Tactical question related to FRM and interest rate swap valuation

[sridhar]

David,

This is not a "how to" question related to IR swap. More of an exam strategy thing.

Having gone through valuing a IR or currency swap via the bond methodology and the FRA methodology, it seems like the bond route is "faster" to compute -- certainly in a timed exam setting. (The FRA approach requires computing the forward rate(s) and then computing a semi-annual rate(s)....)

Since the two methodologies achieve the same end and since the FRA approach requires all the data needed by the bond methodology, is it safe to just master the bond approach -- strictly from an exam pragmatics view....

Do you see any reason why FRM would justifiably insist on computing the swap value via the FRA method? What's the wisdom on this from prior FRM exams?

--sridhar

 

[David Harper CFA FRM]

Hi sridhar,

No reason whatsoever in regard to a bottom-line answer (what is the value of the IRP/currency swap).
The two reasons I feel this strategy might *not* be safe are:

1. The 2008 AIMs added the FRA methods (they were not in the prior AIMs). Where before they had one AIM on swap valuation, they now have effectively four
2. Due to time constraints, the question may not be "what is the value of the swap?" (i.e., it can take much time to get to the bottom line answer). Instead, the question may refer to just a piece of the puzzle (or perhaps, who knows, a few question in case-study like approach).

The other "bonus" of knowing both is that with the FRA, as i think you probably already know, with that first step, you are still studying a very testable idea: that forward rates are extracted from spot rates. This by itself will almost certainly appear, so you are not wasting brain shelf space...

David