Copenhagen Covered (B). Heidi Høi Jensen, a foreign exchange trader at J.P. Morg

Question

Copenhagen Covered (B). Heidi Høi Jensen, a foreign exchange trader at J.P. Morgan Chase, can invest $5 million, or the foreign currency equivalent of the bank's short term funds, in a covered interest arbitrage with Denmark. She is now evaluating the arbitrage profit potential in the same market after interest rates change. (Note that anytime the difference in interest rates does not exactly equal the forward premium, it must be possible to make CIA profit one way or another.)

Arbitrage funds available $ 5,000,000

Spot exchange rate (kr/$) 6.1720

3-month forward rate (kr/$) 6.1980

U.S. dollar annual interest rate 4.000 %

Danish krone annual interest rate 5.000 %

A. The CIA profit potential is -0.678% and Heidid should borrow Danish krone and invest in the lower rate currency, the dollar.

B. The CIA profit amount is kr___

I figured out A but I need help solving B. Thank you.

Explanation / Answer

So the funds available are invested in dollar Equivelent Danish Krone =5000000*6.172                                   30,860,000 Amount payable in Danish after 3 months =30860000*(1+(5%*3/12))                                   31,245,750 This is invested in USD so amount after 3 months =5000000*(1+(4%*3/12))                                     5,050,000 Amount converted back to Danish Krone =5,050,000*6.198                                   31,299,900 So this way there will be Gain                                           54,150

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