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Interest rate swap Triple A and Triple B have been offered the following rates per annum on a $10 million 5-year loan:

Interest rate swap Triple A and Triple B have been offered the following rates per annum on a $10 million 5-year loan:

 

 

 Triple A

 Triple B

S&P credit rating

AAA

BBB

Fixed rate

10.5%

13.6%

Floating rate

LIBOR

LIBOR + 1%

 

Assume TripleA requires a floating-rate debt and TripleB requires a fixed-rate debt. 

 

a) Design an interest rate swap such that the total gain from entering this swap contract is split equally between TripleA and TripleB, whilst the swap bank obtain 0.1% per annum. 

 

b) Assume that a swap bank is NOT required to enter interest rate swaps. Suppose Triple A can raise S$10 million in both fixed-rate and floating-rate markets at the above interest rates. Design an interest rate swap such that the total gain from the swap for Triple A is two times larger than that for Triple B. 

 

c) What are the types of risk facing Triple A and Triple B in this agreement?

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