Interest Rates and Time ValueThis is the introduction section for [PRM Exam I](https://financetrain.com/prm/prm-exam-i/).
It pre...

Lessons

- CFA Level 2: Economics - Introduction
- Economic Growth
- Changes in Productivity: The One-Third Rule
- The Productivity Curve
- Economic Growth Theories
- Government Regulation, Deregulation, and Regulatory Behaviour
- Gross Domestic Product (Measuring Economic Activity)
- International Trade & Trade Restrictions
- Balance of Payments
- Foreign Exchange Rate Systems and Parity Relationships
- Foreign Exchange Floating Rate Systems
- Fixed Exchange Rate Systems
- Overview of Currency Markets
- Forward Exchange Rates
- Interest Rate Parity
- Purchasing Power Parity (PPP)
- International Fisher Relation
- Uncovered and Covered Interest Rate Parity Relationship
- Forecasting Exchange Rates
- CFA Level 2 Economics – Recommendations

# Interest Rate Parity

Interest Rate Parity attempts to explain the difference between forward and spot rates as explained by differences in nominal interest rates and efficient markets will eliminate covered interest rate arbitrage opportunities.

FX/Y = SX/Y ((1+rX)/(1+rY))

- The annualized forward premium can be approximated by the difference in the two interest rates.
- When the domestic country (X) has a higher interest rate, it should sell at a forward discount as the currency is expected to depreciate; this indicates weakness.
- When the relationship between the forward and the spot rate in the formula above does not hold, an arbitrage opportunity exists. This is called covered interest rate arbitrage because the trader’s exchange rate risk is covered by the price secured in the forward contract.

### You may find these interesting

Nominal Interest Rate and Effective YieldWhen you go to a bank enquiring about the deposit rates, the rates specified by the bank can be expr...

How Interest Rate Swaps Work?An interest rate swap is an exchange of cash flows between two parties where party A pays a fixed ra...

Details of an Interest Rate Swap ContractAn interest rate swap is an exchange of cash flows between two parties where party A pays a fixed ra...

How Interest Rate Caps Works?An interest rate cap (or ceiling) is an agreement between the seller or provider of the cap and a bo...

Basel II - Internal Ratings Based (IRB) ApproachThis approach involves assigning risk weights based on the internal rating of the borrowers. The rat...

How Interest Rate Floors Work?An interest rate floor is similar to an interest rate cap agreement. An interest rate floor is an ag...

How Interest Rate Collars Work?An interest rate collar (or floor ceiling) is an agreement where the seller or provider of the colla...

Forex: Bid and Offer RatesExchange rates are commonly expressed as two rates, the bid price and the offer price, for example:
...

Forex Rates: Understanding Cross RatesCross rates are rates between two currencies where neither is the US dollar.
A cross rate can be ca...

Finance Train Premium

Accelerate your finance career with cutting-edge data skills.

Join Finance Train Premium for unlimited access to a growing library of ebooks, projects and code examples covering financial modeling, data analysis, data science, machine learning, algorithmic trading strategies, and more applied to real-world finance scenarios.

I WANT TO JOINJOIN 30,000 DATA PROFESSIONALS

## Free Guides - Getting Started with R and Python

Enter your name and email address below and we will email you the guides for R programming and Python.