Understanding Forward Rates: True or False? Analyzing Key Statements

Let's analyze each statement about forward rates: 1. **The forward rate is simply an expected spot rate.** - This statement is not entirely true. While forward rates can sometimes be interpreted as market expectations of future spot rates under the pure expectations hypothesis, they are also influenced by factors such as risk premiums. Forward rates are derived from current spot rates and could differ from actual future spot rates. 2. **Unlike the spot rates, the forward rates apply at the beginning of the period.** - Forward rates apply to specific future periods, but this doesn't necessarily define the exact timing relative to the beginning or end of these periods. This statement is misleading because it oversimplifies the concept. Forward rates are future rates agreed upon today for a specific period. 3. **The 3-year forward rate which applies over the period from year 2 to year 5 can be computed using 2-year and 5-year spot rates.** - This statement is true. To compute the forward rate for the period from year 2 to year 5 (which is a 3-year forward rate starting from year 2), you can use the relationship between the spot rates. The formula involves the spot rates for the 2-year and the 5-year periods. Therefore, the correct and true statement among the given options is: 3. **The 3-year forward rate which applies over the period from year 2 to year 5 can be computed using 2-year and 5-year spot rates.**