SCENARIO 4: DESIGN AN INTEREST RATE SWAP

LXN Corporation and Musgrave Minerals Limited (MGV) both wish to invest $20 million in 5 years and have been offered the rates shown in Exhibit 2. LXN wishes to invest at a floating rate of interest, while MGV requires a fixed-rate investment.

Fixed Rate Floating Rate

LXN 3% LIBOR-0.6%

MGV 3.8% LIBOR+0.8%

Exhibit 2: Interest rates

Task 4.1: This task requires you to design a vanilla swap that will appear equally attractive to LXN and MGV. Assume that a financial institution, acting as an intermediary, is planning to charge a 0.2% premium.