FinQuiz - Item-set Answers, Study Session 14, Reading 40.pdf - Reading 40 Pricing Valuation of Forward Commitments FinQuiz.com FinQuiz.com CFA Level II

FinQuiz - Item-set Answers, Study Session 14, Reading...

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Reading 40 Pricing & Valuation of Forward Commitments FinQuiz.com FinQuiz.com © 2018 - All rights reserved. FinQuiz.com CFA Level II Item-set - Solution Study Session 14 June 2018 Copyright © 2010-2018. FinQuiz.com. All rights reserved. Copying, reproduction or redistribution of this material is strictly prohibited. [email protected]
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Reading 40 Pricing & Valuation of Forward Commitments FinQuiz.com FinQuiz.com © 2018 - All rights reserved. FinQuiz Level II 2018 – Item-sets Solution Reading 40: Pricing & Valuation of Forward Commitments 1. Question ID: 71637 Correct Answer : A Three months after initiation, the current value of the original 6 x 9 FRA is determined using the 90- and 180-day LIBOR rates. The following steps will be followed to determine the current value of the FRA: Step 1: Calculate the new FRA rate of a contract which initiates today and expires at the same time as the original FRA. The relevant rates to use are the 90- and 180-day LIBOR. FRA (90, 180 – 90, 90) = {[1 + (0.0438 × 180/360)]/[1 + (0.0425 × 90/360)] – 1} ÷ (90/360 = 0.044626 or 4.46% Step 2: Calculate the current value of the FRA as the difference between the initial FRA price and the FRA price determined in step 2 discounted at the provided rate of 5.60% over a period of 180 days. Value of the FRA = {[(4.46% - 4.50%) × 90/360] × SEK 50,000,000}/[1 + (0.056 × 180/360)] = - SEK 6,534.5333 - SEK 4,549 Because the FRA rate has declined, the value of the FRA will be negative to Macro Limited. 2. Question ID: 71638 Correct Answer : C Because the original FRA contract is a 6 x 9 FRA, the relevant rates to use are the 180- and 270-day LIBOR for determining the potential for arbitrage profits. The FRA rate using the hypothetical market LIBOR rates is calculated as follows: FRA (0, 180, 90) = {1 + (0.0568 × 270/360)]/[1 + (0.056 × 180/360)] – 1}/(90/360) = 0.05681 or 5.68% Comparing the initial FRA rate of 4.50% to the market rate of 5.68%, the original contract would have been underpriced if the hypothetical rates actually existed at time 0.
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Reading 40 Pricing & Valuation of Forward Commitments FinQuiz.com FinQuiz.com © 2018 - All rights reserved. 3. Question ID: 71639 Correct Answer : C C is correct. Unlike a fixed-rate swap, a floating rate swap in general is not priced because a single coupon rate is not designated to the swap. At each reset date, the coupon rate will be re-established according to the LIBOR prevailing at the time. The same holds true for a floating rate bond which is used to price the swap; the coupon rate is reset at each reset date. A is incorrect. The statement holds true for fixed-for-fixed currency swaps in which the coupon rates on fixed-rate bonds are selected to match the fixed swap rates resulting in future net cash flows equaling zero. B is incorrect. The value of the swap is equal to par on each reset date. 4. Question ID: 71640 Correct Answer : B The notional principal paid by Macro Limited at contract initiation is equal to SEK 54,347,826.09 (£5,000,000/0.092).
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