Your company will receive USD10,000,000 in 3 months\' time and will keep the fun
ID: 2760095 • Letter: Y
Question
Your company will receive USD10,000,000 in 3 months' time and will keep the funds for a 3-month period to cover a payable 6 months from today. Your analysts think that interest rates may fall from their current level at 6.1% and you want to protect the return you will get until you need the funds. BNP-Paribas, a French Bank, offers a FRA with an interest rate of 6% to cover the extra funds for the 3 month period 3 months from today. Your company decides to take the FRA offer from BNP-Paribas. What will happen to both parties if interest rates 3 months from now are at the following rates? Show all calculations leading to your conclusions on any amounts that might need to be exchanged.
• 6.1%
• 5.2%
• 6.0%
Explanation / Answer
Total Transaction value = $10,000,000
Current interest rate = 6.1%
The company has made a Forward rate agreement with Bank at Interest rate of 6%. So if after 3 month from 3 month from now interest rate is higher than 6% the company make a loss and of interest rate is lower than 6% then the bank will make loss.
Profit/ gain for company and Bank is calculated below:
Spot Interest rate = 6.1%
If interest rate is 6.1% then company will make loss and bank will gain.
Loss of company = $10,000,000 × (6.1% - 6%)/4
= $2,500
Hence, if interest rate is 6.1% the company will make loss of $2,500 and bank will gain of $2,500.
Spot Interest rate = 5.2%
If interest rate is 5.2% then company will make profit and bank will make loss.
Gain of company = $10,000,000 × (6% - 5.2%)/4
= $20,000
Hence, if interest rate is 5.2% the company will make profit of $20,000 and bank will make loss of $20,000.
Spot Interest rate = 6.0%
If interest rate is 6.0% then no body make any loss or gain.
Gain of company = $10,000,000 × (6% - 6%)/4
= 0
Hence, if interest rate is 6.0% then no body make any loss or gain.
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