The payoff for an IRF is typically based on:

The payoff for an IRF is typically based on:

• A. A fixed cash payment at contract expiry
• B. The contract rate times notional
• C. The difference between the market rate at settlement and the contract rate
• D. The notional value multiplied by a fixed factor

Answer: (C)

An Interest Rate Forward payoff comes from how the market rate at settlement compares to the rate fixed in the contract. Since it’s a forward on interest rates, you don’t get a fixed payment or a simple fixed-rate amount; you receive or pay an amount proportional to the difference between the observed market rate and the contract rate, scaled by the notional and the accrual period. If the market rate ends up higher than the contract rate, the holder benefits; if it ends up lower, the counterparty benefits. For example, with a notional of 1 million and a year-fraction of 0.5, if the settlement rate is 4.7% and the contract rate is 5%, the payoff reflects the negative difference (0.047 − 0.05) times the notional and the period. The other descriptions describe fixed payments or non-rate-based amounts, which don’t capture how the IRF’s value moves with actual rates.

An Interest Rate Forward payoff comes from how the market rate at settlement compares to the rate fixed in the contract. Since it’s a forward on interest rates, you don’t get a fixed payment or a simple fixed-rate amount; you receive or pay an amount proportional to the difference between the observed market rate and the contract rate, scaled by the notional and the accrual period. If the market rate ends up higher than the contract rate, the holder benefits; if it ends up lower, the counterparty benefits. For example, with a notional of 1 million and a year-fraction of 0.5, if the settlement rate is 4.7% and the contract rate is 5%, the payoff reflects the negative difference (0.047 − 0.05) times the notional and the period. The other descriptions describe fixed payments or non-rate-based amounts, which don’t capture how the IRF’s value moves with actual rates.