Question
A finance company raised $50 million by issuing a 6-year bond, paying 10% interest per annum. The company gives 1-year loans, totalling $50 million at
A finance company raised $50 million by issuing a 6-year bond, paying 10% interest per annum. The company gives 1-year loans, totalling $50 million at prime rate + 8% per annum, where the prime rate will be at the-end-of-year prime rate. Now consider the following interest rate swap: National principal: 50 million Term: 6 years Fixed rate payment, or receipt, at: 12% per annum Floating rate payment, or receipt, at: the prime rate plus 7%
(i) Show how the finance company can use the interest rate swap to eliminate its reinvestment rate risk.
(i) Suppose that an investor can buy units of a mutual fund at the prevailing net asset value of $30 per unit. Assume that the mutual fund charges 3% front-end fee for the purchase of its units. What is the total amount the investor will pay for buying 1,000 units of the mutual fund?
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