Answer: The forward rate is normally higher than the futures rate.

## Explanation For interest rate derivatives like FRAs and Eurodollar futures, the forward rate is typically higher than the futures rate due to **convexity adjustment**. This occurs because: 1. **Mark-to-market settlement**: Futures contracts are marked to market daily, creating cash flow timing differences 2. **Correlation between rates and margin flows**: When interest rates rise, futures prices fall, and the short position receives margin payments that can be reinvested at higher rates 3. **Convexity effect**: This systematic advantage for the short position means futures rates must be lower than forward rates to compensate The relationship is given by: $$\text{Forward Rate} = \text{Futures Rate} + \frac{1}{2}\sigma^2 T_1 T_2$$ Where: - $\sigma$ = volatility of short-term interest rate - $T_1$ = time to maturity of the contract - $T_2$ = time to maturity of the underlying rate Therefore, the forward rate is normally higher than the futures rate.

Author: LeetQuiz Editorial Team