On June 5, Deborah, an American investor, decided to buy six-month Treasury bills. She found that the per-annum interest rate on six-month Treasury bills is 7.00% in New York and 11.00% in Frankfurt, Germany. Based on this information and assuming that tax costs and other transaction costs are negligible in the two countries, it is in Deborah's best interest to purchase six-month Treasury bills in , because it allows her to earn for the six months. On June 5, the spot rate for the euro was $0.820, and the selling price of the six-month forward euro was $0.822. At that time, Deborah chose to ignore this difference in exchange rates. In six months, however, the spot rate for the euro fell to $0.818 per euro. When Deborah converted the investment proceeds back into U. S. dollars, her actual return on investment was.
As a result of this transaction, Deborah realizes that there is great uncertainty about how many dollars she will receive when the Treasury bills mature. So, she decides to adjust her investment strategy to eliminate this uncertainty. What should Deborah's strategy be the next time she considers investing in Treasury bills?
i. Avoid investment in foreign institutions.
ii. Sell enough foreign currency on the forward market to match the anticipated proceeds from the investment.
iii. Exchange half of the anticipated proceeds of the investment for domestic currency.
Had Deborah used the covered interest arbitrage strategy on June 5, her net return on investment (relative to purchasing the U. S. Treasury bills) in German six-month Treasury bills would be . (Note: Assume that the cost of obtaining the cover is zero.)