Module: | MODULE A: INTERNATIONAL BANKING
Q17: Read the following statements regarding the calculation and interpretation of forward margins in foreign exchange arithmetic. Identify the correct combination.
Statement 1. A foreign currency is said to be at a forward premium if its future delivery price is higher than its current spot delivery price.
Statement 2. The annualized forward premium percentage is calculated by dividing the forward margin by the spot rate, then multiplying the result by 12 over the number of forward months, and finally multiplying by 100.
Statement 3. If the spot rate for the US Dollar against the Indian Rupee is 83.00 and the one month forward rate is 82.50, the US Dollar is mathematically quoting at a forward premium.
Statement 2. The annualized forward premium percentage is calculated by dividing the forward margin by the spot rate, then multiplying the result by 12 over the number of forward months, and finally multiplying by 100.
Statement 3. If the spot rate for the US Dollar against the Indian Rupee is 83.00 and the one month forward rate is 82.50, the US Dollar is mathematically quoting at a forward premium.
✅ Correct Answer: A
🎯 Quick Answer:
Option A accurately identifies the correct statements because Statement III provides a mathematical example of a discount, not a premium.It reflects the interest rate differential between the two currencies involved.
Structural Breakdown: Statement I is correct.
When a currency is more expensive in the future than it is today, it is trading at a premium.
Conversely, if it is cheaper in the future, it is trading at a discount.
Statement II is correct.
This is the standard universal formula used by forex dealers to annualize a forward premium or discount for comparison against domestic interest rates.
It standardizes the time value of money.
Statement III is incorrect.
The spot rate is 83.00 and the future rate is lower at 82.50.
Because the US Dollar will be cheaper in the future, it is quoting at a forward discount of 0.50 Rupees, not a premium.
Historical and Related Context: According to the Interest Rate Parity theory, the currency of the country with the higher interest rate will typically trade at a forward discount against the currency of the country with the lower interest rate.