## FRA Question

d2syh
Good Student
Posts: 21
Joined: Fri Aug 17, 2012 3:27 pm

### FRA Question

Suppose you traded a FRA of value (approx.) \$7165 for the period between 3 to 6 months on a principal of \$1mn. The spot rate for 6 month LIBOR is 5% and FRA pays 10% (quarterly compounding). Find out 3 month LIBOR spot rate.
a. 3%
b. 7%
c. 5%
d. 2.5%
Value = \$1mn *(.1 - Rfwd)*(0.5 – 0.25)*e-(0.5)*0.5 = 7165
Rfwd = 0.706 = 0.05 + (.05 – r)*(1/(2-1))
r = .0299 = 3%

Pls explain ...
Is discount factor e^-0.05*0.5 being used?

swarnendupathak
Finance Junkie
Posts: 119
Joined: Mon Sep 17, 2012 11:06 am

### Re: FRA Question

Yes, the discount factor of 0.05 for 6 months with continuous compounding was used here...I think the rfwd is a quarterly compounding rate, hence to calculate the 3 months spot rate we need to modify it to continuous compounding as 6-month libor is continuous compounding.
Please make me correct if i am wrong.

Swarnendu

content.pristine
Finance Junkie
Posts: 356
Joined: Wed Apr 11, 2012 11:26 am

### Re: FRA Question

Thats right swarnendu.
That is nothing but the discount factor