Did anybody find the practice problems in the CFA book for this chapter ridiculous? I use to think of these type of questions as easy, but the way they present them, with this crazy process of first finding # of contracts, then PVing that back to find out how much to invest in the RF asset, then incorporating dividend yields and finding out how many effective shares you’ve purchased… my brain is exploding. I do not remember seeing this type of shit anywhere else but the back of this chapter… usually they just want me to tell how many contracts to buy/sell.
Also… quick basic question but the theory is annoying me Page 325 of volume 5 – #8
It’s one of those “hedge or not hedge” questions and gives you both inflation rates and interest rates for one year. The answer says you should hedge based on the interest rate differential implying a larger appreciation than you expect in the market, which is all good, but what I don’t quite get is that since they provided inflation in the table, couldn’t we argue that USA actually has a higher real interest rate and therefore should appreciate vs depreciate? It’s been a while since L2 but isn’t one of the tenets of covered IRP that it assumes real rates are equal so that nominal rate differentials are explained by inflation?
This Shit is inside the blue book examples in the chapter. Look at Example 4. Pg 359.
Exhibit 4 - is a white example. Exhibit 5 and Example 5 are other examples.
Did anybody find the practice problems in the CFA book for this chapter ridiculous? I use to think of these type of questions as easy, but the way they present them, with this crazy process of first finding # of contracts, then PVing that back to find out how much to invest in the RF asset, then incorporating dividend yields and finding out how many effective shares you’ve purchased…… my brain is exploding. I do not remember seeing this type of shit anywhere else but the back of this chapter…. usually they just want me to tell how many contracts to buy/sell.
They can’t be assuming PPP because they use the nominal rate differential and not just the inflation differential to calculate whether or not to hedge. They completely ignore the inflation information. It seems wrong to me because it adds an element of uncertainty where you can discern real interest rates are higher for the U.S. which then makes an otherwise easy question ambiguous due to the chance that U.S. could actually appreciate…
I guess I can figure out what they are trying to get at (and failing) and just leave it at that.
I’ll take a look at those examples, but honestly I think those are good “punt” candidates along with the 2 bond hedge and cash and carry
Fair enough, maybe I won’t punt that. But cash and carry and two bond hedge are out!
Sometimes when you have made your mind up that something is too difficult, it becomes too difficult, even if in reality it isn’t. I am just totally burned out on this damn test, I actually truly believe I am getting dumber every day.
Cash and Carry (C&C) stuff gets easier if you put it in this context:
No Arb range is:
Se^[(r+l-c)t] <= f <= Se^[(r+l)t]
And remember these points:
First equation is with convenience yield (which reduces the fwd price) last equation is without convenience yield.
If f is less than lower equation then buy fwd, and sell spot ( basically if you can buy the fwd for less than it is reasonably worth than buy it!) this is a Reverse C&C.
If f is greater than higher equation then sell fwd, and buy spot. this is a C&C.
Storage Costs (l) = -Lease Rate
If you do a couple problem withs this in mind you should have a good grasp of most of what they will throw at you on the test. (that’s my theory anyway)
