Chapter 11, Problem 2BIC

While visiting one of my friends at a local bank, I overheard a high ranking bank executive tell one of his colleagues that “a plain vanilla interest rate swap is a contract where two counterparties exchange cash flows based on the differences in the variation of two floating-rate indices where the payments are computed on an amortizing notional principal amount and can be used to hedge the interest rate risk for an institution with more rate sensitive assets than rate sensitive liabilities.” Comment on this statement and explain why it is right or wrong (while certain aspects of this question is similar to questions 8 and 9, it is trying to get at whether you understand interest rate swaps and what they are designed to do).

Why if your income is in local currency and you issue a bond in dollars, this might be a risky decision? Explain

Which of the following reflects a hedge of net payables on British pounds by a U.S. firm? A. sell a currency call option in British pounds. B. borrow U.S. dollars, convert them to pounds, and invest them in a British pound deposit. C. sell pounds forward. D. purchase a currency put option in British pounds.