Interest Rate Parity & Linear Approximations
Can anyone explain how my finance professor arrives at the following linear approximation of the interest rate parity principle? My log skills are failing me.
Thanks for the help!
[1+ (Intfc/(360/k)] = (F/S)x[1+ (IntUSD/(360/k)]
Taking natural logs, linear approximation is:
Intfc - IntUSD = ((F-S)/S)*(360/k)
Intfc = interest rate of foreign currency
IntUSD = interest rate of US Dollar
F = Forward exchange rate
S = Spot exchange rate
K = # of days