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Indicate whether the statement is true or false.
1. Exchange rates one year in advance are typically forecasted with almost perfect accuracy for the major currencies, but
not for currencies of smaller countries.
a.
True
b.
False
2. MNCs can forecast exchange rate volatility to determine the potential range surrounding their exchange rate forecast.
a.
True
b.
False
3. In general, any key managerial decision that is based on forecasted exchange rates should rely completely on one
forecast rather than alternative exchange rate scenarios.
a.
True
b.
False
4. Corporations tend to make only limited use of technical forecasting because it typically focuses on the near future,
which is not very helpful for developing corporate policies.
a.
True
b.
False
5. If the pattern of currency values over time appears random, then technical forecasting is appropriate.
a.
True
b.
False
6. A motivation for forecasting exchange rate volatility is to obtain a range surrounding the forecast.
a.
True
b.
False
7. Usually, fundamental forecasting is used for short-term forecasts, while technical forecasting is used for longer-term
forecasts.
a.
True
b.
False
8. If the forward rate is used as an indicator of the future spot rate, the spot rate is expected to appreciate or depreciate by
the same amount as the forward premium or discount, respectively.
a.
True
b.
False
9. Inflation and interest rate differentials between the United States and foreign countries are examples of variables that
could be used in fundamental forecasting.
a.
True
b.
False
10. Foreign exchange markets appear to be strong-form efficient.
a.
True
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b.
False
11. If foreign exchange markets are weak-form efficient, then all relevant public and private information is already
reflected in today’s exchange rates.
a.
True
b.
False
12. Two methods for assessing exchange rate volatility are to use the volatility of historical exchange rate movements and
to derive the exchange rate’s implied standard deviation from the currency option pricing model.
a.
True
b.
False
13. The closer graphical points are to the perfect forecast line, the better the forecast.
a.
True
b.
False
14. When measuring a forecasting technique’s performance among different currencies, it is often useful to examine the
relative size of the discrepancies between the forecasted and realized values. Thus, percentages, rather than nominal
amounts, are often used to measure forecast errors.
a.
True
b.
False
15. If graphical points lie above the perfect forecast line, then the forecast overestimated the future value.
a.
True
b.
False
16. A regression analysis of the Australian dollar’s value on the inflation differential between the United States and
Australia produced a coefficient of .8. Thus, for every 1 percent increase in the inflation differential, the Australian dollar
is expected to depreciate by .8 percent.
a.
True
b.
False
17. Market-based forecasting involves the use of historical exchange rate data to predict future values.
a.
True
b.
False
18. The most sophisticated forecasting techniques provide consistently accurate forecasts.
a.
True
b.
False
19. In market-based forecasting, a forward rate quoted for a specific date in the future can be used as the forecasted spot
rate on that future date.
a.
True
b.
False
20. The ideal currency for short-term deposits by an MNC will exhibit a high interest rate and appreciate over the
investment period.
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a.
True
b.
False
21. Forecast errors tend to be large for short forecast horizons.
a.
True
b.
False
22. The potential forecast error is larger for currencies that are more volatile.
a.
True
b.
False
23. A forecast of a currency one year in advance is typically more accurate than a forecast one week in advance since the
currency reverts to equilibrium over a longer term period.
a.
True
b.
False
24. If points are scattered evenly on both sides of the perfect forecast line, then the forecast appears to be very accurate.
a.
True
b.
False
25. When a U.S.-based MNC wants to determine whether to establish a subsidiary in a foreign country, it will always
accept that project if the foreign currency is expected to appreciate.
a.
True
b.
False
26. If a foreign country’s interest rate is similar to the U.S. rate, the forward rate premium or discount will be close to zero,
meaning that the forward rate and the spot rate will provide similar forecasts.
a.
True
b.
False
27. Since the forward rate does not capture the nominal interest rate between two countries, it should provide a less
accurate forecast for currencies in high-inflation countries than the spot rate.
a.
True
b.
False
28. Market-based forecasting is based on fundamental relationships between economic variables and exchange rates.
a.
True
b.
False
29. Fundamental models examine moving averages over time and thus allow the development of a forecasting rule.
a.
True
b.
False
30. Different departments in an MNC should establish their own exchange rate forecasts because each department can
best determine the type of forecasts that it needs.
a.
True
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b.
False
31. Using the inflation differential between two countries to forecast their exchange rates is not always accurate because
of such factors as the uncertain timing of the impact of inflation and barriers to trade.
a.
True
b.
False
32. A forecasting technique based on fundamental relationships between economic variables and exchange rates, such as
inflation, is referred to as technical forecasting.
a.
