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**BATCHES FOR NOV
**

14 AND MAY 15

TO COMMEMCE IN

AUGUST (EVE)

AND SEPT

(MORNING)

SFM by CA PRAVINN MAHAJAN

1

Ph

–

9871 255 244

**Besides teaching since 1999 CA PRAVINN MAHAJAN has wide
**

experience in fields of SEZ consultancy, Taxation , Project Finance

He is actively trading in Stock market since 1995 (since teenage),

being a descendant of family of traders. He has extensively

researched Scams in stock Market and financial institutions over a

period of 20 years, starting from 1992 Harshad Mehta Stock Scam.

CHECK SCAMS AT END OF THIS MODULE

He has witnessed the advent of derivative trading since 2001 and

engaged in derivative (commodity and stock) trading since and

also took advantage from the new ventures commenced in form

of currency trading in 2008.

Due to his wast experience, study and understanding of Markets,

he has acquired indepth knowledge of various aspects and

concepts of Financial Management which is recognised by various

Business Administration Institutes and Training divisions of Banks

and Financial Institutions where he shared his Knowledge as guest

faculty. He delivered lectures on Scams in Indian markets

He is widely acknowledged and appreciated for his simplistic and story oriented delivery of

Complicated Concepts in the field of Finance, Prerfect illustration of which is given in this module,

in which discussion is made about realtively new concept in the field of Finance “FORWARD RATE

AGREEMENTS’’ which he also delivered in various organisaions.

He is known for adopting formula free approach for understanding and imparting such

understanding on various aspects of finance.

He has been a faculty exclusively for CA Since 2001 and is teaching MAFA / SFM since 2008. He has

designed various shortcuts in respect complicated topics like Money market hedge, Forward rate

interest, Bond duration besides others. 7 years experience in the similar subject has enabled to

understand the requirements of students and corrobrate and match it with the changing demands

and patterns of CA Examination and standards of ICAI

His BELIEVINGS

TEACHING, BESIDES AN ABILITY IS AN ART. TEACHING BECOMES FUN, WHEN INSTRUCTOR

THROUGH HIS INSTRUCTIONS INDUCES THE CONCEPTUAL LEVEL OF PUPIL TO MATCH HIS LEVEL

AND THEN INVITE INNOVATIVE QUERRIES FROM FRESH PERSPECTIVE ORIENTED MIND OF PUPILS

LEARNING IS A NEVER ENDING PROCESS, SOMETIMES STUDENTS RENDERS NEW PERSPECTIVE TO

ANY CONCEPTS AND DISCUSSIONS

CLOSED AND BLOCKED MIND IS A SOCIAL AND ECONOMIC WASTE. ONE SHOULD KEEP HIS MIND

OPEN TO NEW PERSPECTIVES AND OPPORTUNITIES

ATTITUDE OF ANGER AND ARROGANCE DOES NOT GEL WITH OUR PROFESSION. PEOPLE SKILLS

MATTERS

CHECK VIDEO OF ‘FORWARD RATE INTEREST’ on Facebook page “Pravinn Mahajan Classes”

Or Youtube link https://www.youtube.com/watch?v=yJIivLL6fCc&feature=youtu.be

SFM by CA PRAVINN MAHAJAN

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A Forward Rate Agreement, or FRA, is an agreement between two

parties

**who want to protect themselves against future movements in
**

interest rates.

**By entering into an FRA, the parties lock in
**

an interest rate for a stated period of time

starting on a future settlement date, based

on a specified notional principal amount.

**The BUYER of the FRA enters into the
**

contract to protect itself from a future

increase in interest rates. This occurs when a

company believes that interest rates may rise

and wants to fix its borrowing cost today.

SFM by CA PRAVINN MAHAJAN

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**The SELLER of the FRA wants to protect itself
**

from a future decline in interest rates. This strategy

is used by investors who want to hedge the return

obtained on a future deposit.

FRAs are settled using cash on the settlement

date. This is the start date of the notional loan or

deposit. The exposure to each counterparty is determined by the interest

rate differential between the market rate on settlement date and the rate

specified in the FRA contract. There are no principal flows.

