Currency Swaps: Terms of Spread
In the cash market, an American Bank (A) can issue either yen 1 billion worth of bonds yielding 5.3% p.a. and priced at par or $10 million worth of bonds yielding 6.5% p.a. and priced at par.
At the same time, a Japanese bank (B) can either issue yen 1 billion worth of bonds yielding 5.5% p.a. and priced at par of $10 million worth of bonds yielding 6% p.a. and priced at par.
Current yen dollar rates are $0.01/yen.
After the swap, the American Bank prefers to make payments in Dollars, and the Japanese Bank prefers to make payments in Yen.
All interest payment are annual. An intermediary has concluded a swap deal for both banks. Assume a maturity of 7 years.
If a swap intermediary fee is 30 basis points (US$) and both (A) and (B) gain 20 points from the swap, what are the terms of the spread? Show all payments!
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Solution Summary
This solution shows the terms of the spread in the business swap of bonds at different yields between the American Bank and Japanese bank.