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FIN4802: International Financial Management
May/June 2025 & May/June 2023 — Exam Revision Guide
⋆ ⋄ ⋆ ⋄ ⋆ ⋄ ⋆ ⋄ ⋆
Finance, Risk Management & Banking
■ Exam Revision Guide
FIN4802
Module Code:
International Financial Management
Module Name:
May/June 2025 & May/June 2023
Papers:
100 (per paper)
Total Marks:
Work through every answer carefully. Understand the method, not just the result.
Exam Revision Notes | FIN4802 | 2025/2023
,FIN4802 | Exam Revision International Financial Management
PAPER 1: MAY/JUNE 2025 EXAMINATION
Examiners: Dr NZ Mabandla, Prof K Tsaurai, Prof HP Wolmarans
Total Marks: 100 | Duration: 3 hours | Date: 15 May 2025
Page 2 of 39 ⋆
,FIN4802 | Exam Revision International Financial Management
Question 1 [25 marks]
(a) [8 marks]
Question: Charles Naidoo is a foreign exchange trader with Citibank Johannesburg. He
observes the following quotes:
Spot exchange rate: ZAR 18.5000/USD
1-year forward exchange rate: ZAR 19.4250/USD
1-year South African interest rate: 8.50% per annum
1-year US interest rate: 3.50% per annum
(i) Using Interest Rate Parity (IRP), calculate the theoretical 1-year forward exchange
rate. (4)
(ii) Determine whether IRP holds. If not, explain whether covered interest arbitrage is
possible and describe the steps required. (4)
Answer: (i) Theoretical Forward Rate using IRP
[Key Concept]
Covered Interest Rate Parity (CIRP) states:
1 + id
F =S×
1 + if
where F = forward rate, S = spot rate, id = domestic interest rate, if = foreign
interest rate.
Applying the formula (ZAR is domestic, USD is foreign):
1 + 0.085 1.085
F = 18.5000 × = 18.5000 ×
1 + 0.035 1.035
F = 18.5000 × 1.04831 = ZAR 19.3937/USD
(ii) Does IRP Hold?
The quoted forward rate is ZAR 19.4250/USD, but the theoretical forward rate is
ZAR 19.3937/USD. They differ, so IRP does not hold.
Since the quoted forward rate (19.4250) is higher than the theoretical (19.3937), the
ZAR is overpriced in the forward market relative to what IRP predicts. A covered
Page 3 of 39 ⋆
, FIN4802 | Exam Revision International Financial Management
interest arbitrage opportunity exists.
Arbitrage steps (starting from ZAR):
1. Borrow ZAR at 8.50% (say ZAR 1,000,000).
2. Convert spot to USD: 1,000,000/18.50 = $54,054.05.
3. Invest USD at 3.50% for one year: 54,054.05 × 1.035 = $55,945.94.
4. Sell USD forward at ZAR 19.4250: 55,945.94 × 19.4250 = ZAR 1,086,712.80.
5. Repay ZAR loan: 1,000,000 × 1.085 = ZAR 1,085,000.
6. Arbitrage profit = 1,086,712.80 − 1,085,000 = ZAR 1,712.80 per R1 million bor-
rowed.
[Exam Tip]
Always show the theoretical forward rate calculation first, compare it to the
quoted rate, then describe arbitrage. The marker expects all three components for
full marks.
(b) [8 marks]
Question: Explain the concept of Purchasing Power Parity (PPP) and distinguish be-
tween absolute PPP and relative PPP. Using the following data, determine the expected
spot rate in one year according to relative PPP:
Current spot rate: ZAR 18.50/USD
South African expected inflation: 6.0%
US expected inflation: 2.5%
Answer:
[Key Concept]
Purchasing Power Parity (PPP) is an exchange rate theory stating that
exchange rates adjust to reflect differences in price levels (inflation) between coun-
tries, so the real purchasing power of a currency remains equal across borders.