Payment and gain or loss is

made and ascertained on

Settlement date

_____________________________________________________________________

Agreement date

STATED PERIOD OF TIME

Settlement date

Maturity date

SETTLEMENT PERIOD

The FRA is a very flexible instrument and can

be tailored to meet the needs of both the

buyer and seller to protect themselves against

the volatility of interest rates which affect their

future borrowings or investments.

1.

2.

**Forward Rate Agreements can be used for
**

Hedgeing - Hedging through FRA’s enables the prospective Borrower

or Depositor to Cover the risk arising due to fluctuation in Interest Rates

**Arbitrage – Arbitrage in FRA’s enables speculators to make profits
**

due to flutuation in Interest rates. FRA Arbitrage requires understanding of

“PRICING OF FRA’s ’’ and “FORWARD

RATE INTEREST’’

SFM by CA PRAVINN MAHAJAN

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**HEDGING THROUGH FRA’s
**

WHY THE NEED FOR HEDGING THROUGH FRA

ARISE AND WHO ARE THE PARTIES INVOLVED

.

₹

Mr. X

-________________________ ______________________________________

TODAY

Date on

3 Months

6 MONTHS

Which loan is

Needed

**PERIOD FOR WHICH LOAN
**

IS NEEDED

Mr. X will Borrow ₹ 1,00,000 after 3

Bank A

months from

2.

SFM by CA PRAVINN MAHAJAN

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**BANK A IS currently charging
**

rate of interest of M + 2%.

**AND CURRENT MIBOR IS 8%
**

PROBLEM OF X

X EXPECTS THAT MIBOR WILL INCREASE AFTER 3

MONTHS TO 9.75%, THEREBY INCREASING TOTAL

RATE OF INTEREST TO (9.75 + 2%) = 11.75%

X DOES NOT WANT TO PAY RATE OF INTEREST

MORE THAN 11% I.e X NEEDS MIBOR OF 9%

INTRODUCING BANK B

BANK B will come to the rescue of X

.

SFM by CA PRAVINN MAHAJAN

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**NOTE - There are 3 parties to understand mechanism of hedge through forward rate
**

agreement

(1) Mr. X

(2) Bank A (3) Bank B

Mr. X will deal with bank A and Bank B

There will be no dealing or connection or transaction between Bank A

and Bank B

X will make a transaction with Bank A in delivery Market i.e X will take

actual loan or delivery of funds from Bank A after 3 months and will

repay such loan with interest after 6 months from date of Loan

X will make transaction with Bank B in future or Forward market

Whether FRA TO BE BOUGHT OR SOLD

DELIVERY

MARKET

X will actually take

delivery of funds as a loan

from Bank A on this date

BANK A

_______________________________________________________________________________

Today

FUTURE

OR

FORWARD

MARKET

3 Months

6 Months

**WHAT TRANSACTION WILL
**

. X MAKE WITH BANK B

In FUTURE MKT.

?

BANK B

SFM by CA PRAVINN MAHAJAN

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Points To be kept in mind for hedging

.

** Two Markets are needed for hedging. In this case
**

(1) Spot or delivery market – from where loan is taken

(2) Forward or Future Mkt. – From which hedge is made

If One action (purchase) is taken in one market then opposite action

(Sale) is to be taken in another market

If entry is taken in one market by making a transaction (purchase),

then exit from such market can be taken by making opposite

transaction (sale)

DELIVERY

MARKET

1

2

**X will take a loan
**

of Rs 1,00,000 from

Bank A on this date

---------------------------------i.e X Bought Money

.

.

Bank A

__________________________________________

Today - Entry date for FRA

3 MonthsExit date for FRA

FUTURE

OR

X will Sell FRA

X will

5

FORWARD

to

Bank

B in future

Buy FRA

Market on this date

MARKET

today From

Bank B

3

**On closing date i.e on exit date FRA is SOLD to bank B in
**

Future Mkt, this implies on entry date i.e today, opposite

action must hv been take in future Mkt.

