Question
1. The Bank of Moronto has negotiated a plain vanilla swap in which it will exchange fixed payments of 10 percent for floating payments equal
1. The Bank of Moronto has negotiated a plain vanilla swap in which it will exchange fixed payments of 10 percent for floating payments equal to LIBOR plus 0.5 percent at the end of each of the next three years. In the first year, LIBOR is 8 percent; in the second year, 9 percent; in the third year, LIBOR is 7 percent. What is the total net payment the Bank of Moronto makes over the three-year period if the notional principal is $10 million?
2. Lizard National Bank purchases a three-year interest rate cap for a fee of 2 percent of notional principal valued at $50 million, with an interest rate ceiling of 11 percent and LIBOR as the index representing the market interest rate. Assume that LIBOR is expected to be 9 percent, 12 percent, and 13 percent at the end of each of the next three years, respectively. Determine the initial fee paid, and also determine the expected payments to be received by Lizard if LIBOR moves as forecasted.
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