Expectation and Forecasting: An Overview

Abstract

John is a young British tourist who is planning his first trip to New York City in three months’ time. For this purpose, he has been saving for long enough to accumulate a sufficient amount of cash to last him for the month or so he intends to spend in New York. The problem is that John’s savings are in pounds while his expenditure in New York will be in dollars. Given that exchange rates fluctuate wildly, John is facing some sort of a dilemma. He wants to maximise the US dollar value of his pound savings. This value depends on the exchange rate between the pound and the dollar that is used to convert the savings into dollar spending money. So, John faces the problem of deciding when, and consequently at what exchange rate, he would convert his savings into US dollars. Assuming that the level of interest rates is low and the underlying amount is small, the interest rate factor will be ignored for the time being.