Yazoo Inc. is a U.S. firm that has substantial international business in Japan a
ID: 2796657 • Letter: Y
Question
Yazoo Inc. is a U.S. firm that has substantial international business in Japan and has cash inflows in Japanese yen. The spot rate of the yen today is $.01. The yen exchange rate was $.009 three months ago, $.0092 two months ago, and $.0096 one month ago. Yazoo uses today’s spot rate of the yen as its forecast of the spot rate in one month. However, it wants to determine the Maximum expected percentage decline in the value of the Japanese yen in one month based on the value at risk (VAR) method and a 95 percent probability. Use the exchange rate information provided to derive the maximum expected decline in the yen over the next month.
Explanation / Answer
An exchange rate is the price of a nation’s currency in terms of another currency. Therefore an exchange rate has two components, the domestic currency and a foreign currency and can be quoted either directly or indirectly. In a direct quotation, the price of a unit of foreign currency is expressed in terms of the domestic currency.
Value at risk (VAR) is a statistical technique used to measure and quantify the level of financial risk within a firm or investment portfolio over a specific time frame. This metric is most commonly used by investment and commercial banks to determine the extent and occurrence ratio of potential losses in their institutional portfolios. VAR calculations can be applied to specific positions or portfolios as a whole or to measure firm-wide risk exposure.
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