UBS AG, a Swiss global financial services company, is looking to hedge some of its euro zone exposure by borrowing in euros (). At the same time, Deutsche Bank AG, a German global banking and financial services company, is seeking to finance some of its Swiss francs exposure and wants to borrow in Swiss Francs to hedge its (SF) exposure. Both want the equivalent of $700 million in fixed rate financing for 5 years.

UBS can issue SF-denominated debt in the Swiss debt market at a coupon rate of 4.0% and -denominated debt in the euro debt market at a coupon rate of 5.6%. Deutsche Bank can issue -denominated debt in the German debt market at a coupon rate of 5.0% and SF-denominated debt in the Swiss debt market at a coupon rate of 4.4%.

Current spot rates in the currency markets are US $1.23/ and US $1.02/SF. Ignoring any transaction cost or fee, structure a currency swap agreement that would enable both firms to reduce their borrowing costs, versus what they would otherwise be, while hedging their currency exposures.

a.What is the current spot cross exchange rate (/SF)?

b.What are the initial principal amounts to be exchanged at year 0?

c.What are the annual payments to be exchanged each year, from year 1 through year 5?

d.What is the implied cross exchange rate (/SF) based on these annual payments? Is this implied cross rate at a discount or premium to the current spot cross rate computed in part a? Why?

e.What is the total savings (in interest rate & in dollar terms) in borrowing costs available from using the currency swap?