Enter the spot rate until a further future date and until a closer future date, and the number of years until further date and number of years until a closer future date to determine the forward rate.
Forward Rate Formula
The following formula is used to calculate a forward rate.
FR = [(1+S1)^n1/(1+S2)^n2]^(1/(n1-n2)) – 1
- Where FR is the forward rate
- S1 is the spot rate until a further future date
- S2 is the spot rate until a closer future date
- N1 is the number of years until the further future date
- N2 is the number of years until the closing date
Forward Rate Definition
A forward rate is defined as the relationship of the yield curve between two different bonds.
Forward Rate Example
How to calculate a forward rate?
- First, determine the spot rates at the two different time periods.
For this example, we will say the spot rates are .10 for the shorter time and .15 for the longer time.
- Next, determine the two time periods.
We will say the time periods are 10 and 15 years respectively.
- Finally, calculate the forward rate.
Using the formula we find the forward rate to be .257.
A forward rate describes the yield curve of different bonds with different maturity periods. Forward rates are interest rates that are applicable to a transaction that will occur in the future and measure the adjusted cost to carry an investment when compared between two different time periods in the future.