Covered interest arbitrage
A) Is a technique for earning a riskless profit without having to commit one's own money when purchasing power parity does not hold.
B) Involves borrowing one currency at that country's interest rate, converting the loan proceeds into another country's currency at the spot rate, and investing the proceeds at that country's interest rate. A forward contract is used to lock in the future exchange rate when one wants to reconvert the proceeds into the original currency for use in repaying the loan.
C) Requires that one have sufficient funds available from other sources to "cover" the amount of the transactions just in case the market turns around and exchange rates go against the arbitrageur before the position can be reversed.
D) All of the statements above are correct.
E) Only statements a and b are correct.

Question

Quizplus · Accepted Answer

Covered interest arbitrage involves borrowing in one currency, converting it, investing in another currency, and using a forward contract to hedge against exchange rate risk.

Covered Interest Arbitrage