1. shift funds from dollars to yen and sell yen forward.
2. shift funds from dollars to yen.
3. sell dollars forward for yen.
4. shift funds from yen to dollars and sell dollars forward.
Choose the correct option.
Option 2 is the correct one. You believe that you can earn the same risk-adjusted interest rate in either country and you believe that the yen will appreciate over the year. So, since doing nothing is not an option here, your best bet is to move some funds from U.S. securities to Japanese securities, hoping that your guess that the dollar will devalue in terms of the yen will prove right. You can't cover yourself in the forward market in this situation because you are not given the forward exchange rate.
If you shift funds from U.S. to Japanese securities you will receive the same interest return in both countries. One year from now, however, when your Japanese securities come due you expect to be able to obtain more U.S. dollars for the funds than you had originally invested in the Japanese assets. Note, however, that this is a speculative situation. You are given no opportunity to obtain forward cover at a known forward rate. The current forward rate, which you are not given, may be above or below your estimate of the expected future spot rate and the market may place a different value on the foreign exchange risk than you do. Were you given the option, the best action might well be to do nothing---it would depend on how risk averse you are.