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Answer: The Eurodollar futures rate is greater than the forward rate (per FRA) because (i) the futures contract settles daily and (ii) the FRA probably settles at T + 0.25 years.
For interest-rate products, the **Eurodollar futures rate is generally greater than the corresponding forward rate** because futures are **marked to market daily**. This creates a convexity effect that makes futures rates higher than forward rates when rates are positively related to the payoff. So the correct choice is the one that states: - the **futures rate is greater than the forward rate**, and - the reason is **daily settlement/marking to market**. That is **D**.
Author: Manit Arora
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Question 172.7. With respect to the convexity adjustment applied to a Eurodollar futures contract that has a final settlement at time (T), which of the following is TRUE?
A
The forward rate (per FRA) is greater than the Eurodollar futures rate because (i) the futures contract settles daily and (ii) the FRA probably settles at T + 0.25 years.
B
The forward rate (per FRA) is greater than the Eurodollar futures rate because (i) the Eurodollar has additional currency risk and (ii) the FRA probably settles at T − 0.25 years.
C
The Eurodollar futures rate is greater than the forward rate (per FRA) because (i) the Eurodollar has additional currency risk and (ii) the FRA probably settles at T − 0.25 years.
D
The Eurodollar futures rate is greater than the forward rate (per FRA) because (i) the futures contract settles daily and (ii) the FRA probably settles at T + 0.25 years.
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