Answered: What is the value of this interest rate…

What is the value of this interest rate swap for you? Use the data in Table 1. Please show your calculations. Discuss your result.

International Financial Management

14th Edition

ISBN:9780357130698

Author:Madura

Publisher:Madura

Chapter21: International Cash Management

Section: Chapter Questions

Problem 10QA

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Concept explainers

Swaps

A swap is a derivative contract in which two parties are agreed to exchange their cash flows from two different financial instruments for a defined period. In swap contracts, cash flows from one financial instrument are fixed and cash flow from other financial instruments is variable based on the interest rate, exchange rate, and commodity price. Swap contracts are transacted in an over-the-counter system. Swap contracts are utilized to hedge risk and mitigate loss.

Question

Question 1

You work at the interest rates swaps trading desk of an investment bank. Exactly three years ago you entered into an interest rate swap with a client with a notional of £200 million. The client is paying a fixed rate of 4% with semi-annual frequency and receiving the floating rate LIBOR with semi-annual frequency. The interest rate swap had a maturity of six years when it was initiated. Today is payment day and you have already exchanged the cash-flows for today. What is the value of this interest rate swap for you? Use the data in Table 1. Please show your calculations. Discuss your result.

You observe the following market for zero-rates. Rates are continuously compounded.
Zero rate
0.20%
1.40%
2.50%
3.50%
4.40%
5.20%
5.90%
6.50%
7.00%
7.40%
7.70%
7.90%
Maturity (years)
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
5.0
5.5
6.0
Table 1

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