True
b.
False
33. Research indicates that currency forecasting services almost always outperform forecasts based on the forward rate.
a.
True
b.
False
Indicate the answer choice that best completes the statement or answers the question.
34. Gamma Corp. has incurred large losses over the last ten years due to exchange rate fluctuations of the Egyptian pound
(EGP), even though the company has used a market-based forecast based on the forward rate. Consequently, management
believes its forecasts are biased. The following regression model was estimated to determine if the forecasts over the last
ten years were biased:
St = a0 + a1Ft – 1 +
t,
where St is the spot rate of the pound in year t and Ft − 1 is the forward rate of the pound in year t
−
Regression results reveal coefficients of a0 = 0 and a1 = 1.3. Thus, Gamma has reason to believe that its past forecasts
have ____ the realized spot rate.
a.
overestimated
b.
underestimated
c.
correctly estimated
d.
None of these are correct.
35. Which of the following forecasting techniques would be most likely to use relationships between economic factors
and exchange rate movements to forecast the future exchange rate?
a.
fundamental forecasting
b.
market-based forecasting
c.
technical forecasting
d.
mixed forecasting
36. Severus Co. has to pay 5 million Canadian dollars for supplies it recently received from Canada. Today, the Canadian
dollar has appreciated by 2 percent against the U.S. dollar. Severus has determined that whenever the Canadian dollar
appreciates against the U.S. dollar by more than 1 percent, it experiences a reversal of 40 percent of that change on the
following day. Based on this information, the Canadian dollar is expected to ____ tomorrow, and Severus would prefer to
make payment ____.
a.
depreciate by .8 percent; today
b.
depreciate by .8 percent; tomorrow
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c.
appreciate by .8 percent; today
d.
appreciate by .8 percent; tomorrow
37. Leila Corp. used the following regression model to determine if the forecasts over the last ten years were biased:
St = a0 + a1Ft – 1 +
t,
where St is the spot rate of the yen in year t and Ft – 1 is the forward rate of the yen in year t − 1. Regression results reveal
coefficients of a0 = 0 and a1 = .30. Thus, Leila Corp. has reason to believe that its past forecasts have ____ the realized
spot rate.
a.
overestimated
b.
underestimated
c.
correctly estimated
d.
None of these are correct.
38. According to the text, research generally supports ____ in foreign exchange markets.
a.
weak-form efficiency
b.
semistrong-form efficiency
c.
strong-form efficiency
d.
weak-form efficiency AND semistrong-form efficiency
e.
semistrong-form efficiency AND strong-form efficiency
39. If the forward rate is expected to be an unbiased estimate of the future spot rate, and interest rate parity holds, then:
a.
covered interest arbitrage is feasible.
b.
the international Fisher effect (IFE) is supported.
c.
the international Fisher effect (IFE) is refuted.
d.
the average absolute error from forecasting would equal zero.
40. Which of the following is not a method of forecasting exchange rate volatility?
a.
using the absolute forecast error as a percentage of the realized value
b.
using the volatility of historical exchange rate movements as a forecast for the future
c.
using a time series of volatility patterns in previous periods
d.
deriving the exchange rate’s implied standard deviation from the currency option pricing model
41. Which of the following forecasting techniques would be most likely to use today’s spot exchange rate of the euro to
forecast the euro’s future exchange rate?
a.
fundamental forecasting
b.
market-based forecasting
c.
technical forecasting
d.
mixed forecasting
42. If today’s exchange rate reflects any historical trends in Canadian dollar exchange rate movements, but not all relevant
public information, then the Canadian dollar market is:
a.
weak-form efficient.
b.
semistrong-form efficient.
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c.
strong-form efficient.
d.
All of these are correct.
43. Assume that the forward rate is used to forecast the spot rate. The forward rate of the Canadian dollar contains a 6
percent discount. Today’s spot rate of the Canadian dollar is $.80. The spot rate forecasted for one year ahead is:
a.
$.860.
b.
$.848.
c.
$.740.
d.
$.752.
e.
None of these are correct.
44. Assume that interest rate parity holds. The U.S. five-year interest rate is 5 percent annualized, and the Mexican five-
year interest rate is 8 percent annualized. Today’s spot rate of the Mexican peso is $.20. What is the approximate five-year
forecast of the peso’s spot rate if the five-year forward rate is used as a forecast?
a.
$.131
b.
$.226
c.
$.262
d.
$.140
e.
$.174
45. Purchasing power parity is used in:
a.
technical forecasting.
b.
fundamental forecasting.
c.
market-based accounting.
d.
All of these are correct.
