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1. Gomez Electronics needs to arrange financing for its expansion program. Bank A offers to lend Gomez the required funds on a loan in which interest must be paid at the end of each month, and the stated nominal rate is 12.00% per year. Bank B offers to lend Gomez the required funds on a loan in which interest is continuously compounded and the stated nominal rate is 11.95% per year. Bank C offers to lend Gomez the required funds on a loan in which interest must be paid semi-annually, and the stated nominal rate is 12.10% per year.
From which of the 3 banks should Gomez obtain financing?
2. The interest rates in Canada and the United States are 6% and 5% per annum, respectively, with continuous compounding. The spot price of the Canadian dollar is $0.8000. The forward price for a contract deliverable in one year is $0.7900.
Does interest rate parity exist? If it does exist, then show why it exists. If interest rate parity does not exist, then show whether covered interest arbitrage is possible for Canadians or Americans. If covered interest arbitrage is possible, what is the annual rate of return with continuous compounding?
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