4) Company A has $125,000,000 of fixed interest debt with an interest rate of 7% which
it wants to swap into floating rate debt. Company B has floating rate debt at LIBOR plus 0.75% which it wants to swap for fixed rate. The two companies agree to an interest rate swap with a tenor of five years. The terms of the agreement call for a notional principle of $125,000,000, Company A pays Company B LIBOR plus 0.5% with a one year reset while Company B pays Company A 6.8% fixed with payments in dollars.
a) Find the floating rate Company A pays.
b) Find the fixed rate Company B pays.
c) If LIBOR is 4.35% in the first year of the agreement and 4.6% in the second year, find Company A’s payments each year.
d) Which company has the repricing risk?
e) Which company has the credit risk before the agreement is entered?
f) Does the notional principle change hands? Why or why not?
g) Are the two companies’ original loans cancelled by the swap agreement?
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