Lesson 32 of 39 · Part N · Level 2 · Explained
Forward rate agreements: hedging the interest on import credit
How an importer on supplier's or buyer's credit with a floating interest rate can fix that rate for a future period through a forward rate agreement (FRA) with its AD, and how the AD must cover every FRA the same day, keep its spread within 10 basis points and keep total FRAs within 25% of its average monthly FX inflows.
In Lesson 31, Importing into Free Trade Zones, Sadia and Rakib learned whose goods are whose inside a zone. Today an old friend of the desk is back, and his worry is not goods. It is interest.
Remember Tahmid? In Part D, Lesson 16, Buy now, pay later: supplier's credit, we met him buying a printing machine from a new overseas supplier and paying later. Lesson 17, Buyer's credit and longer terms, then showed the other way to pay later, through a foreign lender. His machine now hums in the factory. But his credit carries a floating interest rate, so the interest moves with a benchmark rate every period. "Last time the bill went up," Tahmid tells Sadia, the senior import desk officer. "Next time it may go up again. I sleep like a man waiting for an exam result."
Rakib, the new officer on Sadia's team, scratches his head. "Can we lock the rate for him, the way exporters lock an exchange rate?"
Sadia smiles. "There is a tool for that now, and a guest who knows what interest does to a factory's cash." The guest is Mithu, a chartered accountant and former CFO of a large export group. She has watched floating rates eat many a profit margin. "A floating rate is like a rickshaw fare agreed at the end of the ride," Mithu says. "A forward rate agreement agrees the fare before you sit down."
This lesson covers the first two paragraphs of Part N: what an FRA is and when an importer may use one (N-1), and how the AD must cover its own side (N-2).
To facilitate effective interest rate risk management …
In plain words
N-1 lets ADs offer a new protection tool. Its aim is effective interest rate risk management for importers using suppliers'/buyers' credit in foreign currency under Part-D and other relevant instructions. ADs may enter into Forward Rate Agreements (FRAs) with their own importers, on four conditions.
(a) Purpose. The FRA is solely for hedging the interest rate risk of the underlying credit. No speculative, leveraged or uncovered position is allowed. So no betting on rates and no FRA bigger than the real need.
(b) Who is eligible. Importers who have started permissible usance imports under suppliers'/buyers' credit within the prescribed rate. They may hedge only the floating rate portion of that credit. The circular doesn't say here which rate "prescribed rate" means.
(c) How it works. The FRA is a notional agreement between the importer and the AD to fix an agreed interest rate for a future period. Nobody lends or repays anything under it: actual loan repayment does not take place under the FRA. Only the net interest differential changes hands: the gap between the contracted FRA rate and the actual realized SOFR for that period. Settlement is in BDT for domestic payment, or in the FRA-referenced foreign currency for foreign settlement. The notional principal must not exceed the underlying credit amount.
A pretend example: FRA rate 4.00 percent, actual SOFR 5.00 percent, notional USD 100,000 for half a year. The gap of 1 percent on USD 100,000 for half a year is about USD 500, and only that difference is settled.
(d) Tenor. The FRA tenor must match the remaining interest period of the borrowing, within the permissible tenure in paragraph 1 of Part-D (the timetable from Lesson 16).
At the desk
Tahmid's supplier's credit for his printing machine has USD 300,000 still outstanding, with interest that floats with SOFR. He asks Rakib for an FRA on USD 400,000 "to be safe". Sadia explains that under N-1(c) the notional principal cannot exceed the underlying credit amount, and under N-1(a) anything extra would be an uncovered position. Mithu adds, "An umbrella bigger than you is just a sail."
Key words
- Forward Rate Agreement (FRA)
- Under N-1, a notional agreement between an importer and its AD that fixes an agreed interest rate for a future period. Only the net interest difference is settled; no loan is repaid under it.
- Notional principal
- The amount on which the FRA interest difference is worked out. No money is lent or repaid on it. Under N-1(c), it must not exceed the underlying credit amount.
- SOFR
- Secured Overnight Financing Rate: a US dollar benchmark interest rate.
- Hedging
- Taking a step that protects against a risk in a real deal, for example against interest rates going up.
Read the rule as written (Para N-1)
To facilitate effective interest rate risk management for importers availing suppliers’/buyers’ credit in foreign currency as per Part-D and relevant other instructions, ADs may enter into Forward Rate Agreements (FRAs) with their respective importers under following conditions and features:
(a) Purpose: The FRA shall be used solely for hedging the interest rate risk of the underlying suppliers’/buyers’ credit. No speculative, leveraged, or uncovered position shall be permitted.
(b) Eligible transactions: Importers having initiated permissible usance imports under suppliers’/buyers’ credit within the prescribed rate are eligible to hedge the floating rate portion of such credit through an FRA.
