In search of the convexity adjustment: Evidence from the sterling futures and IMM FRA markets

Russell Poskitt

Journal of Futures Markets, 2008, vol. 28, issue 7, 617-633

Abstract: This study examines daily and intraday data on sterling interest rate futures and IMM forward rate agreement (FRA) contracts for evidence of the convexity adjustment in FRA quotes. The futures/FRA differential is marginally negative, contrary to the predictions of convexity models. Standard statistical tests confirm that the futures/FRA differential does not differ between contract maturities. Regression analysis also fails to find any support for the predicted positive relationships between the differential and the term to settlement and volatility of interest rates. These results suggest that dealers in the sterling FRA market do not price convexity into quotes on FRA contracts. © 2008 Wiley Periodicals, Inc. Jrl Fut Mark 28:617–633, 2008

Date: 2008
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