30. Refer to Exhibit 20-2. What is the expected effective financing rate of the portfolio Luzar is contemplating (assume the two currencies move independently from one another)?

a.	9.03%.
b.	7.00%.
c.	10.00%.
d.	7.59%.
e.	none of the above

ANS: A

Solution:

Step 1.	Determine effective financing rate for each currency under each possible scenario.
		Percentage
	Currency	Change	Probability	Effective Rate
	Canadian dollar	2.0%	30%	(1.06)(1.02) - 1 = 8.12%
	Canadian dollar	4.0%	70%	(1.06)(1.04) - 1 = 10.24%
	Japanese yen	-3.0%	60%	(1.10)( .97) - 1 = 6.70%
	Japanese yen	1.0%	40%	(1.10)(1.01) - 1 = 11.10%

Step 2.	Determine joint probabilities and effective financing rate of portfolio for each scenario.
	Canadian	Japanese	Joint	Portfolio
	Dollar	Yen	Probability	Effective Rate
	8.12%	6.70%	(.3)(.6) = .18	(.5)( 8.12%) + (.5)( 6.70%) = 7.41%
	8.12%	11.10%	(.3)(.4) = .12	(.5)( 8.12%) + (.5)(11.10%) = 9.61%
	10.24%	6.70%	(.7)(.6) = .42	(.5)(10.24%) + (.5)( 6.70%) = 8.47%
	10.24%	11.10%	(.7)(.4) = .28	(.5)(10.24%) + (.5)(11.10%) = 10.67%
			1.00

Step 3.	Determine effective financing rate of portfolio.
	(.18)(7.41%) + (.12)(9.61%) + (.42)(8.47%) + (.28)(10.67%) = 9.03%

PTS: 1

31. Refer to Exhibit 20-2. What is the probability that the financing rate of the two-currency portfolio is less than the domestic financing rate?

a.	12%.
b.	30%.
c.	100%.
d.	0%.
e.	none of the above

ANS: D

SOLUTION:

Since the domestic financing rate is 7%, the table above shows that there is no possibility that foreign financing with the portfolio of currencies is cheaper than domestic financing.

PTS: 1