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B.F Goodrich/Rabobank interest rate swap case
By: Mitchell Gahan 13179537 James Grimard 13191612
Josh Hutchins 13220396
Lecturer: Colette Southam
Due Date: 17/06/13
The first key issue in the B.F Goodrich/Rabobank interest rate swap case was why they felt the swap was needed? B.F Goodrich was the fourth largest U.S producer of tires and the largest U.S producer of polyvinyl chloride (PVC) resins and compounds. During 1982 Goodrich announced a $33million dollar loss and needed to borrow 50 million to fund its ongoing financial needs. In addition Goodrich was disinclined to borrow the funds in the short term as they didn’t want to compromise its future flexibility by borrowing short term. The company also felt due to the*…show more content…*

The floating rate is pegged to LIBOR – X therefore the interest rate risks would dependant on the London interbank rate (Refer to Exhibit A). Conversely with Rabobank also known as the receiver in this transaction receiving fixed payments and paying a floating rate will make a profit if interest rates decrease and a loss if interest rates increase. (Refer to Exhibit B) Interest rate swaps are very popular due to the arbitrage opportunities they provide. Due to varying levels of creditworthiness in companies, there is often a positive quality spread differential, which allows both parties to benefit from an interest rate swap. In the case of B.F. Goodrich and Rabobank the QSD was +1.675% (Refer to Exhibit C), indicating that the swap of the interest rates is in the interest of both parties. The arbitrage in affect between the two creditworthy firms moves the USD and the Euro currencies closer to purchasing power parity. This inturn contributes to the market becoming more efficient as trading institutions take action on potential price mismatches. Exhibit A Exhibit B Exhibit C | Floating | Fixed | | | BFGoodrich | LIBOR | 12.5% | | BFGoodrich wants floating. | Rabobank | LIBOR + 0.25 - 0.375 | 10.70% | | Rabobank wants fixed. | |

The floating rate is pegged to LIBOR – X therefore the interest rate risks would dependant on the London interbank rate (Refer to Exhibit A). Conversely with Rabobank also known as the receiver in this transaction receiving fixed payments and paying a floating rate will make a profit if interest rates decrease and a loss if interest rates increase. (Refer to Exhibit B) Interest rate swaps are very popular due to the arbitrage opportunities they provide. Due to varying levels of creditworthiness in companies, there is often a positive quality spread differential, which allows both parties to benefit from an interest rate swap. In the case of B.F. Goodrich and Rabobank the QSD was +1.675% (Refer to Exhibit C), indicating that the swap of the interest rates is in the interest of both parties. The arbitrage in affect between the two creditworthy firms moves the USD and the Euro currencies closer to purchasing power parity. This inturn contributes to the market becoming more efficient as trading institutions take action on potential price mismatches. Exhibit A Exhibit B Exhibit C | Floating | Fixed | | | BFGoodrich | LIBOR | 12.5% | | BFGoodrich wants floating. | Rabobank | LIBOR + 0.25 - 0.375 | 10.70% | | Rabobank wants fixed. | |

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