46. If it was determined that the movement of exchange rates was not related to previous exchange rate values, this
implies that a ____ is not valuable for speculating on expected exchange rate movements.
a.
technical forecast technique
b.
fundamental forecast technique
c.
All of these are correct.
d.
None of these are correct.
47. Assume a forecasting model uses inflation differentials and interest rate differentials to forecast the exchange rate.
Assume the regression coefficient of the interest rate differential variable is −.5, and the coefficient of the inflation
differential variable is .4. Which of the following is true?
a.
The interest rate variable is inversely related to the exchange rate, and the inflation variable is directly
(positively) related to the interest rate variable.
b.
The interest rate variable is inversely related to the exchange rate, and the inflation variable is directly related
to the exchange rate.
c.
The interest rate variable is directly related to the exchange rate, and the inflation variable is directly related to
the exchange rate.
d.
The interest rate variable is directly related to the exchange rate, and the inflation variable is directly related to
the interest rate variable.
48. Which of the following is not a forecasting technique mentioned in your text?
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a.
accounting-based forecasting
b.
technical forecasting
c.
fundamental forecasting
d.
market-based forecasting
49. If speculators expect the spot rate of the Canadian dollar in 30 days to be ____ than the 30-day forward rate on
Canadian dollars, they will ____ Canadian dollars forward and put ____ pressure on the Canadian dollar forward rate.
a.
lower; sell; upward
b.
lower; sell; downward
c.
higher; sell; upward
d.
higher; sell; downward
50. Which of the following is true?
a.
Forecast errors cannot be negative.
b.
Forecast errors are negative when the forecasted rate exceeds the realized rate.
c.
Absolute forecast errors are negative when the forecasted rate exceeds the realized rate.
d.
None of these are correct.
51. The absolute forecast error of a currency is ____, on average, in periods when the currency is more ____.
a.
lower; volatile
b.
higher; stable
c.
lower; stable
d.
None of these are correct.
52. Which of the following forecasting techniques would be most likely to use the historical exchange rate data for the
euro to predict the euro’s future exchange rate?
a.
fundamental forecasting
b.
market-based forecasting
c.
technical forecasting
d.
mixed forecasting
53. If speculators expect the spot rate of the yen in 60 days to be ____ than the 60-day forward rate on the yen, they will
____ the yen forward and put ____ pressure on the yen’s forward rate.
a.
higher; buy; upward
b.
higher; sell; downward
c.
higher; sell; upward
d.
lower; buy; upward
54. Which of the following is not a limitation of technical forecasting?
a.
It’s not suitable for long-term forecasts of exchange rates.
b.
It doesn’t provide point estimates or a range of possible future values.
c.
It cannot be applied to currencies that exhibit random movements.
d.
It cannot be applied to currencies that exhibit a continuous trend for short-term forecasts.
55. Which of the following is true regarding forecast errors?
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a.
Forecasts for the Chinese yuan are likely to have large forecast errors because the yuan is a volatile currency.
b.
Potential forecast errors may vary depending on the time horizon, the currency’s volatility, and whether the
country issuing the currency is experiencing political problems.
c.
Forecasts for currencies in high-inflation countries will be more accurate if they use the spot rate rather than
the forward rate because the spot rate captures the difference in interest rates (and thus inflation rates) between
two countries.
d.
Potential forecast errors may vary depending on the time horizon, the currency’s volatility, and whether the
country issuing the currency is experiencing political problems AND forecasts for currencies in high-inflation
countries will be more accurate if they use the spot rate rather than the forward rate because the spot rate
captures the difference in interest rates (and thus inflation rates) between two countries.
56. When the value of an influential factor from the prior period affects the forecast in the future period, this is an
example of a(n):
a.
lagged input
b.
instantaneous input
c.
simultaneous input
d.
instantaneous input AND simultaneous input
57. Which of the following is not a limitation of fundamental forecasting?
a.
uncertain timing of the impact of some factors
b.
forecasts needed for factors that have a lagged impact
c.
omission of other relevant factors from the model
d.
possible change in sensitivity of the forecasted variable to each factor over time
e.
None of these are correct.
58. If the foreign exchange market is ____ efficient, then historical and current exchange rate information is not useful for
forecasting exchange rate movements.
a.
weak-form
b.
semistrong-form
c.
semiweak-form
d.
weak-form AND semistrong-form
59. Assume that U.S. annual inflation equals 8 percent, while Japanese annual inflation equals 5 percent. If purchasing
power parity is used to forecast the future spot rate, the forecast would reflect an expectation of:
a.
appreciation of the yen’s value over the next year.
b.
depreciation of the yen’s value over the next year.
c.
no change in the yen’s value over the next year.
d.
