A friend of mine was asked this question in an interview. You are a dollar investor valuing a company in an emerging market. The government of that country has both dollar and local currency denominated bonds. The cash flows of the company in are in local currency. How do you set up the?
I'm not sure how to think about this one.
My guess would be to use the yield on the local government dollar bond as the risk-free rate and convert the cash flows to dollars using forward rates, so it would all be consistent.
What would be the trade off of using the US risk free rate and adding a country risk premium? Or doing the valuation in local currency terms and then converting the final value to dollars at the spot rate?