Interest Rate Futures
These can be short term or long term
No principal amount is transferred - only margin
This is an off the balance sheet instrument
The underlying asset is implied forward interest rates
The factors that affect the rate of interest are risk, maturity and liquidity.
The "real" rate of interest is the nominal rate of interest minus the rate of inflation.
Interest rates are either fixed or floating (also known as variable)
There are two types of interest payment
Fixed - lock in a fixed rate for the period.
High Interest Rates Mean
Increase in borrowing costs, so companies are less likely to borrow money to fund new projects.
Company profits will be lower
Fall in fixed interest bonds
Potential drop in ordinary shares
Stronger pound against other currencies. Investors will be buying pounds to take advantage of the higher interest rates.
The governments interest rate is a benchmark for other rates since these transactions are the safest.
If people expect interest rates to fall then long-term rates will fall in relationship to short-term rates.
This is because people will not borrow money now, but will wait, inorder to get a lower "fixed" interest rate.
If people expect interest rates to rise then long-term rates will rise in relationship to short-term rates.
This is because people will borrow now rather than wait for interest rates to rise.
An interest rate is often referred to as a discount rate. At a 15% discount rate, the present value of £1 in one year is 0.87p.
Zero rate ?
The most common measure of interest is the London Interbank Offer Rate (LIBOR)
This comes in varioud maturities, one month, three month, six month etc and is the rate of interest offered between eurocurrency banks for fixed-term deposits.
Converting future rates to forward rates requires a convexity adjustment
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