Forward Premium/discount formula

CFA Level II
#1

Hello all,

Based on the CFA book,

Covered interest rate parity formula: F=S*(1+ia)/(1+ib)

The formula can be rearragened to:

F-S=S*[1/(1+ib)]*(ia-ib)

I just dont see how? Can someone explina how to convert the first forumula to the second one, please?

Thank you!

#2

F − S = S × (1 + ia) / (1 + ib) – S

= S × (1 + ia) / (1 + ib) – S × (1 + ib) / (1 + ib)

= S × [(1 + ia) / (1 + ib) – (1 + ib) / (1 + ib)]

= S × [(1 + ia) – (1 + ib)] / (1 + ib)

= S × (1 + ia – 1 – ib) / (1 + ib)

= S × (ia – ib) / (1 + ib)

= S × [1 / (1 + ib)](ia – ib)

#3

So which formula should we remember? and use in the exam?

#4

Hi S2000magician,

Thanks for the help like always!

Thank you!

#5

You’re quite welcome.

#6

First one is basic. Another may be derived from 1st.

#7

Flashback is right. The second one is derived from the first one. It is mentioned in the CFA book but not in the Kaplan. But at this point, I dont want to guess which is going to be shown since it does not take too much extra time to memorize both.

#8

I personally use this one, as it’s the way Basit did it in the Elan/Wiley guide and simply the way I learned it. Don’t forget to multiply your rates by Actual/360 if dealing with a term other than one year.

#9

True for Econ session. In Derivatives session it is not multipled than powered ^n/365.