Thus today FRA is bought from Bank B in future Market

Since “purchase

money” action is

taken in delivery

market,

So opposite

action is to be

taken in Future

market

X will sell

money on this

date in Future

Market i.e he

will sell FRA on

this date

4

Since

X has to Borrow money after 3 Months So he will

buy FRA today (If X Has to Invest Money after 3 Months he will sell FRA today)

SFM by CA PRAVINN MAHAJAN

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MECHANISM OF FRA

**has to Borrow 1,00,000 after 3 months for 6 months
**

X will Buy FRA today from Bank B in Future Mkt (meaning & significance of buying FRA

explained in process and verification)

** He will Borrow From Bank A in delivery market after 3 months
**

He will sell FRA in Future Market to Bank B after 3 months

This procedure ensures

will pay his desired rate of interest irrespective of rate

of Interest in delivery Market I.e whether rate of interest of Bank A increases or

decreases after 3 months, Interest expense of

EIGHT

will be his desired rate

DENOMINATION OF FRA

**X will borrow money after 3 months for 6 months and he will hedge the
**

borrowing transaction by buying FRA. This FRA is denominated as 3 x 9 FRA or 3/9 FRA

9 Months

__________________________________________________________

3 Months

6 Months

SFM by CA PRAVINN MAHAJAN

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**HOW FRA ENSURES THAT
**

X’s Interest Expense will be his desired rate ,

whether actual rate of interest in delivery market increases or decreases.

(Process and Verification)

CURRENT RATE OF INTEREST OF BANK A IS M+2% and CURRENT M IS 8%, i.e effective

rate of Interest is 10%

X does not want to pay more than 11%

CASE 1

**RATE OF INTEREST INCREASES
**

M IN MARKET AFTER 3 MONTHS (i.e ON DATE OF LOAN IS 9.75%)

Rate of Interest On date of loan is 11.75%

Assumption

- rate of FRA in Future Mkt = Actual rate of Interst applicable in Market (if

nothing else given)

- Current rate of FRA offered by bANK B today is M+ 2 % and Bank B is Offering

M at 9%

DELIVERY

MARKET

Actual ROI is M+ 2 %

and Actual M is 9.75%

= 11.75%

Actual ROI is M+

2 % and M is 8%

= 10%

_________________________________

Today

3 months

FUTURE OR

FORWARD

MARKET

Rate of FRA

offered by Bank

B is M+2 % and

M is 9% i.e 11%

SFM by CA PRAVINN MAHAJAN

**Since Rate of FRA in Future Mkt
**

Not given, so rate of FRA =

Actual Rate of Interest

i.e Rate of FRA is 9.75 + 2 =

11.75%

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X will buy FRA today from Bank B @ 9 + 2 = 11%

.

**Meaning of Buying FRA
**

Practically FRA is bought

This implies

X made an agreement today to NOTIONALLY borrow ₹

1,00,000 from Bank B after 3 months at current rate of FRA i.e 9+ 2% = 11%

**But after 3 months actual rate if 9.75 + 2% = 11.75% , thus
**

benificial position

x is in

**X will Sell FRA after 3 months to Bank B at 11.75%, thus providing a
**

gain of 0.75% to

X. This gain is paid to

X by Bank B after 3

months i.e on the date he will take loan from Bank A

After 3 months

X will actually borrow ₹ 1,00,000 from Bank A at 11.75%

** On this date i.e on date of loan
**

X will sell FRA to bank B at 11.75% . Thus

gain to X is 0.75% which Bank B will pay to X on this date

Thus cost to

X is

Payable to Bank A

(after 6 months from date of loan)

Gain recievable from bank B

Net Interest cost to

X

=

=

11.75%

0.75%

11.00%

** Amount of gain receivable from Bank B
𝑝𝑒𝑟𝑖𝑜𝑑**

𝑜𝑓 𝑙𝑜𝑎𝑛

=

**( Difference between M on date of
**

Notional

12

SELLING FRA & BUYING FRA)

X Principal X

___________________________________________________________

1

=

+

Actual MiBor

On date of Loan

( 𝟗.𝟕𝟓% − 𝟗% ) 𝑿 𝟏,𝟎𝟎,𝟎𝟎𝟎 𝑿
𝟏

+ 𝟎.𝟎𝟗𝟕𝟓 𝑿

SFM by CA PRAVINN MAHAJAN 𝟔 𝟏𝟐 𝟔 𝟏𝟐

11 𝑝𝑒𝑟𝑖𝑜𝑑

𝑜𝑓 𝑙𝑜𝑎𝑛

12

X

=

₹ 358

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.