Information about interest rates is needed to answer this question.
60. Assume that U.S. interest rates for the next three years are 5 percent, 6 percent, and 7 percent, respectively. Also
assume that Canadian interest rates for the next three years are 3 percent, 6 percent, and 9 percent. The current Canadian
spot rate is $.840. What is the approximate three-year forecast of the Canadian dollar’s spot rate if the three-year forward
rate is used as a forecast?
a.
$.840
b.
$.890
c.
$.856
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d.
$.854
61. Factors such as economic growth, inflation, and interest rates are an integral part of ____ forecasting.
a.
technical
b.
fundamental
c.
market-based
d.
None of these are correct.
62. If a foreign country’s interest rate is similar to the U.S. rate, the forward rate premium or discount will be ____,
meaning that the forward rate and the spot rate will provide ____ forecasts.
a.
substantial; similar
b.
substantial; very different
c.
close to zero; similar
d.
close to zero; very different
63. If an MNC invests excess cash in a foreign county, it would like the foreign currency to ____; if an MNC issues bonds
denominated in a foreign currency, it would like the foreign currency to ____.
a.
appreciate; depreciate
b.
appreciate; appreciate
c.
depreciate; depreciate
d.
depreciate; appreciate
64. If today’s exchange rate reflects all relevant public information about the euro’s exchange rate, but not all relevant
private information, then ____ would be refuted.
a.
weak-form efficiency
b.
semistrong-form efficiency
c.
strong-form efficiency
d.
weak-form efficiency AND semistrong-form efficiency
e.
semistrong-form efficiency AND strong-form efficiency
65. A fundamental forecast that uses multiple values of the influential factors is an example of:
a.
sensitivity analysis.
b.
discriminant analysis.
c.
technical analysis.
d.
factor analysis.
66. Sensitivity analysis allows for all of the following except:
a.
accountability for uncertainty.
b.
focus on a single point estimate of future exchange rates.
c.
development of a range of possible future values.
d.
consideration of alternative scenarios.
67. The U.S. inflation rate is expected to be 4 percent over the next year, while the European inflation rate is expected to
be 3 percent. The current spot rate of the euro is $1.03. Using purchasing power parity, the expected spot rate at the end of
one year is $____.
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a.
1.02
b.
1.03
c.
1.04
d.
None of these are correct.
68. The following regression model was estimated to forecast the percentage change in the Australian dollar (AUD):
AUDt = a0 + a1INTt + a2INFt – 1 +
t,
where AUD is the quarterly change in the Australian dollar, INT is the real interest rate differential in period t between the
United States and Australia, and INF is the inflation rate differential between the United States and Australia in the
previous period. Regression results indicate coefficients of a0 = .001; a1 = −.8; and a2 = .5. Assume that INFt – 1 = 4%.
However, the interest rate differential is not known at the beginning of period t and must be estimated. You have
developed the following probability distribution:
Probability
Possible Outcome
20%
−3%
80%
−4%
There is a 20 percent probability that the Australian dollar will change by ____, and an 80 percent probability it will
change by ____.
a.
4.5 percent; 6.1 percent
b.
6.1 percent; 4.5 percent
c.
4.5 percent; 5.3 percent
d.
None of these are correct.
69. Assume that U.S. interest rates are 6 percent, while British interest rates are 7 percent. If the international Fisher effect
holds and is used to determine the future spot rate, the forecast would reflect an expectation of:
a.
appreciation of the pound’s value over the next year.
b.
depreciation of the pound’s value over the next year.
c.
no change in the pound’s value over the next year.
d.
There is not enough information to answer this question.
70. The following regression model was estimated to forecast the value of the Indian rupee (INR):
INRt = a0 + a1INTt + a2INFt – 1 +
t,
where INR is the quarterly change in the rupee, INT is the real interest rate differential in period t between the United
States and India, and INF is the inflation rate differential between the United States and India in the previous period.
Regression results indicate coefficients of a0 = .003; a1 = −.5; and a2 = .8. Assume that INFt 1 = 2 percent. However, the
interest rate differential is not known at the beginning of period t and must be estimated. You have developed the
following probability distribution:
Probability
Possible Outcome
30%
−2%
40%
−3%
30%
−4%
The expected change in the Indian rupee in period t is:
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a.
3.40 percent.
b.
0.40 percent.
c.
3.10 percent.
d.
1.70 percent.
e.
None of these are correct.
71. If the one-year forward rate for the euro is $1.07, while the current spot rate is $1.05, the expected percentage change
in the euro is ____ percent.
a.