Absolute PPP holds that the same basket of goods should cost the same in all coun-
tries when expressed in a common currency. In practice, transaction costs, tariffs and
Page 4 of 39 ⋆
]]
FIN4802: International Financial Management
May/June 2025 & May/June 2023 — Exam Revision Guide
⋆ ⋄ ⋆ ⋄ ⋆ ⋄ ⋆ ⋄ ⋆
Finance, Risk Management & Banking
■ Exam Revision Guide
FIN4802
Module Code:
International Financial Management
Module Name:
May/June 2025 & May/June 2023
Papers:
100 (per paper)
Total Marks:
Work through every answer carefully. Understand the method, not just the result.
Exam Revision Notes | FIN4802 | 2025/2023
,FIN4802 | Exam Revision International Financial Management
PAPER 1: MAY/JUNE 2025 EXAMINATION
Examiners: Dr NZ Mabandla, Prof K Tsaurai, Prof HP Wolmarans
Total Marks: 100 | Duration: 3 hours | Date: 15 May 2025
Page 2 of 39 ⋆
,FIN4802 | Exam Revision International Financial Management
Question 1 [25 marks]
(a) [8 marks]
Question: Charles Naidoo is a foreign exchange trader with Citibank Johannesburg. He
observes the following quotes:
Spot exchange rate: ZAR 18.5000/USD
1-year forward exchange rate: ZAR 19.4250/USD
1-year South African interest rate: 8.50% per annum
1-year US interest rate: 3.50% per annum
(i) Using Interest Rate Parity (IRP), calculate the theoretical 1-year forward exchange
rate. (4)
(ii) Determine whether IRP holds. If not, explain whether covered interest arbitrage is
possible and describe the steps required. (4)
Answer: (i) Theoretical Forward Rate using IRP
[Key Concept]
Covered Interest Rate Parity (CIRP) states:
1 + id
F =S×
1 + if
where F = forward rate, S = spot rate, id = domestic interest rate, if = foreign
interest rate.
Applying the formula (ZAR is domestic, USD is foreign):
1 + 0.085 1.085
F = 18.5000 × = 18.5000 ×
1 + 0.035 1.035
F = 18.5000 × 1.04831 = ZAR 19.3937/USD
(ii) Does IRP Hold?
The quoted forward rate is ZAR 19.4250/USD, but the theoretical forward rate is
ZAR 19.3937/USD. They differ, so IRP does not hold.
Since the quoted forward rate (19.4250) is higher than the theoretical (19.3937), the
ZAR is overpriced in the forward market relative to what IRP predicts. A covered
Page 3 of 39 ⋆
, FIN4802 | Exam Revision International Financial Management
interest arbitrage opportunity exists.
Arbitrage steps (starting from ZAR):
1. Borrow ZAR at 8.50% (say ZAR 1,000,000).
2. Convert spot to USD: 1,000,000/18.50 = $54,054.05.
3. Invest USD at 3.50% for one year: 54,054.05 × 1.035 = $55,945.94.
4. Sell USD forward at ZAR 19.4250: 55,945.94 × 19.4250 = ZAR 1,086,712.80.
5. Repay ZAR loan: 1,000,000 × 1.085 = ZAR 1,085,000.
6. Arbitrage profit = 1,086,712.80 − 1,085,000 = ZAR 1,712.80 per R1 million bor-
rowed.
[Exam Tip]
Always show the theoretical forward rate calculation first, compare it to the
quoted rate, then describe arbitrage. The marker expects all three components for
full marks.
(b) [8 marks]
Question: Explain the concept of Purchasing Power Parity (PPP) and distinguish be-
tween absolute PPP and relative PPP. Using the following data, determine the expected
spot rate in one year according to relative PPP:
Current spot rate: ZAR 18.50/USD
South African expected inflation: 6.0%
US expected inflation: 2.5%
Answer:
[Key Concept]
Purchasing Power Parity (PPP) is an exchange rate theory stating that
exchange rates adjust to reflect differences in price levels (inflation) between coun-
tries, so the real purchasing power of a currency remains equal across borders.
Absolute PPP holds that the same basket of goods should cost the same in all coun-
tries when expressed in a common currency. In practice, transaction costs, tariffs and
Page 4 of 39 ⋆
