Explore BrainMass

Swap Market and Currency Problem

1. At present, LIBOR3 is 7.93% and LIBOR6 is 8.11%. What is the forward rate for a LIBOR3 deposit to be placed in three months?

2. Company A, a low-rated firm, desires a fixed-rate, long-term loan. A currently has access to floating interest rate funds at a margin of 1.5% over LIBOR. Its direct borrowing cost is 13% in the fixed-rate bond market. In contrast, company B, which prefers a floating-rate loan, has access to fixed-rate funds in the Eurodollar bond market at 11% and floating-rate funds at LIBOR + ½ %.

a. How can A and B use a swap to advantage?

b. Suppose they split the cost savings. How much would A pay for its fixed-rate funds? How much would B pay for its floating-rate funds?

3. Nestle rolls over a $25 million loan priced at LIBOR3 on a three-month basis. The company feels that interest rates are rising and that rates will be higher at the next roll-over date in three months. Suppose the current LIBROR3 is 5.4375%.

a. Explain how Nestle can use an FRA at 6% from Credit Suisse to reduce its interest rate risk on this loan.

b. In three months, interest rates have risen to 6.25%. how much will Nestle receive/pay on its FRA? What will be Nestle's hedged interest expense for the upcoming three-month period?

4. Suppose that IBM would like to borrow fixed-rate yen, whereas Korea Development Bank (KDB) would like to borrow floating-rate dollars. IBM can borrow fixed-rate yet at 4.5% or floating rate dollars at LIBOR +0.25%. KDB can borrow fixed-rate yen at 4.9% or floating -rate dollars at LIBOR +0.8%.

a. What is the range of possible cost savings that IBM can realize through an interest rate/currency swap with KDB?

b. Assuming a notional principal equivalent to $125 million, and a current exchange rate of 105 yen/dollar, what do these possible cost savings translate into in yen terms?

c. Redo parts a and b assuming that the parties use Bank of America, which charges a fee of 8 basis points to arrange the swap.

5. Explain how Cisco Systems can use arbitrage to create a forward to fix the interest rate on a three month $10 million loan to be taken out in nine months. The loan will be priced off LIBOR.


Solution Summary

This posting provides detailed solutions to the student's swap market and currency problems.