Question

Assume that you have already bought a 90-day LIBOR-based floating rate note (FRA) with notional amount of $50m. With the strike rate (the agreed-upon rate) of 3%, and assuming you receive the float payments, and the LIBOR at expiration is 4%

(1) how much you would pay (receive) to (from) the FRA seller?

(2) If LIBOR at expiration is 2.5%, how much you would receive from the FRA seller?

Answer 1

1]

As the LIBOR at expiration is higher than the strike rate, you will receive a payment from the FRA seller.

Payment received from FRA seller = notional amount * (LIBOR at expiration - strike rate) * (90 / 360)

Payment received from FRA seller = $50,000,000 * (4% - 3%) * (90 / 360)

Payment received from FRA seller = $125,000

2]

As the LIBOR at expiration is lower than the strike rate, you will make a payment to the FRA seller.

Payment made to FRA seller = notional amount * (strike rate - LIBOR at expiration) * (90 / 360)

Payment made to FRA seller = $50,000,000 * (3% - 2.5%) * (90 / 360)

Payment made to FRA seller = $62,500