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It is now August 1 , and you are considering investing in 90-day bank bills in two months' time (October 1). On this date of
It is now August 1 , and you are considering investing in 90-day bank bills in two months' time (October 1). On this date of October 1, you intend to purchase bank bills with a face value of \\( \\$ 2,500,000 \\) at maturity. You are concerned interest rates will fall and you wish to hedge your interest rate risk using FRA contracts. For the purpose only of deciding on the appropriate FRA contract assume 3 months is equivalent to 90 days - otherwise all FRA settlement amounts are calculated with reference to 90 days. Also assume there are 365 days in a year. Current FRA quotes are: The rates quoted in the table above are simple rates. The FRAs follows the standard Australasian settlement terms (NOT the US terms). Required: (a) To hedge the interest rate risk, determine which FRA is the most appropriate to use? Briefly explain your answers. Also state if you should short (sell) or long (buy) the FRA contract. Please type your answers. (Word limit 100) (b) Suppose 15 days after the initiation (assume \\( t=15 \\) now), the 45 -day interest rate is \5.8 p.a. and the 135-day interest rate is \5.9 p.a. (both are continuously compounded). Find the \"new\" FRA price on a 90-day loan issued 45 days from today and record your answer to 2 decimal places in percentage i.e. \mathrmx.mathrmxx. What is the fair value of the FRA to you today (i.e. at \\( \\mathrm{t}=15 \\) )? (5 marks) (c) Suppose your friend advised on not using FRAs to hedge, and commented that \"Hedging is costly and unnecessary, and it is not needed even if market interest rate decreases sharply between August 1 and October 1.\" Explain whether your friend's comment is justifiable (word limit 120)
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