Question #3

Reading: Reading 30 Pricing and Valuation of Forward Commitments

PDF File: Reading 30 Pricing and Valuation of Forward Commitments.pdf

Page: 2

Status: Unattempted

Part of Context Group: Q3-5 First in Group
Shared Context
- Which statement most accurately describes a 2 x 3 forward rate agreement? A) Contract expires in two months on an underlying loan settled in three months. B) Two-month underlying interest rate on a contract settled in three months. C) Underlying loan of two month maturity under a contract that expires in three months.
Question
Which forward rate agreement would most effectively hedge Vetements Verdun's exposure to LIBOR?
Answer Choices:
A. 3 x 2
B. 2 x 5
C. 2 x 3
Explanation
Vetements Verdun needs to be hedged against 90-day LIBOR rates that will prevail 60 days from now. Such a hedge would require a two-month contract on three-month rates, to be settled in five months: a 2 x 5.
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