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MC Question 23
ZPS Co, whose home currency is the dollar, took out a fixed-interest peso bank loan several years ago when peso interest rates were relatively cheap compared to dollar interest rates. ZPS Co does not have any income in pesos. Economic difficulties have now increased peso interest rates while dollar interest rates have remained relatively stable.
ZPS Co must pay interest on the dates set by the bank. A payment of 5,000,000 pesos is due in six months’ time. The following information is available:
| Spot rate | 12·500–12·582 pesos per $ |
| Six-month forward rate | 12·805–12·889 pesos per $ |
| Borrow | Deposit | |
|---|---|---|
| Peso interest rates | 10·0% per year | 7·5% per year |
| Dollar interest rates | 4·5% per year | 3·5% per year |
What are the appropriate six-month interest rates for ZPS Co to use if the company hedges the peso payment using a money market hedge?
| Deposit rate | Borrowing rate | |
|---|---|---|
| A. | 7·5% | 4·5% |
| B. | 1·75% | 5·0% |
| C. | 3·75% | 2·25% |
| D. | 3·5% | 10·0% |