LOGIC OF AMOUNT OF GAIN PAYABLE BY BANK B TO

Amount of Interest is to be paid by

payable by Bank B to

X

X to Bank A after 6 months from date of loan. Gain

X is in the nature of compensation for additional interest payable by

**X to Bank A. Since this additional interest is payable after 6 months from date of loan, and
**

comensation is payable by bank B to

X on date of loan, So bank B will pay present value

such additional interest

Verification of Interest Cost to

X

Loan Required by X from bank A

1,00,000

Compensation recd from Bank B

358

Net loan to be taken from bank A

99,642

Amount payable to Bank A after 6 months

(1 + .1175/2)99642

= 1,05,496

Effective rate of interest to =

( 1,05,496 − 1,00,000 )

1,00,000

x

12

6

= 10.99 or 11%

**Thus Due to FRA Interest cost to X is 11%, although actual market rate on interest is
**

11.75%

SFM by CA PRAVINN MAHAJAN

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CASE 2

**RATE OF INTEREST DECREASES
**

M IN MARKET AFTER 3 MONTHS (i.e ON DATE OF LOAN IS 7.90 %)

Rate of Interest On date of loan is 9.90%

**Though actual rate of interest is reduced, but due to FRA hedge Effective
**

cost of Interest to X will be 11%.

DELIVERY

MARKET

Actual ROI is M+ 2 %

and Actual M is 7.90%

= 9.90%

Actual ROI is M+

2 % and M is 8%

= 10%

_____________________________________

Today

FUTURE OR

FORWARD

MARKET

3 Months – Date of loan

Rate of FRA

offered by Bank

B is M+2 % and

M is 9% i.e 11%

**Since Rate of FRA in Future Mkt
**

Not given, so rate of FRA =

Actual Rate of Interest

i.e Rate of FRA is 7.90 + 2 =

9.90%

X will buy FRA today from Bank B @ 9 + 2 = 11%

After 3 months

X will actually borrow ₹ 1,00,000 from Bank A at 9.90%

** On this date i.e on date of loan
**

to

X will sell FRA to bank B at 9.90% . Thus loss

X is 1.10% which Bank B will pay to

Thus cost to

X on this date

X is

Payable to Bank A

(after 6 months from date of loan)

Loss payable to bank B

Net Interest cost to

SFM by CA PRAVINN MAHAJAN

13

X

Ph

=

=

9.90%

1.10%

11.00%

–

9871 255 244

**Amount of Loss payable to Bank B
𝑝𝑒𝑟𝑖𝑜𝑑**

𝑜𝑓 𝑙𝑜𝑎𝑛

=

**( Difference between M on date of
**

Notional

12

SELLING FRA & BUYING FRA)

X Principal X

___________________________________________________________

1

=

+

Actual MiBor

On date of Loan

( 𝟕.𝟗𝟎% − 𝟗 % ) 𝑿 𝟏,𝟎𝟎,𝟎𝟎𝟎 𝑿 𝟏

+ 𝟎

.𝟎𝟕𝟗 𝑿

X 𝟔 𝟏𝟐

= 𝟔 𝟏𝟐

Verification of Interest Cost to 𝑝𝑒𝑟𝑖𝑜𝑑

𝑜𝑓 𝑙𝑜𝑎𝑛

12

₹ 529

X

Loan Required by X from bank A

1,00,000

Amount Payable to Bank B

529

Total loan to be taken from bank A

1,00,529

Amount payable to Bank A after 6 months

(1 + .0990/2)1,00,529

= 1,05,505

Effective rate of interest to X =

( 1,05,505 − 1,00,000 )

1,00,000

x

12

6

= 11.01 or 11%

SFM by CA PRAVINN MAHAJAN

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**Above senario explained the procedure to Use FRA hedge in the situation when
**

X needs to borrow funds after 3 months for 6 months

What if X Have surplus or Idle funds after 3 months for a period of 6 months,

i.e X needs to Invest surplus funds after 3 months for a period of 6 months.

