| Derivatives - single currency, interest rate contracts |
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Forward Rate Agreement
A Forward Rate Agreement (FRA) is an interest-rate agreement based on a notional principal amount under which a buyer and seller agree to exchange the difference between the current interest rate and a pre-agreed fixed rate, struck on the transaction date of the FRA, for a specified future period (e.g. 3 months), starting at the settlement date (e.g., 6 months from the transaction date).
No principal changes hands - only the difference between the rate prevailing on the settlement date and the agreed rate is paid/received at the settlement date. If rates have risen, then at settlement the purchaser of the FRA receives the difference in rates from the seller. If they have fallen, the seller receives the difference from the buyer.
Swaps - Fixed/Floating
A contract where a party has agreed to pay to its counterparty a fixed-rate interest stream based on a notional principal over a specified period of time in exchange for a floating-rate interest stream on that same notional principal. The principal is not exchanged either at the beginning or end of the transaction and the contract is settled by the periodic exchange of the net interest flow between the counterparties.
Swaps - Floating/Fixed
A contract where a party has agreed to pay to its counterparty a floating rate interest stream based on a notional principal over a specified period of time in exchange for a fixed-rate interest stream on that same notional principal. The principal is not exchanged either at the beginning or end of the transaction and the contract is settled by the periodic exchange of the net interest flow between the counterparties.
Swaps - Floating/Floating
A contract where the reporting institution has agreed to pay to its counterparty a floating rate interest stream based on a notional principal over a specified period of time in exchange for a floating-rate interest stream (based on a different reference rate) on that same notional principal. This is sometimes called a basis swap. Only contracts where both interest streams are denominated in the same currency are recorded here. The principal is not exchanged either at the beginning or end of the transaction and the contract is settled by the periodic- in exchange of the net interest flow between the counterparties.
Options - Bought (Purchased)
An interest-rate option contract purchased by the reporting institution which gives it the right (but not the obligation) to lock into a predetermined interest rate either at a fixed point in the future (European-style) or at a time chosen by the reporting institution up to the maturity of the option (American-style).
Options - Sold (Written)
An interest-rate option contract in which the selling party is required to carry out the terms of the contract if called upon by the option holder, thus enabling the option holder to 1ock into a predetermined interest rate either at a fixed point in the future (European-style) or at a time chosen by the option holder up to the maturity of the option (American-style).
Interest rate futures
An interest-rate futures contract is an exchange-traded contract in which the parties agree to pay/receive a specified rate of interest on a specified amount for a specified period, starting at some future date. The reference rate may be short-term, typically based on a 3-month Treasury Bill or interbank rate, or longer-term, based on five-year, ten-year or twenty year bonds.
• Futures - Bought (Purchased): A purchaser of a contract agrees to receive an interest rate (which is equivalent to placing a deposit or purchasing a bond).
• Futures - Sold: A seller of a contract agrees to pay an interest rate (receive a deposit or sell a bond.
Source: Central Bank of Ireland |
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| Article appeared in the April 2000 issue.
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