Forward Rate Agreement - FAQs

FRA is an agreement between two parties who agree on a fixed rate of interest to be paid/received on a fixed date in the future. The interest exchange is based on a notional principal amount for a term of no greater than six months. FRAs are used to assist companies manage interest rates exposures.

FRAs can be used by investors who have a desire or need to alter their interest rate or cash flow profile to suit their particular needs. FRAs are used by investors looking to protect themselves from, or take advantage of, future interest rate movements.

Variable rate investors may use FRAs to alter their interest gain by converting from being a variable rate interest receiver to a fixed rate interest receiver in a market where interest rates are expected to fall. Fixed Rate investors could use a FRA to convert from fixed interest payer to variable floating interest payer in market where interest rates are expected to rise.

A FRA is an agreement between you and the Bank to exchange the net difference between a fixed rate of interest and a floating rate of interest. This exchange is based on the notional amount you require for the term nominated. The net difference between the two interest rates is applied against the underlying asset.

For example, XYZ Corporation, who has invested on a fixed interest rate basis, has formed the view that interest rates are likely to rise. XYZ elect to receive variable for all or part of the remaining term of the investment using an FRA (or a series of FRAs, (see Interest Rate Swaps), while their underlying investment remains fixed, but hedged.

There are no fees or other direct costs associated with FRAs. The price of a FRA is simply the fixed rate of interest at which the FRA was agreed between yourself and the Bank. The FRA rate will depend on the term of the FRA, how far forward the agreement is set for and current market interest rates.

A FRA can be arranged for one to six month terms, commencing up to 18 months from deal date.

Their flexibility. FRAs can commence out of any working day for a one to a six month period. The notional amount of the FRA can equal the principal of your investment or can cover a percentage of your investment. You can transact an FRA as your business needs arise or as your views on interest rates change.

Bank of Melbourne is happy to quote on FRAs of $1,000,000 face value or more.

Yes. Clients are able to use FRAs to lock in a fixed interest rate on expected investment interest returns. For example, XYZ Corporation has an investment due to roll in three months time for a further period of six months. Concerned that interest rates are falling, they want to secure a fixed return for that period. XYZ enters into a six month FRA today, commencing in three months time and maturing in nine months as the receiver of the fixed rate.

If your view of interest rates changes at any time after you have entered into the FRA, you have two choices. You can terminate the FRA, in which case the Bank will calculate any residual value and either the Bank will pay you this amount or you will pay the amount to the Bank. The residual value will depend on current interest rates at the time of termination. Alternatively, you can enter into an equal but opposite FRA which cancels the original transaction, leaving a residual value to be paid on the commencement date of the new FRA.

No. As the FRA is a separate transaction it remains in place. However, you may wish to terminate the FRA as explained above.

Yes. By entering into a FRA you have expressed your view on interest rates. Should interest rate movements be different to your expectations the FRA may have the opposite effect to what you were trying to achieve with the transaction. You can however, reverse or terminate the FRA should this start to happen (remembering you may be required to pay the Bank the difference between market interest rates and the FRA rate for the term of the FRA).

If you decide that FRAs are appropriate for you, the Bank will require you to sign our standard terms and conditions. These documents are easy to read as they have been written in plain English. They summarise the terms and conditions under which you agree to deal with the Bank.

Entering into a Forward Rate Agreement will also involve credit decisions by the Bank in relation to the FR. This aspect of the transaction will be discussed with you by your Financial Markets representative.

Simply phone your Financial Markets representative to discuss your needs.