I can’t fathom what is the difference between the two?
The primary difference is the same as the difference between a forward contract on a stock and a call or put option on that stock:
So it is with FRAs vs. interest rate options:
The subtle difference is that the FRA is settled on the expiration date of the FRA, while an interest rate option is settled after the expiration (or exercise) date of the option (e.g., a call option on 6-month USD LIBOR would be settled 6 months after the option is exercised).
An FRA is equivalent to a pair of interest rate options: one long call and one short put, with the fixed rate on the FRA being the strike rate on the options.
Simplify the complicated side; don't complify the simplicated side.
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Dankeschön. Incidentally, did you not mean “one long call and one short put” instead of “one call and one short”?
sinep wrote: Dankeschön.
sinep wrote: Incidentally, did you not mean “one long call and one short put” instead of “one call and one short”?
I fixed it.