₹

Mr. X

-________________________ ______________________________________

3 Months

Date on

6 MONTHS

TODAY

Which surplus is PERIOD FOR WHICH Investment

Invested

IS to be Made

**Mr. X will INVEST ₹ 1,00,000 after 3 months
**

With

SFM by CA PRAVINN MAHAJAN

Bank A

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**BANK A IS currently GIVING
**

rate of interest of M + 2%.

**AND CURRENT MIBOR IS 8%
**

PROBLEM OF X

X EXPECTS THAT MIBOR WILL DECREASE AFTER 3

MONTHS TO 6.25%, THEREBY REDUCING TOTAL

RATE OF INTEREST TO (6.25 + 2%) = 8.25%

X WANTS THAT RATE OF INTEREST ON

INVESTMENT SHOULD NOT BE LESS THAN 9% I.e X

NEEDS MIBOR OF 7%

INTRODUCING BANK B

**BANK B will come to the rescue of X
**

.

SFM by CA PRAVINN MAHAJAN

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Whether FRA TO BE BOUGHT OR SOLD

DELIVERY

MARKET

1

2

X will deposit ₹

1,00,000 in Bank A on

this date

---------------------------------i.e X Sell Money

.

.

Bank A

__________________________________________

Today - Entry date for FRA

3 MonthsExit date for FRA

FUTURE

OR

X will BUY FRA

X will

5

FORWARD

from Bank B in future

SELL FRA

Market on this date

MARKET

today to

Bank B

3

**On closing date i.e on exit date BOUGHT from bank B in
**

Future Mkt, this implies on entry date i.e today, opposite

action must have been take in future Mkt.

Since “Sell

money” action is

taken in delivery

market,

So opposite

action is to be

taken in Future

market

X will buy

money on this

date in Future

Market i.e he

will buy FRA on

this date

4

Thus today FRA is SOLD Bank B in future Market

SINCE

today

SFM by CA PRAVINN MAHAJAN

X Has to Invest Money after 3 Months he will sell FRA

17

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MECHANISM OF FRA

has to invest ₹ 1,00,000 after 3 months for 6 months

X will Sell FRA today from Bank B in Future Mkt

He will Invest in Bank A in delivery market after 3 months

He will BUY FRA in Future Marketfrom Bank B after 3 months

This procedure ensures

will recieve his desired rate of interest irrespective of

rate of Interest in delivery Market I.e whether rate of interest of Bank A decreases

or increases after 3 months, Interest income of

will be his desired rate

**HOW FRA ENSURES THAT
**

X’s Interest INCOME will be his desired rate ,

whether actual rate of interest in delivery market decreases or increases.

(Process and Verification)

CURRENT RATE OF INTEREST OF BANK A IS M+2% and CURRENT M IS 8%, i.e effective

rate of Interest is 10%

X does not want his interest income to be less than 9%

CASE 1

**RATE OF INTEREST REDUCES
**

M IN MARKET AFTER 3 MONTHS (i.e ON DATE OF Investment IS

6.25%)

Rate of Interest On date of investment is 8.25%

Assumption

- rate of FRA in Future Mkt = Actual rate of Interst applicable in Market (if

nothing else given)

- Current rate of FRA offered by bANK B today is M+ 2 % and Bank B is Offering

M at 7%

SFM by CA PRAVINN MAHAJAN

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DELIVERY

MARKET

Actual ROI is M+

2 % and M is 8%

= 10%

Actual ROI is M+ 2 %

and Actual M is 6.25%

= 8.25%

_________________________________

Today

3 months

FUTURE OR

FORWARD

MARKET

Rate of FRA

offered by Bank

B is M+2 % and

M is 7% i.e 9%

**Since Rate of FRA in Future Mkt
**

Not given, so rate of FRA =

Actual Rate of Interest

i.e Rate of FRA is 6.25 + 2 =

8.25%

X will sell FRA today to Bank B @ 7 + 2 = 9 %

.

