Investment Strategies Project - Finance Module, Semester 1

This project comprehensively analyzes various investment strategies. It begins by calculating annualised interest rates for zero-coupon bonds and T-bills using semi-annual interest payments and roll-over strategies, considering changes in interest rates. The project then delves into technical analysis, explaining its application in trading currencies, managing foreign currency risk, and using historical data to predict price movements. The principles and application of carry trades are explored, including calculations based on New Zealand dollar and Japanese yen exchange rates. Furthermore, the project covers forward exchange rates, their calculation, and factors influencing them, along with the evaluation of premiums and discounts. The project concludes by comparing and contrasting option and forward rate strategies, using a case study involving an AUD/EUR currency pair and a hypothetical bid scenario. Finally, the project reflects on a group activity, outlining individual roles and collaborative efforts.

INVESTMENT STRATEGIES
INVESTMENT STRATEGIES
NAME OF STUDENT
NAME OF UNIVERSITY

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INVESTMENT STRATEGIES
Question 1.Annualised interest rate for zero coupon bonds and t-
bills
We will first calculate the intest payable by first calculating the
cuurent value of the bond. Interest is payable semi annually on bonds
and bills
Solution steps.
Step 1. How to find the current price of the bond
(Budgeting.thenest.com, 2019).
P = M / (1+r)n
where:
P = Current price of the bond
M = maturity value (We will use 100 for this case) .
r = investor's required annual yield / 2 (adjusted for semi annual
interest payments)
n = number of years until maturity x 2
a) Zero coupon rate
Interest on a one year zero coupon bond at a rate of 4,2%. Interest rate
will not change and interest earned in the first six months will not be
reinvested. Interest is payable over two times per year.
Calculation of interest on the face value.
Interest rate /100 x face value
4,2/100 *100= 4,2
Interest for the whole year is 4,2 ,divided by 2 to get the semi annual
rate is 2,1.
Annualised interest will be the compounded interest of the two
periods.
= ((1+0,021) X(1+0,021)) -1 = 0,021 or 2,1% per period or 4,2% per
year.
b) 6 month rolling strategy for the t-bill.
Using the 6 month roll over strategy at an interest rate of 4%.
Calculation of interest on the face value.
Interest rate /100 x face value
4/100 *100= 4
Interest for the whole year is 4 ,divided by 2 to get the semi annual
rate is 2.
The second six months the interest rate will be 5 ,divided by 2 =2,5%.
Annualised interest will be the compounded interest of the two
periods.
= ((1+0,02) X(1+0,025)) -1 = 0,0455 or 4,6% per year.

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INVESTMENT STRATEGIES
c) If interest changes by a reduction of 1%.
Interest recievable if we reduce the rates by 1%
When interest rates reduce by 1% ,the only impact will be on the
rollover stategy for the last six month period. The new interest rate
will be (4-1)=3%
The interst eared on zero cuopun bond will not be affected by changes
in intret rates.
The second six months the interest rate will be
3 ,divided by 2 =1,5%.
Annualised interest will be the compounded
interest of the two periods.
= ((1+0,02) X(1+0,015)) -1 = 0,0353 or 3,5%
per year.
Rate of interest returns summarised
At 4,2% and 4% interest rates Annualised rate of return.
Zero coupon bond 4,2%
Rollover strategy and an increase of
1 % in the second half of the year. 4,6%
With a 1% reduction on interest rate
Zero coupon bond 4,2%
Rollover strategy 3,5%
The rollover strategy is very responsive to the changes in interest rate.
Question 2
a. Technical analysis application.
Technical analysis is a concept in investments and trading whose
basis is that past price activity trends like volumes and prices can be
used to predict current and future price movements of a stock or
commodity. The key data required for any conclusion of a trading
price is historical data.
Trading currencies is purely exchange of one currency for
another .The aim of this exchange is to make a profit from the change
in price of a currency pair. The traders will take a position on a
currency whose price is expected to change favourably. Once the
price of the currency has changed, the trader can then exchange the
currency with another currency whose price is favourable .The
exchange results in gains or losses.
Foreign currency risk arises when the exchange rate changes
adversely for transactions denominated in a foreign curreny . This risk
requires an enhaced level of management by an investor. The change
in foreign exchange can be frequent and unpredictable.

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INVESTMENT STRATEGIES
The example for the above concept is as below.
If we want to trade currencies by buying US
dollars and selling equivalane Japanese
Yen.From technical analysis strategy ,I will
evalaute the price changes over the last 12
months to determine the trend and volatility.
Looking at this curreny pair basic trends of
highs ,lows and averages. When I review the
current price of the currency pair which is
111.88 ,I can conclude that I can buy the US
dollars at below this price and sell marginally
above this price.
Price trends as retrived from (Investing.com, 2019).
When trying to manage foreign currency exchange risk, I would
hedge a price in future. Hedging will mean that I will be certain on
what I will exchange the dollars for in future.
b.Priciples and application of a “carry trade”.
I,Principles of a carry trade.

