Spot versus forward speculation and hedging: A diagrammatic exposition |
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Authors: | Maurice Levi |
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Institution: | Faculty of Commerce and Business Administration, University of British Columbia, Vancouver, BC, V6T 1Y8, Canada |
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Abstract: | It has recently been recognized that the controversial implication of the Modern Theory of Forward Exchange, that the forward rate can differ from the rate required for interest parity, no longer holds when speculators are allowed to choose between spot and forward speculation. This paper shows this result within the diagrammatic apparatus usually used to describe the Modern Theory. The paper also shows the effect of importers and exporters choosing between spot and forward hedging. It is observed that when either speculators or traders can choose between money market and forward speculation/hedging, forward rates equal interest parity rates. The diagram can be adapted to consider borrowing-lending spreads etc. |
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