Question 2: Swaps

The cost to IBM and KDB of accessing either fixed rate yen or the floating rate dollar market for a new debt issue is as follows:

Company	Fixed rate Yen Available	Floating rate Dollar Available
KDB	4.9%	Libor + 0.80%
IBM	4.5%	Libor + 0.25%

Suppose IBM would like to borrow fixed rate yen, whereas KDB would like to borrow floating rate dollars. Answer part (a), (b) (c) and (d) below:

A)Identify the overall spread (basis point) of the swap and at what rate should each party borrow to create the swap? IBM has comparative advantage in which rate? (3 marks)

B)What is the fixed rate Yen at which IBM can borrow through interest rate/currency swap if KDB can borrow at IBMs floating rate of Libor+0.25%? (2 marks)

C)Assuming a notional principle equivalent to $125 million and a current exchange rate of Yen105/$, what do these possible cost savings translate into in Yen terms (total value)? (2 marks)

D)Assuming that Bank of American is the intermediary and charges a fee of 8 basis points to arrange the swap. If IBM realises all the saving from the swap then what is IBM borrowing cost and what is the cost savings translate into Yen terms? (3 marks)