QUESTION 6

A three-against-six forward rate agreement (FRA) has an agreement rate of 4.05% on the three-month LIBOR interest rate. You believe the three-month LIBOR interest rate will increase to 4.35% within the next three months. You decide to take a speculative position in the FRA with a $1,000,000 notional value. There are 90 days in the FRA period.

If the three-month LIBOR is 4.00% in three months, then what will your profit/loss be? Use a 360 day-count convention, similar to the formulas provided for chapter 11 calculations.

Show your workings and the correct answer in the space provided below and also specify which party (purchaser or seller) makes a profit and which party makes a loss.

Three month LIBOR = 4% and agreement LIBOR = 4.05 therefore, the seller taking a loss of 0.05%

One of the following answers will be correct:

a. -$378.88

b. $480.77

c. $378.88

d. -$480.77