Question

Company A desires a variable-rate loan but currently has a better deal from the fixed-rate market at a rate of 11%. If Company A borrows from the variable-rate market, the cost would be LIBOR+2%. In contrast, Company B, which prefers a fixed-rate loan, has a better deal from the variable-rate market at LIBOR+3%. If Company B borrows from the fixed-rate market, the cost would be 15%. What is the spread differential between Companies A and B?

Answer 1

	FIxed Rate	Floating
Company A	11%	LIBOR + 2%
Company B	15%	LIBOR + 3%
DIfference	4%	1%

Net Benefit in SWAP (Spread Differential) = Difference in FIxed Rate - Difference in Floating Rate
  = 4%-1% = 3%


Company A has absolute advantage over Company B, It can borrow both fixed and floating loans at a lower rate as compared to company B. It has higher advantage in Fixed Rate borrowing i.e 2% , it has comparative advantage on fixed rate loans.
therefore Company B will borrow in floating rate. It would have comparative advantage in floating loans.
This Transaction has net benefit of 3 % to both the parties.