**Meaning of SELLING FRA
**

Practically FRA is SOLD

This implies

X made an agreement today to NOTIONALLY INVEST ₹

1,00,000 to Bank B after 3 months at current rate of FRA i.e 7+ 2% = 9%

**But after 3 months actual rate if 6.25 + 2% = 8.25% , thus
**

benificial position

x is in

**X will buy FRA after 3 months from Bank B at 8.25%, thus providing a
**

gain of 0.75% to

X. This gain is paid to

X by Bank B after 3

months i.e on the date he will take invest in Bank A

After 3 months

X will actually invest ₹ 1,00,000 in Bank A at 8.25%

** On this date i.e on date of loan
**

X will buy FRA from bank B at 8.25% . Thus

gain to X is 0.75% which Bank B will pay to X on this date

SFM by CA PRAVINN MAHAJAN

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** Thus Interest income of
**

X is

Recievable from Bank A

(after 6 months from date of investment)

Gain recievable from bank B

Net Interest Income of

=

=

8.255%

0.75%

X

11.00%

** Amount of gain receivable from Bank B
𝑝𝑒𝑟𝑖𝑜𝑑**

𝑜𝑓 𝑙𝑜𝑎𝑛

=

**( Difference between M on date of
**

Notional

12

SELLING FRA & BUYING FRA)

X Principal X

___________________________________________________________

1

=

+

Actual MiBor

On date of

INVESTMENT
𝟏

+ 𝟎.𝟎𝟔𝟐𝟓 𝑿

X 𝟔 𝟏𝟐

( 𝟕% − 𝟔.𝟐𝟓% ) 𝑿 𝟏,𝟎𝟎,𝟎𝟎𝟎 𝑿 𝟔 𝟏𝟐

Verification of Interest Income to 𝑝𝑒𝑟𝑖𝑜𝑑

𝑜𝑓 𝑙𝑜𝑎𝑛

12

=

₹ 364

X

Investment to be made by X in bank A

1,00,000

Amount recd from Bank B

364

total investment to be made in bank A

1,00,364

**Amount recievable from Bank A after 6 months (1 + .0825/2) 1,00,364
**

= 1,04,504

( 1,04,504 − 1,00,000 )

Effective rate of interest =

1,00,000

x

12

6

= 9%

**Thus Due to FRA Interest income of X is 9%, although actual market rate on interest is
**

8.25%

SFM by CA PRAVINN MAHAJAN

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CASE 2

**RATE OF INTEREST INCREASES
**

M IN MARKET AFTER 3 MONTHS (i.e ON DATE OF investment is

8.20%)

Rate of Interest On date of loan is 10.20%

Assumption

- rate of FRA in Future Mkt = Actual rate of Interst applicable in Market (if

nothing else given)

- Current rate of FRA offered by bANK B today is M+ 2 % and Bank B is Offering

M at 7%

DELIVERY

MARKET

Actual ROI is M+

2 % and M is 8%

= 10%

Actual ROI is M+ 2 %

and Actual M is 8.20%

= 10.20%

_________________________________

Today

3 months

FUTURE OR

FORWARD

MARKET

Rate of FRA

offered by Bank

B is M+2 % and

M is 7% i.e 9%

**Since Rate of FRA in Future Mkt
**

Not given, so rate of FRA =

Actual Rate of Interest

i.e Rate of FRA is 8.20 + 2 =

10.20 %

X will sell FRA today to Bank B @ 7 + 2 = 9 %

After 3 months

X will actually invest ₹ 1,00,000 in Bank A at 10.20%

** On this date i.e on date of investment
**

X will buy FRA from bank B at 10.20%

Thus loss to X is 1.20% which X will pay to Bank B on this date

SFM by CA PRAVINN MAHAJAN

21

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** Thus Interest income of
**

X is

Recievable from Bank A

(after 6 months from date of investment)

Loss payable to bank B

Net Interest Income of

=

=

10.20%

1.20%

X

9.00 %

** Amount of gain receivable from Bank B
𝑝𝑒𝑟𝑖𝑜𝑑**

𝑜𝑓 𝑙𝑜𝑎𝑛

=

**( Difference between M on date of
**

Notional

12

SELLING FRA & BUYING FRA)

