Foreign currency risk premium

CFA Level II
#1

A Japanese investor has a domestic currency risk-free rate of 4 percent. The risk free rate in the U.S. is 5 percent. The investor expects the Japanese currency (Yen$) to appreciate by 1 percent against the U.S. dollar ($). What is the foreign currency risk premium (FCRP)? I think the answer should be 2. Is this correct? appreciation - (interest rate differential) 1% - (4-5) =2%

#2

don’t think so. you’re a japanese investor, so usd is the foreign currency. so shouldn’t it be -1-(-1)? so 0?

#3

I get 0: -1 - (4-5) = 0

#4

Yeh, I got confused. Thanks.

#5

YES, to be more in detail… FCRP = FC appreciation/depreciation - (DC interest rate - FC interest rate)

#6

(E(S)-S) / S - (Rdc - Rfc) DC/FC -1% - (-1%) = 0

#7

I love when I get an answer in my head and then it goes along with everyone else. we are going to make this test our biatch

#8

i got 0… yes… finally i m getting something right

#9

i get 0 too. -1 - (4-5) from Yen point of view.

#10

I agree too, its 0 from yen perspective. How about from US perspective ? Will it be 0 or 1 ?

#11

in this case the investor is american FC yen appreciates 1% interest rate differential is (r - Rf) FCRP = 1% - (5-4) = 1 -1 = 0

#12

Simple, i think. If from Yen’ perspective its 0, from US perspetive its -0.

#13

yoooarr rait! cos da interest rate ( & inflation) differential are same.

#14

Now it makes perfect sense