Abstract :
All firms-domestic or multinational, small or large, leveraged or unleveraged- are sensitive to
interest rate movements in one-way or another. They have some exposure to interest rate risk if
they have any asset that earn interest or any on which interest is paid. Interest rate risk can be
significant for companies with massive financial assets and liabilities unless it is properly
managed or hedged. Interest rate options can be arranged to hedge a series of future interest
periods or for a single interest period of up to one year, which is known as interest rate
guarantee. Alternatively, the terms borrowerʹs option and lenderʹs options are used to describe
single interest period interest rate options and interest rate caps and floors to describe a series of
payments or receipts. This paper tries to discuss the alternative methods that are available to
hedge interest rate risk on a short-term three months loan, and a three year long-term, both
required in three months time. The initial section discusses hedging short-term risks using a
forward rate agreement, short-term interest futures, and borrowers’ and lenders’ interest options;
and their comparative advantages and disadvantages.
