2. Suppose a US firm offers a $105 face value bond, whose current price is $100. The current US-Yuan exchange rate is 8 (8 Yuan to buy 1 dollar). (a) How much Yuan does this bond currently cost? (b)...

a. The bond will cost about 800 Yuan, which is determined by multiplying the exchange rate with the current price of the bond.
b. Yuan will depreciate the next day. However, there will be an increased return to the investor due to price depreciation. This return will be computed as follows:
Return = (8.05/8) – 1
    = 0.625% or 5 yuan.
c. It is expected that the exchange rate will decrease due to increase in the foreign reserves with China due to increase in exports. This as a result, would put a downward pressure on Yuan, and it will strengthen. Thus, it is expected that the Yuan will trade for 7.9/$. In such a case, there will be a loss to the investor because there will be less yuan at the hands of the investor. The return is computed as follows:
Expected Return = (Current Exchange Rate/Previous Exchange Rate) – 1
        = 7.9/8 – 1
        = -1.25% or -10 yuan
d. It cannot be stated unless additional information is provided because it is just an exchange rate gain/loss which is netted off at some time in the future. The real gain/loss will be determined by understanding the changes in the YTM or the market bond rates. The investor at this point will be neutral to give any opinion on the favoritism of the bond. Further, the investment horizon of the bond can also affect the likelihood of investing in the bond or not. If the investor wants to earn...