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1、International Aspects of Financial Management,Chapter 18,18.1,Key Concepts and Skills,Understand how exchange rates are quoted and what they mean Know the difference between spot and forward rates Understand purchasing power parity and interest rate parity and the implications for changes in exchang
2、e rates Understand the types of exchange rate risk and how it can be managed Understand the impact of political risk on international business investing,18.2,Chapter Outline,Terminology Foreign Exchange Markets and Exchange Rates Purchasing Power Parity Exchange Rates and Interest Rates Exchange Rat
3、e Risk Political Risk,18.3,Domestic Financial Management and International Financial Management,Considerations in International Financial Management Have to consider the effect of exchange rates when operating in more than one currency Have to consider the political risk associated with actions of f
4、oreign governments More financing opportunities when you consider the international capital markets and this may reduce the firms cost of capital,18.4,International Finance Terminology,American Depository Receipt (ADR) Cross-rate Eurobond Eurocurrency (Eurodollars) Foreign bonds Gilts London Interba
5、nk Offer Rate (LIBOR) Swaps,18.5,Global Capital Markets,The number of exchanges in foreign countries continues to increase, as does the liquidity on those exchanges Exchanges that allow for the flow of capital are extremely important to developing countries The United States has one of the most deve
6、loped capital markets in the world, but foreign markets are becoming more competitive and are often willing to try more innovative ways to do business,18.6,Work the Web Example,Thinking about going to Mexico for spring break or Japan for your summer vacation? How many pesos or yen can you get in exc
7、hange for $1000? Click on the web surfer to find out,18.7,Exchange Rates,The price of one countrys currency in terms of another Most currency is quoted in terms of dollars Consider the following quote: France (Franc) .1460 6.8479 The first number (.1460) is how many U.S. dollars it takes to buy 1 Fr
8、ench Franc The second number (6.8479) is how many French Francs it takes to buy $1 The two numbers are reciprocals of each other (1/6.8479 = .1460),18.8,Example: Exchange Rates,Suppose you have $10,000 . Based on the rates in Figure 18.1, how many Italian Lira can you buy? Exchange rate = 2021.37 Li
9、ra per U.S. dollar Buy 10,000(2021.37) = 20,213,700 Lira Suppose you are visiting London and you want to buy a souvenir that costs 1000 British pounds. How much does it cost in U.S. dollars? Exchange rate = .6669 pounds per dollar Cost = 1000 / .6669 = $1499.48,18.9,Example: Triangle Arbitrage,We ob
10、serve the following quotes 10.00 FF per $1 2.00 DM per $1 4.00 FF per DM What is the cross rate? (10.00 FF/$1) / (2.00 DM/$1) = 5 FF per DM We have $100 to invest; buy low, sell high Buy $100(10 FF/$1) = 1000 FF, use FF to buy DM Buy 1000FF / (4 FF/DM) = 250 DM, use DM to buy dollars Buy 250 DM / (2
11、 DM/$1) = $125 Make $25 risk-free,18.10,Transaction Terminology,Spot trade exchange currency immediately Spot rate the exchange rate for an immediate trade Forward trade agree today to exchange currency at some future date and some specified price (also called a forward contract) Forward rate the ex
12、change rate specified in the forward contract If the forward rate is higher than the spot rate, the foreign currency is selling at a premium (when quoted as $ equivalents) If the forward rate is lower than the spot rate, the foreign currency is selling at a discount,18.11,Absolute Purchasing Power P
13、arity,Price of an item is the same regardless of the currency used to purchase it Requirements for absolute PPP to hold Transaction costs are zero No barriers to trade (no taxes, tariffs, etc.) No difference in the commodity between locations Absolute PPP rarely holds in practice for many goods,18.1
14、2,Relative Purchasing Power Parity,Provides information about what causes changes in exchange rates The basic result is that exchange rates depend on relative inflation between countries E(St ) = S01 + (hFC hUS)t Because absolute PPP doesnt hold for many goods, we will focus on relative PPP from her
15、e on out,18.13,Example: PPP,Suppose the Canadian spot exchange rate is 1.4680 Canadian dollars per U.S. dollar. U.S. inflation is expected to be 3% per year and Canadian inflation is expected to be 2%. Do you expect the U.S. dollar to appreciate or depreciate relative to the Canadian dollar? Since i
16、nflation is higher in the US, we would expect the US dollar to depreciate relative to the Canadian dollar. What is the expected exchange in one year? E(S1) = 1.46801 + (.02 - .03)1 = 1.4533,18.14,Covered Interest Arbitrage,Examine the relationship between spot rates, forward rates and nominal rates between countries Again, the formulas will assume that the exchange rates are quoted in terms of foreign currency per U.S. dollar The U.S. risk-free rate is assumed to be the T-bill r
