Question

Intro Suppose that the current exchange rate is $1.3 per Euro. The Euro yield curve is flat at 2.6% and the U.S yield curve is flat at 3.7%.

Answer 1

1.

1-year forward exchange rate (in USD per EUR) = Spot rate * (1 + U.S yield) / (1 + Euro yield)

= $1.3 * (1 + 3.7%) / (2.6%)

= $1.3 * (1.037 / 1.026)

= $1.3 * 1.010721248

= 1.31 USD per EUR

1-year forward exchange rate (in USD per EUR) = 1.31 USD per EUR

2.

2-year forward exchange rate (in USD per EUR) = Spot rate * (1 + U.S yield)^2 / (1 + Euro yield)^2

= $1.3 * (1 + 3.7%)^2 / (2.6%)^2

= $1.3 * 1.021557

= 1.33 USD per EUR

2-year forward exchange rate (in USD per EUR) = 1.33 USD per EUR

3.
Swap rate = Spot rate * (1 + U.S yield)^2 / (1 + Euro yield)^2

= $1.3 * (1 + 3.7%)^2 / (2.6%)^2

= $1.3 * 1.021557

= 1.33 USD per EUR

Swap rate = 1.33 USD per EUR