Forward rate agreement

A contract fixing today the interest rate on a notional amount for a future period, settled in cash on the gap between that rate and the reference rate when it is set. Its fixed rate is a forward rate implied by spot rates.

Where you will meet it

Forward rate agreement appears in 4 learning outcomes on the CFA syllabus. A few of them:

• Explain how the rate on an interest rate forward contract is fixed
  CFA Level I · Derivatives

  “An interest rate forward, or forward rate agreement, fixes today a rate that will apply to a future period on a notional principal.”

• Explain the pricing of interest rate forwards and futures, and work out their no-arbitrage value and say what it means
  CFA Level II · Derivatives and Risk Management

  “An FRA fixes today the rate for a future borrowing period, implied by two spot market reference rates.”

• Explain the pricing of interest rate swaps, and work out their no-arbitrage value and say what it means
  CFA Level II · Derivatives and Risk Management

  “It is a blend of FRA rates, not an average of spot rates, and gives the swap zero value at initiation.”

• Explain how the Black model values European swaptions and European interest rate options
  CFA Level II · Derivatives and Risk Management

  “A caplet, a call on a future reference rate, is worth c = notional × accrual fraction × discount factor to the payment date × [FRA × N(d1) − X × N(d2)], paid one period after the rate is set.”

See also

Forward rate · Reference rate · Spot rate

Practise it

• Today's practice question One question, with every wrong option explained.
• Free Level I diagnostic test Twelve questions that show which topics to start with.
• Free finance calculators Check your arithmetic on the exam's core formulas.

All terms beginning with F · Glossary