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CA Final · Advanced Financial Management · Interest Rate Risk Management

Kaveri Engineering Ltd has bought a 3x9 FRA on a notional principal of Rs 20 crore at an agreed rate of 8% p.a. At settlement, the reference rate for the 6-month period is 9% p.a. Using the standard simple-interest FRA settlement formula (discounting the interest difference at the settlement rate), what is the settlement amount received by Kaveri?

Kaveri receives about Rs 9,56,938. The interest difference is Rs 20 crore x 1% x 6/12 = Rs 10,00,000, and because settlement occurs at the start of the period, it is discounted by 1.045, giving Rs 9,56,938.

  1. ARs 9,56,938 receivedCorrect
  2. BRs 10,00,000 received
  3. CRs 9,56,938 paid
  4. DRs 8,73,362 received

Explanation

Interest difference = 20,00,00,000 x (9%-8%) x 6/12 = Rs 10,00,000. Discount at the settlement rate: 10,00,000 / (1 + 0.09 x 6/12) = 10,00,000/1.045 = Rs 9,56,938. Kaveri is the buyer and the rate rose, so it receives. Rs 10,00,000 ignores discounting.

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