An investment firm entered into a basic interest rate swap with a company called BlueCap 18 months ago. As per the agreement, the investment firm receives a fixed rate of 10 percent annually and pays the three-month LIBOR on a principal of $100 million for a two-year period. Payments occur every 3 months in arrears. Assume that interest rates have been decreasing since the initiation of the swap.

Part I.

Suppose today is the 6th scheduled cash flow swap date. Three months ago, the 3-month LIBOR rate was 6.5 percent. The current market prevailing interest rate is 6 percent annually with quarterly compounding. Your supervisor has requested a report on the value of the swap contract. What value should you report?

Part II.

Regrettably, your client BlueCap has informed you just before 3:00 PM that they have filed for bankruptcy and cannot make any further payments including the one scheduled today. What loss or gain do you need to record in your trading book?