Defined Benefit Plan and Pension Obligation LEVEL II Defined benefit plans promise a contractual regular amount that an employer pledges to provide to its employees post-retirement. The employer is responsible for making appropriate contributions and investment decisions to ensure there are sufficient pension assets to pay out the earned benefits when due. The estimated amount of these earned benefits, discounted …
Equity method
LEVEL II The equity method of accounting is used when an investor has significant influence on the investee, and reflects the economic reality of this relationship. This video explains the accounting principles involved in the equity method of accounting. Equity Method for Ownership Interest between 20% to 50% When the ownership interest is between 20% to 50%, the investor generally …
International Fisher effect
According to the Fisher effect, the nominal interest rate in a given country is approximately the sum of the real interest rate and the expected inflation rate. If this holds true for both the domestic and foreign country, we would expect the difference between nominal interest rates to be equal to the difference between the real rates, plus the difference …
Purchasing power parity [PPP]
Purchasing Power Parity (PPP) is a principle in international finance that states that the exchange rate between two currencies should equal the ratio of the domestic price level to the foreign price level. In other words, PPP states that a basket of goods should cost the same in both countries after accounting for exchange rate changes. This principle helps explain …
Uncovered interest rate parity [UIRP]
LEVEL II Uncovered Interest Rate Parity (UIRP) states that the difference between two countries’ interest rates should be equal to the expected change in the exchange rate between the two currencies. In other words, UIRP states that an investor should receive the same return, after adjusting for expected exchange rate changes, regardless of whether they invest in a low-interest rate …
Covered interest rate parity [CIRP]
LEVEL II Covered Interest Rate Parity (CIRP) is a principle that states that the difference between two countries’ interest rates should equal the forward exchange rate premium or discount, which adjusts for the expected difference in exchange rates between the present and the time when the money is returned. Essentially, CIRP states that if an investor borrows in a low-interest …
International parity conditions
LEVEL II International parity conditions are a set of relationships that exist between different financial variables in international finance. These conditions help explain the relative prices of financial assets in different countries and are crucial for understanding the global financial market. The five key conditions are: These conditions are interrelated and provide a comprehensive understanding of the global financial market, …
Triangular arbitrage
LEVEL II Triangular arbitrage is a trading strategy that takes advantage of price differences in the foreign exchange market to generate a profit. It involves three currencies and three exchange rates. The basic idea is to convert one currency into another, and then back into the original currency, taking advantage of any discrepancies in the exchange rates along the way. …
Cross rate
LEVEL II A cross rate is an exchange rate between two currencies that does not involve the local currency. It is calculated by using two other exchange rates in which both currencies are involved. For example, consider a scenario where exchange rate between currency A and B (A/B) is known, and exchange rate between currency B and C (B/C) is …
Root Mean Squared Error Criterion [RMSE]
LEVEL II The root mean squared error criterion is a method to test if if an AR model is accurate in making future predictions. RMSE is calculated as the mean squared errors of all the residuals and taking the square root. RMSE is often used to compare the relative accuracy of two different AR models. For example, you may have …
