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Assignment - 1

(8 points in total)

1. Consider the following 3 x 6 FRA contract issued on 15 May 2024, Tuesday:

§ Notional amount: EUR 20 million

§ Expiry (or, Effective date): 3 months (15 August 2024, Thursday)

§ Termination date: 6 months (15 November 2018, Friday)

§ 3m EURIBOR: 2.36%

§ 6m EURIBOR: 2.52%

§ Day count convention: ACT/360

Note: there are 92 calendar days between 15 May 2024 and 15 August 2024, and 184 calendar days between 15 May 2024 and 15 November 2024.

Questions:

1) (3 points) Calculate the market forward rate for the FRA contract (i.e. the rate at which the contract value is zero at inception).

2) (1 point) At expiry, the 3m EURIBOR on the settlement date is 2.60%, what’s the P/L for the long party?

2. Consider a “$” denominated stock which does not pay any dividend. The interest rate of $ in the market is 2% p.a. (continuous rate, ACT/365). The current stock price is $100.

Questions:

1) Calculate the 1-year (365 days) Forward prices with the below assumptions:

i. (1 point) stock lending rate (i.e. repo rate) is zero

ii. (1 point) stock lending rate is 2% p.a. (continuous, ACT/365)

2) Assume that an investor is long a 1-year forward with a bank at the forward price of $102.5 for 2,000 stocks.

i. (0.5 point) At the expiry date, the stock price is $120, what is the P/L for the investor?

ii. (1.5 points) Explain qualitatively how the bank will hedge this forward contract.