P1.T3.209. Hull's Swaps (II.)

Discussion in 'Today's Daily Questions' started by Suzanne Evans, Aug 7, 2012.

  1. Suzanne Evans

    Suzanne Evans Administrator

    Questions:

    209.1. In the capital markets, BBBCorp can borrow at a fixed rate of 5.0% or at a floating rate of LIBOR + 200 basis points. AAACorp, on the other hand, can borrow at a fixed rate of 3.80% or at a floating rate of LIBOR + 150 basis points (all per annum). The bank will charge 20 basis points per annum to act as the swap intermediary. Assume AAACorp is willing to borrow directly from fixed-rate markets (where it has a comparative advantage over BBBCorp) and enter into an interest rate swap as the fixed-rate receiver, such that BBBCorp is the floating-rate receiver. If the two counterparties share the net gain created by the swap, what is the total net borrowing cost to BBBCorp (including both its "underling" direct floating-rate borrowing and its swap)?

    a. Floating at LIBOR + 1.60%
    b. Floating at LIBOR + 1.80%
    c. Fixed at 4.75%
    d. Fixed at 3.90%

    209.2. Each of the following is TRUE about an overnight indexed swap (OIS) EXCEPT which is false?

    a. An OIS is a fixed-for-floating-rate exchange
    b. Arbitrage will ensure that the OIS rate is equal to LIBOR of equivalent maturity
    c. The floating-rate in an OIS is the geometric average of overnight rates during the period
    d. The overnight rate is often a rate targeted by the central bank to influence monetary policy; in the U.S., this overnight rate is called the Fed Funds rate

    209.3. Each of the following is TRUE about swaps except which is false?

    a. All other things being equal, the potential credit exposure is generally greater in a currency swap than a vanilla interest rate swap
    b. If a financial institution uses an addition swap to offset an underlying swap exposure, it can hedge its market risk more easily than its credit risk
    c. In a vanilla interest rate swap, the current credit exposure is always zero to one of the swap counterparties
    d. If a bank pays LIBOR quarterly but receives a fixed rate annually, a compound swap will only exacerbate (make worse) the bank's potential credit exposure

    Answers:
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