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Adelino says

Hi John,

Isn’t effective interest rate the same as lock-in-rate?

The formula for lock-in-rate says = 100 – (current futures price + unexpired basis on transaction date). In this case, lock-in-rate = 100 – (93.5 + 0.17) = 6.33% which is different from 7.33%.

John Moffat says

But you are forgetting the premium of 1% that they have to pay.

dewan says

well explained lecture as usual but doing some examples from the perspective of depositors would have been nice.Thank you

rouquinblanc says

Hello John

I tried with Libor 10%. And these are the results Ive calulated

Futures price on 01/01 = 89.93

Profit on futures deal = £0.84m

net pmt = £1.36m

which gives me an effective int rate or (1,36m*12/6)/40m= 6,8%. and not 7,3%

Could you please advise?

Thank you

John Moffat says

If LIBOR rises to 10% then the futures price on 1 January will be 90 – 0.17 = 89.83.

So the profit on the futures deal will be 40M x 6/3 x (93.50 – 89.83) x 1/400 = 0.734

So the net payment with be (40 x (10%+1%) x 6/12) – 0.734 = 1.468M

So the effective interest rate = 1.468/40 x 12/6 = 7.33%

Adelino says

Hi John,

Isn’t effective interest rate the same as lock-in-rate?

The formula for lock-in-rate says = 100 – (current futures price + unexpired basis on transaction date). In this case, lock-in-rate = 100 – (93.5 + 0.17) = 6.33% which is different from 7.33%.

mansoor says

Excellent!

John Moffat says

Thank you 🙂

zee says

well explained… thanks alot

John Moffat says

You are welcome 🙂

mishukkazi says

One of the Best lecturer i’ve ever seen 😀 Thank You Sir 😀

John Moffat says

You are welcome, and thank you for the comment 🙂

MrMac says

Hi John,

To add to the growing list of questions on lock-in rates and effective rates relating to the above lecture…

Firstly, could you please confirm if these are the same?

Secondly, in you used the expired basis (0.5-0.17 = 0.33) and added that to the LIBOR + premium (6% + 1%) to give you 7.33%.

In the current Kaplan Exam Kit for Q62 however they use the remaining basis and deduct it from the futures rate.

Applying that logic to the above example that would give us 93.5 – 0.17 = 93.33 or 6.67%.

Are the two ways of calculating lock in rates, and if so why do they give different answers?

thank you very much.

(This is my very last paper – thank you to you and everybody at OT for all your efforts in helping me get through all the previous 13 already.)

John Moffat says

I cannot comment on the particular Kaplan question because I only have the BPP revision kit.

However, the lock-in rate must be between the current futures price and the current libor equivalent.

So the alternative way of getting it here is to take the current futures price and add the remaining basis (because the equivalent LIBOR is more than the current futures price).

This gives 93.5 + 0.17 = 93.67 or 6.33%. To that of course we have to add the premium always payable which is 1%. Again it is 7.33%

MrMac says

Thanks John – I get that now.

Lightbulb moment! 🙂 may there be many more.

John Moffat says

You are welcome 🙂

Muhammad Majid says

Can you please explain that if we use this lock in rate as the final calculations it will be good and enough for getting marks in the exam? as if the simple requirement is to calculate effective interest rate then we could use this simple Lock-In-Rate method to find the effective interest rate.

John Moffat says

It will be sufficient for the exam unless (obviously) the question specifically asks you to show exactly what happens on the date the loan starts and the futures deal is closed.

Jorge says

Hi

Very useful lecture. But just a quick one, do we always add the expired basis and add to Libor at start in estimating the lock-in rate?

John Moffat says

The lock in rate is always between the current future price and the current libor, and that determines whether you add or subtract.

Jorge says

Thanks but can u elaborate a little further please

John Moffat says

As the basis decreases, LIBOR and the futures price will get closer together.

panggujuan says

Hi, It is very good lectures and helps me a lot! I didn’t understand it when I took part in the exam in F9 and fully understood and will have confidence to pass it once!

anisa786 says

Thanks for the lecture. Please explain what is lock in rate and we would use it. Also if tick value is given do we use this to calculate profit and loss?

John Moffat says

On the date of the transaction, we calculate the interest at what the rate is on that date, and calculate the profit or loss on the futures.

Because we are able to estimate the basis risk, we can calculate an effective interest rate on the date of the transaction that give the net effect (of using the actual rate and adding or subtracting the profit/loss on the futures). This is called the lock-in rate.

If the tick value is given, then you can use this to calculate the profit or loss on futures, but you do not actually need to use it – you can calculate the profit or loss in the normal way (it will give the same result). I never bother using ticks 🙂

oluwatosin says

very nice lecture God bless you.

John Moffat says

Thank you 🙂

khaledsarfraz says

Very good way of teaching. Wonderful lectures, easy to understand. It clarifies my confusions about very difficult topic about derivatives. God bless you.

deniseyang says

Can I ask how to calucate the profit or loss on the interest rate future when there’s a tick value involved? thanks.

John Moffat says

You never actually need to use ticks.

However, if you want to use them then you calculate the difference between the buy and sell prices in numbers of ticks (a tick is 0.01), multiply by the numbers of contracts, and then multiply by the tick value.

deniseyang says

Thanks for making a point, clarifing a lot.

John Moffat says

You are welcome 🙂

deepmaharaj says

very nice lecture. God bless

Mark says

Very nice

vmngoc says

Thanks a lot!

yengibaryan says

Very good lectures!!!. Thank you very much!!!