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Forward rate agreement - Definition and Overview |
| Related Words: Ok, Acceptance, Acclamation, Accommodation, Accompaniment, Accord, Adaptation, Addition, Affiliation, Affinity, Affirmation, Affirmative, Agape, Agglomeration, Aggregation, Agreement, Alliance, Amalgamation |
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In Derivatives Market, a Forward Rate Agreement (FRA) is a forward contract Between two parties to exchange an interest rate differential on a notional principal amount at a given future date (Attention NOT expiration) in which one party, the Long, agrees to Pay a fixed interest payment at a quoted contract rate and Receive a floating interest payment at a reference rate (Underlying rate), determined at Expiration day (Maturity).
Characteristics of forward rate agreements:
- an forward contract of interest rate.
- One party makes a fixed interest payment.
- The other party makes an interest payment based on a referenced rate at the time of contract expiration.
- The underlying is an interest rate.
- Payments are based on the difference between the contract rate and the reference rate (e.g., LIBOR).
- A FRA is a cash-settled forward contract on a short-term loan.
- The FRA market is not as large as the swaps market.
- A swap is a special combination of FRAs.
The FRA payoff formula is:
<math>
{Payment} = Notional Principal \left( \frac{(Referance Rate-Forward Rate)(Days/360)}{ Referance Rate(Days/360)+1} \right)
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Where
- Notional Principal of the loan,
- The reference rate is typically Libor or Euribor, also refer as floating rate underlying the agreement.
- Days is the number of days the loan is for, and
- Basis is the day count basis applicable to money market transactions in the currency of the loan either 360 or 365 days.
- (Days/360) is the annualized factor based on 360
- The numerator is the interest saving in percent, and the denominator is the discount factor.
- Note that if the floating rate underlying the agreement turns out to be below the forward rate specified in the contract, the numerator in the formula is negative and the short receives a payment from the long.
See also
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Example Usage of agreement |
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HuginNews_en: France Telecom signs an agreement concerning "senior" employees http://bit.ly/7JpDEf |
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netlawmedia: Talks set up by Lord Justice Jackson have failed to reach an agreement to fix legal fees paid for all fast-track cases up to £25K |
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doctorsuez: If I have to hear one more instance of subject / verb agreement my head my explode. |
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