A Forward Rate Agreement (FRA) is an OTC interest rate derivative contract in which two parties agree to exchange interest payments on a notional principal amount for a specified future period, based on the difference between a pre-agreed fixed rate and a reference floating rate such as MIBOR or SOFR. The buyer of an FRA is protected against rising interest rates — they receive the difference if rates rise above the agreed fixed rate — while the seller benefits if rates fall below it. FRAs are commonly used by Indian banks, corporates, and financial institutions to hedge short-term interest rate risk on future borrowings or investments. Unlike interest rate swaps which cover multiple periods, an FRA covers a single forward period. Settlement occurs at the beginning of the reference period based on the discounted present value of the interest rate differential.
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