X Principal X

___________________________________________________________

1

=

+

Actual MiBor

On date of

INVESTMENT

( 𝟕% − 𝟖.𝟐𝟎% ) 𝑿 𝟏,𝟎𝟎,𝟎𝟎𝟎 𝑿
𝟏

+ 𝟎.𝟎𝟖𝟐 𝑿

X 𝟔 𝟏𝟐

= 𝟔 𝟏𝟐

Verification of Interest Income to 𝑝𝑒𝑟𝑖𝑜𝑑

𝑜𝑓 𝑙𝑜𝑎𝑛

12

₹ 576

X

Investment to be made by X in bank A

1,00,000

Amount payable to Bank B

576

Net investment to be made in bank A

99,424

**Amount recievable from Bank A after 6 months (1 + .102/2) 99,424
**

= 1,04,494

( 1,04,494 − 1,00,000 )

Effective rate of interest =

1,00,000

x

12

6

= 8.99 or 9%

**Thus Due to FRA Interest income of X is 9%, although actual market rate on interest is
**

10.20%

Pricing of FRA and Arbitrage through FRA in next Module

SFM by CA PRAVINN MAHAJAN

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Eg.

**AB Tech plans to borrow $10 million in 30 days at 90-day LIBOR plus 100
**

basis points. To lock in a borrowing rate of 7 percent, it purchases an FRA at a

rate of 6 percent. This contract would be referred to as a 1 x 4 FRA because it

expires in one month (30 days) and the underlying Eurodollar matures four

months (120 days) from now. Thirty days later, LIBOR is 7.5 percent.

Demonstrate that AB Tech's effective borrowing rate is 7 percent if LIBOR in

30 days is 7.5 percent.

Ans

AB Tech Plans to borrow $ 100 lacs 30 days from today for a period of 90 days

AB plans to borrow at 7%, but on date of borrowing is 7.5 + 1 = 8.5%

AB will borrow 100

lac @ 7.5 +1 =

8.5%. (money buy)

_____________________________________________

Today

1 month

**AB will buy money
**

i.e will buy FRA at

6 + 1 = 7%

3 month

AB will sell money

i.e will sell FRA at

7.5 +1 = 8.5%

** Since AB Tech has to borrow after 30 days, so Company will Buy FRA today (but
**

this is given in question) at 6 + 1 = 7%

Steps

- Company will by FRA today at 7%

- Company will borrow $ 100 lacs at 8.5% after 30 days

- Company will sell FRA on the date of borrowing at 8.5% . Thus gain on FRA 1.5%

Thus cost to AB is

Payable to Bank on loan

(after 3 months from date of loan) =

8.5%

Gain on FRA

=

1.5%

Net Interest cost to AB

7.00%

SFM by CA PRAVINN MAHAJAN

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** Amount of gain receivable on FRA
𝑝𝑒𝑟𝑖𝑜𝑑**

𝑜𝑓 𝑙𝑜𝑎𝑛

=

**( Difference between L on date of
**

Notional

12

SELLING FRA & BUYING FRA)

X Principal X

___________________________________________________________

1

=

Actual MiBor

On date of Loan

+

( 𝟕.𝟓 − 𝟔% ) 𝑿 𝟏𝟎𝟎,𝟎𝟎,𝟎𝟎𝟎 𝑿
𝟏

+ 𝟎.𝟎𝟕𝟓 𝑿
𝟑
𝟏𝟐

X 𝑝𝑒𝑟𝑖𝑜𝑑

𝑜𝑓 𝑙𝑜𝑎𝑛

12

= 𝟑 𝟏𝟐

$ 36,809

Statement of Verification

Loan required by AB

Gain on FRA

100,00,000

37,500

Net loan taken

99,62,500

Amount payable after 3 months

99,62,500 ( 1 + 0.085x 𝟑 𝟏𝟐

)

= 101,74,203

( 101,74,203 − 100,00,000 )

Effective rate of interest =

100,00,000

x

12

3

= 6.9%

0r 7%

SFM by CA PRAVINN MAHAJAN

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SFM by CA PRAVINN MAHAJAN

25

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.

