The Swap Position 27 months (2.25 years) ago, your institution entered into a threeyear crosscurrency interest rate swap with an Australian retail chain. The swap agreement was overthecounter with the following terms: your institution is to pay 6month LIBOR + 0.55% per annum in USD and to receive 2.25% per annum (with semiannual compounding) in AUD. Payments are semi annual and on a notional principal of AUD20 million. The 6month LIBOR rate and the spot exchange rate at various dates over the last 27 months are shown in the table below:

(a) Compute the cash flow paid and received by your financial institution on each payment date of the swap (i.e., at t = 0, 6, 12, 18, and 24 months).

(b) Unfortunately for you and your institution, the counterparty to the swap (the Australian retail company) has just filed for bankruptcy with 9 months remaining on the swap agreement. Determine the current value of the swap agreement (and ultimately the cost) to your institution. You should assume that the current interest rate is 0.36% per annum in AUD and 0.25% per annum in USD (with continuous compounding) for all maturities.

Date of observation t = 0 (contract initiation) t = 6 months t = 12 months t = 18 months t = 24 months t = 27 months (today) 6-month LIBOR rate observed 1.74% 2.06% 2.31% 1.88% 1.36% 1.12% Spot exchange rate observed (AUD for 1 USD) 1.3152 1.3949 1.4156 1.4562 1.5908 1.4080 Date of observation t = 0 (contract initiation) t = 6 months t = 12 months t = 18 months t = 24 months t = 27 months (today) 6-month LIBOR rate observed 1.74% 2.06% 2.31% 1.88% 1.36% 1.12% Spot exchange rate observed (AUD for 1 USD) 1.3152 1.3949 1.4156 1.4562 1.5908 1.4080