(c) Contract structure: The FRA is a notional agreement between importers and ADs to fix an agreed interest rate for a future period. Settlement under the FRA shall be made in local currency (BDT) for domestic payment or in the FRA-referenced foreign currency for foreign settlement, based on the net interest differential between the contracted FRA rate and the actual realized SOFR for the relevant period. Actual loan repayment does not take place under the FRA. The notional principal shall not exceed the underlying credit amount;
(d) Tenor: The FRA tenor shall correspond to the remaining interest period of the underlying borrowings, within the permissible tenure, as specified in paragraph 1 of Part-D.
Source: Bangladesh Bank, FEPD-1 Circular No. 30, 13 August 2026, Part N, paragraph 1 (page 38). The original circular is the authority.
Counter-hedging by ADs
In plain words
N-1 protects the importer. But when Tahmid passes his rate risk to the AD, where does the risk go? N-2 answers: not onto the bank's balance sheet. FRAs must stay strictly hedging instruments, and ADs must fully offset their FRA exposures, on five conditions.
(a) Same-day cover. The AD must not take any market risk into its own books. It must cover each FRA on the same day, on a back-to-back basis, with foreign or local counterparties. Think of a middleman who buys rice only when he has already sold it.
(b) Settling the cover, and the spread.
- Counter-hedging instruments may be settled in foreign currency, as per international market conventions.
- Foreign currency inflows or outflows from these hedges are allowed strictly to neutralize the AD's exposure on the related FRA, and for nothing else.
- The pricing spread the AD keeps in an FRA deal must not exceed 10 basis points. A basis point is one hundredth of one percent, so 10 basis points is 0.10 percent.
(c) Papers. The AD keeps full documentation of price discovery, the justification of the counter-hedge rate, and the link between every foreign currency settlement and the underlying hedge need.
(d) Timing gaps. If the customer's FRA settlement and the counter-hedge settlement fall on slightly different days, the AD handles that temporary mismatch within its own internal market-risk limits. Note the difference: the cover is taken the same day, but the money may move on different days.
(e) An overall cap. The AD's total FRA notional outstanding must be ≤ 25% of its average monthly FX inflows over the past 12 months. Pretend figures: average monthly inflows of USD 40 million allow at most USD 10 million of FRAs outstanding. The circular doesn't define which inflows count.
Mithu sums it up: "The bank is the post office here. It passes the parcel on, keeps a small stamp fee, and does not open the box."
At the desk
Rakib books Tahmid's FRA at 11 a.m. and plans to find a counter-hedge "next week, when rates look better". Sadia stops him: under N-2(a), the AD must take no market risk into its books and must cover the same day, back to back, with a foreign or local counterparty. She also checks that the bank's spread is within 10 basis points and asks Rakib to file the price quotes and the reason for the counter-hedge rate, as N-2(c) requires.
Key words
- Counter-hedge
- The matching deal an AD makes with a foreign or local counterparty to cancel out its own risk from an FRA with a customer. Under N-2(a), it must be done on the same day, back to back.
- Basis point
- One hundredth of one percent (0.01 percent). Under N-2(b), the pricing spread an AD keeps in an FRA must not exceed 10 basis points.
- Market risk
- The risk of loss when market prices, such as interest rates or exchange rates, move.
- Price discovery
- The way a price or rate is found in the market, for example by collecting quotes from counterparties.
Read the rule as written (Para N-2)
To ensure that FRAs are used strictly as hedging instruments and do not results in the build-up of unmitigated market risk on the ADs’ balance sheets, ADs shall fully offset their FRA exposures on following conditions:
(a) ADs shall not take any market risk into its own books and shall cover the transaction on the same day on a back-to-back basis with foreign or local counterparties;
(b) Counter-hedging instruments may be settled in foreign currency as per international market conventions. Foreign-currency inflows or outflows arising from such hedges shall be permissible strictly for the purpose of neutralizing ADs’ exposure on the related FRA. The pricing spread retained by ADs in a FRA transaction shall not exceed 10 basis points;
(c) ADs shall maintain full documentation supporting price discovery, justification of the counter-hedge rate, and linkage of all foreign-currency settlements to the underlying hedge requirement;
(d) Temporary timing mismatches, if any, between customer FRA settlement and counter-hedge settlement shall be managed within ADs internal market-risk limits;
(e) AD’s total permissible FRA notional outstanding must be ≤ 25% of its average monthly FX inflows over the past 12 months.
Source: Bangladesh Bank, FEPD-1 Circular No. 30, 13 August 2026, Part N, paragraph 2 (page 38). The original circular is the authority.
Putting it together
So far: An AD may offer an FRA to an importer on suppliers'/buyers' credit in foreign currency, only to hedge the floating rate part of the real credit, never to speculate. The FRA fixes a rate for a future period, settles only the net difference against actual SOFR in BDT or the FRA-referenced foreign currency, never exceeds the credit amount, and runs for the remaining interest period within paragraph 1 of Part-D. The AD covers every FRA the same day back to back, keeps a spread of at most 10 basis points, documents everything, and keeps total FRAs within 25% of its average monthly FX inflows over the past 12 months.
Next: Lesson 33, Ending an FRA early, documents and reporting, shows what happens when Tahmid wants to step out of an FRA before its end, and what papers and reports go with it.