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INVESTMENT STRATEGIES
Principles of a carry trade are ;
a) Buy a currency with a high interest rate by selling one with a
low interest rate.
This means the currency to be bought will have a high interest rate,
while the currency to fund this trade will have a low or lower
comparative interest rate.
b) The exchange rates between the currencies should be stable for the
expected profit to be made. If the exchange rate for the lower yielding
currency strengthens, the trader will book less profit or even book a
loss.
c) It is also expected that the interest rate spread for the two currencies
will be stable. If the interest rate spread shrinks, then the trader my
book a lesser margin or loss.
II. Application of a carry trade.
Trends of exchange rates for the New Zealand dollar and Japanese
yen currency pair as retrieved from (Investing.com, 2019).
2018 interest rates are unchanged in
both countries for 2018,
((Earnforex.com, 2019))
Interest rates
New Zealand 1,75
Japanese -0,1
Spread 1,85
Mean
Exchange rates 01-Jan-18
New Zealand 80,43

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INVESTMENT STRATEGIES
Dollar/Japanese
yen
Trading Steps
We will invest 10,000,000.00 Japanese Yen
Step 1
The low yielding currency is JPY, so we will
borrow 10,000,000 JPY at -,1 %
Interest expense will be 10 000 000,00* ,001
Translating to negative 10 000 JPY
Step 2
Convert JPY and buy New Zealand dollars
=10 000 000,00/80,43 =124 331,72 NZD
Step 3
Invest the New Zealand dollars in the money market
at 1,75% =
124,331,72 *1,75%= 2 175,8
Step 4
Convert the New Zealand dollars including the
interest gain to Japanese yen at the ending exchange
rates of 73,62
Item Amount
Investment 124 331,72
Interest 2 175,80
Total 126 507,52
Convert to JPY at 73,62 9 313 483,62
Adjust for the interest
expense 10 000,00
Net amount 9 323 483,62
Step 4
Calculation of gain or loss on the strategy
Investment 10 000 000,00
Amount after strategy 9 323 483,62
Gain(+) loss(-) on strategy - 676 516,38

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INVESTMENT STRATEGIES
The result is a loss as the Japanese Yen has strenghted agaist the New
Zeland dollar over the period.
Question 3
3.Forward exchange rates and application
A, Calculation of a forward excnage rate.
Forward
exchange rate
current spot rate X (( 1 + domestic interest
rate)/ (1 + foreign interest rate))
Current spot rate
AUD/USD 0,70
Domestic (AUD)interest
rate 1,5%
Foreign (USD)interest rate 2,5%
Forward exchange rate 0,728
*The formula as worked in excel is as attached excel workbook.
B, Evalaution if a forward rate is trading at a premium or a
discount
*The formula as worked in excel is as attached excel workbook.
C, Factors influencing the spot trade and forward rate.
The forward rate will be different from the spot rate in one year.
The forward rate is is based on expectations of the investors on the
market perfomarmance over the period. The expectations is based on
the investors knowledge of the market. The spot rate is the rate used
to handle the current trnasctions. The spot rate is the starting point for
exchange rate transactions. The factors that will lead to the future rate
being different from the current spot are;
Time value of money is a concept that states that the money in hand
right now is worth more than the same value of money in future
(Investopedia, 2019). The money in hand can be invested and earn
returns in future. A return can then be earned oin future. In the same
thread ,the same money can be wiped out depending in the investment
that has been done. This change in interest rate has a direct
relationship with ho the currency is percieved.
A currency with a high interest rate will attract manay investors and
hence the exchange rate will change appropriately.
Demand and supply of currency impact the exchange rate in that if if
we have normal supply of a currency then we will have stable

