Question
Company A has a floating-rate liability of $100 million, indexed to 6-month LIBOR + 100 basis points. The payment is made every 6 months. The
Company A has a floating-rate liability of $100 million, indexed to 6-month LIBOR + 100 basis points. The payment is made every 6 months. The current term of the liability is 2 years.
Company A decided to transform its floating-rate liability into a fixed-rate liability by entering into a 2-year interest rate swap with company B. The notional amount of the swap is $100 million. Company A will pay B an annual fixed rate of 6.25% payable semi-annually and receive 6-month LIBOR flat. Net cash flows will be paid semi-annually.
Assume that the 6-month LIBOR rates realized for the 2 years are as follows:
Year | 6-mth LIBOR |
0 | 6.00% |
0.5 | 6.25% |
1.0 | 5.75% |
1.5 | 5.50% |
2.0 | 6.00% |
A) From the perspective of company A, calculate the following cash flows (use negative sign if outflow, positive sign if inflow),
Company As payment to its lender
Company As payment to company B
Company As receipt from company B
by completing the table below.
Year | 6-mth LIBOR | Company As payment to lender | Interest rate swap | Net cash flow to A | |
Payment of A to B | Receipt by A from B | ||||
0 | 6.00% | NA | NA | NA | NA |
0.5 | 6.25% | ||||
1.0 | 5.70% | ||||
1.5 | 5.50% | ||||
2.0 | 6.00% |
B) Based on the result of part (a), what is the ending liability of company A after entering into a swap with company B?
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started