SFM by CA PRAVINN MAHAJAN

26

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SFM by CA PRAVINN MAHAJAN

27

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Check demo video on Fb page Pravinn Mahajan classes

**NEW BATCH FOR NOV 14 & MAY 15 TO
**

COMMENCE IN AUG (EVE) & SEPT (MORNING)

BY

**DETAILED DISCUSSIONS AND MATERIAL
**

INCLUDING MODUS OPERANDI ON

KETAN PARIKH

SCAM (2000)

**- 100% SOLVED MATERIAL, GIVING COMPLETE
**

COVERAGE OF SCANNER, MANNUAL and RTP’S

- STORY ORIENTED APPROACH TO ALL CONCEPTS &

FORMULAS, which are GENERATED FROM BASIC IDEA THAT

FINANCIAL MANAGEMENT IS CONCERNED ABOUT

BUSINESS AND OBJECTIVE IS TO MAKE PROFIT

**- SIMPLE SHORT CUTS TO UNDERSTAND CONCEPTS
**

& COMPLETE PAPER IN LESSER TIME WITH

ACCURACY

- EMPHASIS ON SELF ATTEMPTING OF QUESTIONS IN

. CLASS

HARSHAD

MEHTA

SCAM (1992)

DABBA

TRADING

DEMAT

SCAM

(2006)

BADLA

TRADING

**- COMMAND OVER SUBJECT DURING CLASSES
**

- VISUALISATION OF LIVE TRADING ACCOUNT OF

STOCK, COMMODITY & CURRENCY

CLASSES AT ITO

HANS BHAWAN

( Adjacent to Institute of

Engineers Building)

**9871 255 244
**

SFM by CA PRAVINN MAHAJAN

28

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- SOLUTION FOR CA FINAL SFM NOV 15 PAPER (PRACTICAL QUESTIONS) BY CA PRAVIIN MAHAJAN
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- Solution to Assignment MUTUAL FUND
- SOLUTION TO PORTFOLIO MANAGEMENT ASSIGNMENT - CA FINAL SFM
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- CA - FINAL - SFM THEORY
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- CA FINAL Sfm Solution Nov2011

Simplistic and practical case study on FRA. by CA PRAVINN MAHAJAN

Simplistic and practical case study on FRA. by CA PRAVINN MAHAJAN

- SOLUTION FOR CA FINAL SFM NOV 15 PAPER (PRACTICAL QUESTIONS) BY CA PRAVIIN MAHAJANby Pravinn_Mahajan
- SOLUTION FOR CA FINAL SFM NOV 15 PAPER (PRACTICAL QUESTIONS) BY CA PRAVIIN MAHAJANby Pravinn_Mahajan
- SOLUTION CA FINAL SFM NOV 15 PRACTICAL QUESTIONS BY CA PRAVIIN MAHAJANby Pravinn_Mahajan
- Valuation of Business Solutionby Pravinn_Mahajan

- SOLUTION FOR CA FINAL SFM NOV 15 PAPER (PRACTICAL QUESTIONS) BY CA PRAVIIN MAHAJAN
- SOLUTION FOR CA FINAL SFM NOV 15 PAPER (PRACTICAL QUESTIONS) BY CA PRAVIIN MAHAJAN
- SOLUTION CA FINAL SFM NOV 15 PRACTICAL QUESTIONS BY CA PRAVIIN MAHAJAN
- Valuation of Business Solution
- Foreign Exchange Risk Management - Complete Sol PDF
- CA-FINAL SFM QUESTION PAPER NOV 13
- SOLUTION TO FOREIGN EXCHANGE RISK MANAGEMENT...
- Dividend Decision Sol
- Solution MERGER & ACQUISITION, CA-FINAL-SFM by CA PRAVINN MAHAJAN
- CA FINAL SFM - NOV 2012 Question PAPER
- Solution to right issue CA FINAL SFM By PRAVINN MAHAJAN
- LEASING SOLUTION CA-FINAL SFM (FULL)
- OPERATIONAL RESEARCH ASSIGNMENT............(CA FINAL COST AND OR)
- Solution to Assignment MUTUAL FUND
- SOLUTION TO PORTFOLIO MANAGEMENT ASSIGNMENT - CA FINAL SFM
- CA Final SFM May 2012 QUESTION PAPER
- CA - FINAL - SFM THEORY
- Pravinn Mahajan CA Ipcc Cost &; Fm Nov 2011 Solution
- Pravinn Mahajan CA FINAL SFM-NOV2011 Ques Paper
- CA FINAL Sfm Solution Nov2011

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