In pages 526 of CFA book 5, I don’t understand how forward discount factors on exhibit 14 was computed. I do understand for the period 1 but don’t understand period 2 onward. Thanks for your anticipated response.
I haven’t a copy of the curriculum.
If you can post the relevant numbers (without violating copyright restrictions), I’ll give explaining the computations a shot.
Thanks, for period 2 Years= 1.0, Notation= 1f1, Forward rate= 3.6%, 0.5×forward rate=1.8002%, 1+forward rate=1.01800%, Forward discount factor=0.967799, I don’t understand how the forward discount factor was computed. I used (1/1.01800^2) but I got 0.9649492. The differences become more significant as the period increases.
Remember is not an ordinary PV calculation with one rate ! Its calculation with the repective spot rates(forward rates) or you can say an arbitrage free approach.
the 1f1= 1/(1.015*1.018) => 0.967
I don’t know where the 1.5% rate arose, but it’s essential in doing the calculation.
Just to be clear: 1f1 is the 1-year forward rate starting one year from today; thus, 1f1 = 3.6% (which is given).
1f1 _ is not _ a discount factor.
Make sure that you understand the notation.
Thanks, I understand it now
The 6 month spot rate is 3.0%, that is where the 1.5% comes from.