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1

If I interpret your question below correctly: I don't understand why the cash flow for the EUR spot long position is being calculated the way it is. It makes no sense to me. Seeing as it is a spot rate why is it's cash flow not simply spot * 100 MM EUR notional ? You want to know why Jorion takes 100MM EUR * spot * 1/(1+eur_rate) instead of 100MM ...


1

The rate of interest on cash and the cost of borrowing the stock work in opposite directions. Think of the cost of borrowing the stock as a kind of "dividend" that the stock pays off to its holders. As a stock owner you receive this amount [if you lend the shares] while you pay the interest rate if you hold the stock on margin.


2

Strictly speaking, any risk-free interest rate can be composed into three components: The rate expectations component is the market's "true" expectation for future interest rate. A bond risk premium component: longer maturity bonds have higher duration risk than cash. Accordingly market participants will demand more compensation for taking on duration ...


3

it's easiest to see in terms of replication. The pay-off of a forward contract is $$ S_T - K. $$ We can replicate this precisely and statically by buying one unit of stock, $S_0,$ and $Ke^{-rT}$ riskless bonds growing at rate $r.$ So its value today is $$ S_0 - Ke^{-rT}. $$ This has zero value if and only if $K= S_0 e^{rT}.$ This value is then called ...


2

The forward price $F$ for a forward contract, determined at the contract inception time today, is the price that the holder will pay at maturity $T$ to buy the underlying equity. Then the payoff, at maturity $T$, of the forward contract is given by \begin{align*} S_T-F. \end{align*} The present value of the contract is then \begin{align*} e^{-rT} ...


0

Using the $T$-forward measure $Q^T$, where the numeraire is the price of the zero-coupon bond $p(t, T)$ maturing at time $T$, we can see that the forward rate is the expectation of the future short rate $r_T$: $$ f(t,T) = \mathbb{E}^T \left[ r_T \mid \mathcal{F}_t \right] \, . $$ See chapter 26 of Tomas' book ...


2

When you buy a forward you don't have to invest any money, so that's to your advantage in a world of positive interest rates. To charge you the same as the spot rate would be unfair, you would be "getting something for nothing", that is why the appropriate price for a forward is higher. It takes the interest rate into account, balancing things out. In ...


1

if I short the futures, at expiry I'll lose if 3 months LIBOR goes higher than the initial forward price If you short the future and LIBOR rate goes up you will actually make money, not lose money. If you short a Eurodollar contract you are effectively locking in that interest rate. Here's an example. Say it's December 2015 and you need to borrow 1M ...



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