Book 4_Derav_READING 72_PRICING AND VALUATION OF FORWARD CONTRACTS AND FOR AN UNDERLYING WITH VARYING MATURITIES

Question 1

The value of a forward contract at initiation

Answer 1

is zero.

Question 2

During its life, the value of a forward contract

Answer 2

• Buyer: the spot price - PV of the forward contract price
• Seller: PV of the forward contract price - Spot price

Question 3

At expiration, the value of a forward contract

Answer 3

• Buyer: The spot price - the forward contract price
• Seller: The forward contract price - Spot price

Question 4

An implied forward rate

Answer 4

Two strategies have the same yield over the total period:
- Investing from t = 0 to the forward date, and rolling over the proceeds for the period of the forward.
- Investing from t = 0 until the end of the forward period.

Question 5

In a forward rate agreement (FRA),

Answer 5

• the fixed-rate payer (long) will pay the forward rate on a notional amount of principal at a future date
• the floating-rate payer will pay a future reference rate times that same amount of principal

Question 6

FRAs are used primarily by

Answer 6

financial institutions to manage the volatility of their interest-sensitive assets and liabilities.