Part 1: Interest Rate Swaps and their Valuation Suppose that we have the following zero-coupon yields. Annual interest rates tnat are semi-annually compounded 1. What is the fair fixed rate in a 2-year interest rate swap in which fixed and floating payments are exchanged every six months? Note that this is a little different from the lecture slides where payments were quarterly and the reference rate was the three-month spot rate. 2. Treat the two sides of the interest rate swap as a fixed coupon bond and a floating coupon bond as we did in class (by adding the notional to the end of the contract). Calculate the modified durations of the fixed coupon and floating coupon bonds. 3. Suppose that half a year passes. The term structure of zero-coupon yields is now Annual interest rates that are sem-annually compounded 1 If you entered into a fixed-for-floating contract previously (with a notional of $100 ), what is the value of your position now? Why did you make or lose money? (Think about this in terms of how sensitive each side of the interest rate swap is to a change in interest rates.)