A company issues an inverse floating-rate note with a face value of $30 million and a coupon

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A company issues an inverse floating-rate note with a face value of $30 million and a coupon rate of 14% minus Libor. It uses the proceeds to buy a bond with a coupon rate of 8%.

A. Explain how the company would manage the risk of this position using a swap with a fixed rate of 7%, and calculate the overall cash flow given that Libor is less than 14%.

B. Explain what would happen if Libor exceeds 14%. What could the company do to offset this problem?

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Derivatives

ISBN: 9781119850571

1st Edition

Authors: CFA Institute

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