - 1
er.nonhedged

## [1] 0.1129979

How “better of” is not hedging

better = er.nonhedged - expected.return
better

## [1] 0.0720973

Problem 2

Expected exchange rate for neutral risk investor

ia = 0.015
Es = 1/15714.18
Ef = 1/15578
Ee=function(ia,Es,Ef){
  Ee=(Es*(1+ia)*Ef)/(Es*(1+ia))
  return(Ee)
}
Ee(ia,Es,Ef)

## [1] 6.419309e-05

Ee = Ee(ia,Es,Ef)
fd = 0.0228

Domestic interest Rate

id=function(ia,Es,Ef){
  id=((Es*(1+ia)/Ef)-1)
  return(id)
}
id=id(ia,Es,Ef)
id

## [1] 0.006203951

Real interest rate domestic

real_d=function(id,fd){
  real_d= ((id-fd)/(1+fd))
  return(real_d)
}
real_d=real_d(id,fd)
real_d

## [1] -0.01622609

Foreign inflation rate

fa=function(Es,Ee,fd){
  fa=(((Ee/Es)*(1+fd))-1)
  return(fa)
}
fa=fa(Es,Ee,fd)
fa

## [1] 0.03174113

Foreign real interest rate

real_a=function(ia,fa){
  real_a= ((ia-fa)/(1+fa))
  return(real_a)
}
real_a(ia,fa)

## [1] -0.01622609