CFA Level 2 - Economics Session 4 - Reading 18 Currency Exchange Rates - LOS f

CFA Level 2 – Economics, Session 4 – Reading 18

Currency Exchange Rates – LOS f

(Practice Questions, Sample Questions)

1. The three-month forward rate for the Byzantine solidus (BYZ) against the Venetian ducat (VEN) is quoted as BYZ:VEN 11.98 – 12.03. The bid-ask spread on the direct quote to a Byzantine investor is closest to:

A) BYZ:VEN 0.0500

B) VEN:BYZ 0.0500

C) VEN:BYZ 0.0003

Explanation — C: The direct quote for a Byzantine investor is VEN:BYZ. The bid and ask quotes are 1 / 11.98 = VEN:BYZ 0.

0834 and 1 / 12.03 = VEN:BYZ 0.0831. The spread is 0.0834 ? 0.0831 = VEN:BYZ 0.0003

2. Assume that the GBP:USD six-month forward rate is quoted at a bid of 1.72546 and an ask of 1.72776. What is the spread on the indirect quote for a U.S. dealer?

A) GBP:USD 0.000772

B) GBP:USD 0.002300

C) USD:GBP 0.000772

Explanation — C: For an indirect quote, the bid and ask prices must be converted to USD:GBP. This is accomplished by taking the reciprocal of each and then subtracting the bid from the ask price.

1 / 1.72546 = USD:GBP 0.579556

1 / 1.72776 = USD:GBP 0.578784

The spread is 0.578784 ? 0.579556 = USD:GBP 0.000772

3. Which of the following statements best describes a six month forward foreign currency spread? The six month forward foreign currency spread:

A) is the same as the spot spread.

B) tends to be larger than the spot spread.

C) tends to be smaller than the spot spread

Explanation — B: The forward foreign currency spreads tend to be larger than the spot spreads

4. An American wants to buy six cases of champagne. Each case costs 390 SEK. If the USD:SEK exchange rate is 6.
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   90, what is the USD cost of the champagne?

A) USD 2,340.00.

B) USD 339.13.

C) USD 56.52

Explanation — B: Total SEK cost = 390 × 6 = 2,340 SEK. Invert the quote = 1 / 6.9 = SEK:USD 0.1449 .

Total dollar cost = SEK:USD 0.1449 × 2,340 SEK = USD 339.13

5. In an attempt to reduce her inventory, a dealer holding excess foreign currency should:

A) move the midpoint of her direct quote down.

B) move the midpoint of her direct quote up.

C) quote a narrower bid-ask spread.

Explanation — A: To reduce inventory, a dealer holding excess foreign currency should move the midpoint of her direct quote down. If the dealer narrows the spread, her bid price would rise at a time when she does not want to buy

6. If the liquidity on a foreign currency forward contract decreases, the direct quote:

A) and the indirect quote spreads will widen.

B) spread will narrow and the indirect quote spread will widen.

C) spread will widen and the indirect quote spread will narrow

Explanation — A: Both the direct quote and the indirect quote spreads will widen as the liquidity on a foreign currency forward decreases