1.90
b.
2.00
c.
−1.87
d.
None of these are correct.
72. A regression model was applied to explain movements in the Canadian dollar’s value over time. The coefficient for the
inflation differential between the United States and Canada was 0.2. The coefficient of the interest rate differential
between the United States and Canada produced a coefficient of 0.8. Thus, the Canadian dollar depreciates when the
inflation differential ____ and the interest rate differential ____.
a.
increases; increases
b.
decreases; increases
c.
increases; decreases
d.
decreases; decreases
73. Which of the following is true according to the text?
a.
The forecast bias of a currency rarely shifts over time.
b.
The absolute forecast error as a percentage of the realized value is a good measure to use in detecting a
forecast bias.
c.
Forecasting errors are smaller when focused on longer term periods.
d.
None of these are correct.
74. Monson Co., based in the United States, exports products to Japan denominated in yen. If the forecasted value of the
yen is substantially ____ than the forward rate, Monson Co. will likely decide ____ the payments.
a.
higher; to hedge
b.
lower; not to hedge
c.
higher; not to hedge
d.
None of these are correct.
75. If a particular currency of a developed country is consistently declining substantially over time, then a market-based
forecast of that currency will usually have:
a.
underestimated the future exchange rates over time.
b.
overestimated the future exchange rates over time.
c.
forecasted future exchange rates accurately.
d.
forecasted future exchange rates inaccurately but without any bias toward consistent underestimating or
overestimating.
76. Foreign exchange markets are generally found to be at least ____ efficient, which implies that all public information is
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considered within the markets.
a.
weak-form
b.
semistrong-form
c.
purchasing power purity form
d.
None of these are correct.
77. Which of the following is not one of the major reasons for MNCs to forecast exchange rates?
a.
to decide in which foreign market to invest excess cash
b.
to decide where to borrow at the lowest cost
c.
to determine whether to require a subsidiary to remit funds or invest them locally
d.
to speculate on exchange rate movements
78. Silicon Co. has forecasted the Canadian dollar for the most recent period to be $0.73. The realized value of the
Canadian dollar in the most recent period was $0.80. Thus, the absolute forecast error as a percentage of the realized value
was ____ percent.
a.
9.6
b.
−9.6
c.
8.8
d.
−8.8
79. Sulsa Inc. uses fundamental forecasting. Using regression analysis, it has determined the following equation for the
euro:
eurot
= b0 + b1INFt – 1 + b2INCt – 1
= .005 + .9INFt – 1 + 1.1INCt – 1
The most recent quarterly percentage change in the inflation differential between the United States and Europe was 2
percent, while the most recent quarterly percentage change in the income growth differential between the United States
and Europe was −1 percent. Based on this information, the forecast for the euro is a(n) ____ of ____ percent.
a.
appreciation; 3.4
b.
depreciation; 3.4
c.
appreciation; 0.7
d.
appreciation; 1.2
80. If both interest rate parity and the international Fisher effect hold, then between the forward rate and the spot rate, the
____ rate should provide more accurate forecasts for currencies in ____-inflation countries.
a.
spot; high
b.
spot; low
c.
forward; high
d.
forward; low
81. Assume that the U.S. interest rate is 11 percent, while Australia’s one-year interest rate is 12 percent. Assume interest
rate parity holds. If the one-year forward rate of the Australian dollar was used to forecast the future spot rate, the forecast
would reflect an expectation of:
a.
depreciation in the Australian dollar’s value over the next year.
b.
appreciation in the Australian dollar’s value over the next year.
c.
no change in the Australian dollar’s value over the next year.
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d.
Information on future interest rates is needed to answer this question.
82. If the foreign exchange market reflects ____, then historical exchange rate information is not useful in forecasting
exchange rate movements.
a.
weak-form efficiency
b.
purchasing power parity
c.
the international Fisher effect
d.
interest rate parity
83. If a foreign currency is expected to ____ substantially against the parent’s currency, the parent may prefer to ____ the
remittance of subsidiary earnings.
a.
weaken; delay
b.
weaken; expedite
c.
appreciate; expedite
d.
None of these are correct.
84. Which of the following forecasting techniques would be most likely to use today’s forward exchange rate to forecast
the future exchange rate?
a.
fundamental forecasting
b.
market-based forecasting
c.
technical forecasting
d.
interval forecasting
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52. c
53. a
54. d
55. b
56. a
57. b
58. d
59. a
60. c
61. b
62. c
63. a
64. d
65. a
66. b
67. c
68. c
69. b
70. a
71. a
72. c
73. d
74. c
75. b
76. b
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