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INVESTMENT STRATEGIES
exchange rate. If a currency is not readily available,then the cuency is
deemed scarce and will command a premuim to acquire.
Presence of speculators also leads to changes in exchange rates.
Exchange rates are driven by the volumes and treds of buying and
selling currencies. Speculators who have expectations of a chnge in
rate may take position in the market that will distort the prices. If a
speculator buys large quantiies fo a currency ,the market may respond
by buying the same currency and create a shortage and subsequnt rise
in the priceof such a currency.
Terms of trade wil affect the exchange rate .If a country is a net
exporter in referenceot a trading partner, then the that country,s
currency may be stronger than than the trading partner. Any changes
in the balance of trade will have an impact on bothe countries
exchange rates.
Political stability of ac ountry has a direct impact on the stability of
exchange rates .If a country is not stable politically its currency take a
hit in that it is weakens against other currencies.
D.Factors influencing changes in excnage rate.
Factors that lead to strengthening of the AUD USD exchange rate.
Interest rate apprecaion in Australia will lead strengthening of the
spot rate .In our exampe if the interest rate increase to 6% the
exchange rate can strengthen to .76. Alternatively if the US exchange
rate was to reduce to ,05% ,the exchange rate can weaken to ,71.
If the balance of payments between australia and US shifts
adversely ,then exchange rates will respond appropriately.
Question 4
4. Application of a suitable strategy between an option and
forward rate.
The Euro was introduced in 1999 and now has a membership of 17
European countries who have adoped it as their currency. AUD was
floated the dollar in 1983 to reflect the balance of payments and other
drivers f the market that affect the exchange rate.
The historical exchange rates for the AUD/EUR currency pair for the
last one year sho that the exchange rate was ,6327 as at April 2018
and is trading at ,6240 as at April 2019 (Investing.com, 2019). This
represents an appreciation of the EUR of (,6240-,6327)/,6327 = 1,4%.
This bid is made in Euros and this presents an exchange currency risk
in that there can be exposure in delivery of the project should the
exchange rates move be unfavourable. The risk is even more
enhanced given the payments are spread over three months intervals if
the bid is scucessful.
The bid

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Bid date 2019/04/30
Bidder EagleEyes Ltd
Country of
Bidder
Australia
Client Schipol Airport
Country of Client Netherlands
Contract value 12 000 000,00
Contract
Currency
EURO
Supply of Airport Surveillance System
Bid deadline 2019/04/01
Bid decision date 2019/05/01
Payment terms 4 m after 90 days after bid decsion
date,4m after 180 days,4m after 270
days
Scenario
A
Calculation of the 90-day forward rate.
Australia Interest rates 1,5%
European interest rates 0,0%
Spot rate AUD/EUR 0,772
Forward exchange rate
0,7748
95
Future Spot rate 1 0,754
Future Spot rate 2 0,79
*Calculations are in the atached excel
workbook.
B
*Calculations are in the atached excel
workbook.

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INVESTMENT STRATEGIES
Question 5.
5.Reflections from the group activity.
My group had five members and each was assigned one question
while one member was tasked with being a secretary and enforcer.
The secretary was also tasked with conflict resolution .The primary
resposibilty of the secretary was to make sure we delivered the
assignment in time and in the prescribed manner. The questions were
allocated on the strength of each member depending on the question.
However ,when a question did not have a taker ,the group reassigned
the question in an amicable way. Every one then took his favourite
topic.
We agreed on the rules ,including timelines of reporting on
milestones. On a weekly basis ,each member was to update the group
on where thay had reached. The group was also meeting on weekly
basis on Tuesday afternoon for one hour . You had to attend and if not
in a position to attend you were to give a days notice and hand in your
progress report. The consequencies of not abiding were that you
would not be welcome in that group or individuals in future.
The weekly meetings were to review the progress of each member.
Each member would present their workings including references.
Each member had to use illustrations for ease of understanding. The
member had to clarify any query from another member ,till the
member who had queried was satisfied.
The main problem we encountered was on
having simple illustrations that would make
understanding these concepts easier. However
we spent a lot of time on going through a
number of illustrations ,including real life case
studies. The other problem was on time
keeping where many members were not
sticking to the stipulated timelines. We
resolved this by rejecting the submissions of
such members. The affected members simply
pulled up their socks and were not late in
subsequent submissions.

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Our strategy worked in that despite the slow start ,we were able to
achieve much in the second week . We even had time to do reflections
during our last meeting.
My take from this group exercise is on the resourcefulnes of a group.
We were able to have many opinions on the understanding of varous
concepts. The sum of these opinions was very insightful. We were
able to meet the deadlines through use of a penalty which is very
punitive. No member would have wished to be blacklisted as the
consequencies were to be carried over from this unit.
The real life applications of this group assignment is in the power of
collective responsibilty .We can achieve so much if we work together
as a group. I also leant on the role of having guidleines to guide on
behavoiur .Thse are used to measure progress and evaluate
acountability.

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References.
Budgeting.thenest.com. (2019). How to Find the Interest Rate on a Bond. [online] Available
at: https://budgeting.thenest.com/interest-rate-bond-3654.html [Accessed 29 Apr. 2019].
Earnforex.com. (2019). Interest Rates Table. [online] Available at:
https://www.earnforex.com/interest-rates-table/ [Accessed 29 Apr. 2019].
Investing.com. (2019). USD JPY Historical Data - Investing.com. [online] Available at:
https://www.investing.com/currencies/usd-jpy-historical-data [Accessed 29 Apr. 2019].
Investopedia. (2019). Currency Appreciation Definition. [online] Available at:
https://www.investopedia.com/terms/c/currency-appreciation.asp [Accessed 29 Apr. 2019].