Forward Rates Agreement (Moct Test 11-11-2012)

swarnendupathak
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Forward Rates Agreement (Moct Test 11-11-2012)

Postby swarnendupathak » Mon Nov 12, 2012 2:10 pm

An FRA trader entered into an FRA agreement in which he will pay 6% (assuming quarterly compounding) between 3 months and 6 months. The principal for the trade is $3 million. The 6-month LIBOR spot rate is 5.80%. If trader had a gain of $2550 at the end of the period, the 3-month LIBOR rate would be:
Choose one answer.
a. 5.30%
b. 6.30%
c. 5.25%
d. 2.51%
The correct answer is A

The explanation given in the question is that the appliicable interest are discounted with factor e^0.058*0.50, (using 0.50 instead of 0.25 means we are discounting at T0), but to value the FRA the same to be discounted to T1 right??? & not to To.... For me the correct equation could be (3000000*(X-0.06)*0.25)*e^-(0.058*0.25)=2550, where X = 3 month LIBOR rate with quarterly compounding.
Now another crux is that, the trader is paying 6% & also has gained USD 2550/-, so the LIBOR rate what he received should be more than 6%..which is only 6.30% as per given option....
I have some confussion in this question.....
Please clarify

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swarnendupathak
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby swarnendupathak » Mon Nov 12, 2012 2:40 pm

Can u please highlight on the issue..

Swarnendu

AMITAG1990
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby AMITAG1990 » Mon Nov 12, 2012 6:21 pm

In this question both the issue are really true, because if trader is paying at 6% then he can only gain if LIBOR will be above 6%. and another issue, just i cannt understand the pristine solution, in every question they use to discount it at T0. I think ans is wrong.

swarnendupathak
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby swarnendupathak » Tue Nov 13, 2012 12:21 pm

team pristine, can u Pls address this issue..pls.

naresh.thkr
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby naresh.thkr » Wed Nov 14, 2012 10:46 pm

Can any one solve this problem in details.

content.pristine
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby content.pristine » Thu Nov 15, 2012 7:56 pm

Hey Guys,

This question is correct.
Draw out all the known and unknown on a timeline.

Step 1: Given that the profit is 2550, find the underlying rate (floating rate) associated between T=3 and T=6 when the fixed is 6%. Let that rate be y%

Step 2: Using 5.8% between T=0 and T=6 and y% between T=3 and T=6, find x% which is the 3 Month LIBOR.

Please remember they are asking the 3 Month LIBOR, not the floating rate in the question.

Hope this explanation helps!
8-)

swarnendupathak
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Posts: 119
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby swarnendupathak » Thu Nov 15, 2012 8:37 pm

Thanks...i got it.

AMITAG1990
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Re: Forward Rates Agreement (Moct Test 11-11-2012)

Postby AMITAG1990 » Thu Nov 15, 2012 9:31 pm

By this also answer comes to 5.25% but ans given is 5.3% .. please confirm me is this a correct..???


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