Question

At the start of 1996, the annual interest rate was 6 percent in the United States and 2.8 percent in Japan. The exchange rate was 95 yen per dollar at the time. Mr. Jorus, who is the manager of a Bermuda-based hedge fund, thought that the substantial interest advantage associated with investing in the United States relative to investing in Japan was not likely to be offset by the decline of the dollar against the yen. He thus concluded that it might be a good idea to borrow in Japan and invest in the United States. At the start of 1996, in fact, he borrowed ¥1,000 million for one year and invested in the United States. At the end of 1996, the exchange rate became 105 yen per dollar. How much profit did Mr. Jorus make in dollar terms?

Answer 1

Mr. Jorus made a profit of approximately $498,538.01 in dollar terms.

Step-by-step explanation:

To calculate the profit Mr. Jorus made in dollar terms, we need to consider the change in the exchange rate.

At the start of 1996, Mr. Jorus borrowed ¥1,000 million at an exchange rate of 95 yen per dollar. So, he borrowed 10,526,315.79 or 10.53 million in dollar terms.

At the end of 1996, the exchange rate became 105 yen per dollar. So, the 10.53 million he borrowed is now worth 10,027,777.78 in dollar terms.

Therefore, the profit Mr. Jorus made in dollar terms is 10,027,777.78 - 10,526,315.79 = 498,538.01, or approximately $498,538.01.

Answer 2

Mr. Jorus did not make any profit in dollar terms. The appreciation of the yen against the dollar offset the interest advantage that he had from investing in the United States.

Step-by-step explanation:

To calculate the profit that Mr. Jorus made in dollar terms, we need to consider the change in exchange rate from the beginning of 1996 to the end of that year. At the start of 1996, the exchange rate was 95 yen per dollar, and at the end of 1996, it became 105 yen per dollar. It means that the yen appreciated against the dollar. Mr. Jorus borrowed ¥1,000 million and invested it in the United States when the exchange rate was 95 yen per dollar. With the appreciation of the yen, when he converted his investment back to yen at the end of the year, he would get more yen compared to what he borrowed. The profit can be calculated by subtracting the original loan amount in yen from the converted amount at the end of the year.

Let's do the calculation:

Original loan amount = ¥1,000 million

Exchange rate at the start of 1996 = 95 yen per dollar

Exchange rate at the end of 1996 = 105 yen per dollar

Amount in dollars at the end of 1996 = Original loan amount / Exchange rate at the start of 1996 = ¥1,000 million / 95 = $10.53 million

Profit in dollar terms = Amount in dollars at the end of 1996 - Original loan amount = $10.53 million - $10.53 million = $0 million

Therefore, Mr. Jorus did not make any profit in dollar terms. The appreciation of the yen against the dollar offset the interest advantage that he had from investing in the United States.