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P1.T3.208. Hull's Swaps (I.)

Suzanne Evans

Well-Known Member

208.1. A bank enters into a five-year vanilla interest rate swap where, every six months, the bank pays a fixed rate of 4.0% per annum, in exchange for receiving six-month LIBOR. The notional is $10.0 million. Each of the following is true EXCEPT for which statement is false?

a. To the bank, the duration of the swap is approximately negative 4.5 years; i.e., -4.5 years.
b. The bank's expected loss given default (LGD) in the swap is LESS THAN the expected LGD on a loan with $10.0 principal
c. The bank's position is similar to a short position in a bond with a five-year maturity, fixed 4.0% coupon offset by a long position in a floating-rate note
d. From the bank's perspective, the swap has market risk but no credit risk

208.2. Three years ago, Acme bank entered into a five-year vanilla interest rate swap with its counterparty, GeneralCorp, with a notional of $200.0 million. Under the terms of the swap, Acme receives a fixed 5.0% per annum and, in exchange, Acme pays one-year LIBOR. Payments are made once per year at the end of each year. Last year (at the end of the second year) the one-year LIBOR shifted to 4.0% per annum. Currently (at the end of the third year) the LIBOR curve remains flat at 4.0% for all maturities. Now, at the end of the third year, right before the third payment is made, GeneralCorp defaults. Which is nearest to the market value loss incurred by Acme due to the default?

a. Zero
b. $3.33 million
c. $5.77 million
d. $6.00 million

208.3. A bank agrees to pay six-month LIBOR and receive 4.0% per annum (with semi-annual compounding) on a notional principal of $60.0 million, in a vanilla interest rate swap. The swap has a remaining life of nine months; i.e., a payment is due in three months and a final payment in nine months. The six-month LIBOR at the last payment date was 3.4% with semi-annual compounding. The LIBOR rates with continuous compounding for three-month and nine-month maturities are 3.0% and 3.8%, respectively.

a. -1.75 million
b. -433,333
c. +107,392
d. +2.413 million