Question

Consider the borrowing costs faced by the following three companies:

Fixed Floating

A 5.0% LIBOR+0.6%

B 6.0% LIBOR+1.3%

C 7.0% LIBOR+2.5%

Assume if entering the swap transaction, they split the possible savings equally.

A) Company A and B want to engage in the swap transaction. What is the possible combined savings for both companies?

B) Suppose company C wants to borrow fixed rate funds. Is it possible for C to reduce its cost of borrowing below 7%, and if so what is the lowest possible cost of could achieve?

C) Suppose company C wants to borrow floating rate funds. Is it possible for C to reduce its cost of borrowing below LIBOR + 2.5%, and if so what is the lowest possible cost it could achieve?

Answer #1

A) Fixed rate difference b/w A and B = 6% -5% =1%

FLoating rate difference b/w A and B = Libor+1.3% -(Libor+0.6%) =0.7%

Since A has more benefit in over B in fixed so A will borrow in fixed and B will borrow in floating.

Combined saving = Fixed differnce - floating difference = 1%-
0.7% =**0.3%**

B) Yes it is possible to reduce the borrowing cost below 7% if it Get into swap with A or B

For lowest possible cost swap with B

Step 1 : B will borrow at Libor+ 1.3% and C will borrow at 7%

Step2: C will give lend B to 6% so it has loss of 7%-6% % =1 %

Step 3: B will lend to C at Libor+ 1.3% so C benefit= Libor+ 2.5% -Libor+ 1.3% =1.2%

SO overall C has borrowed at 7% --0.2%(=1%-1.2%) benefit =6.8%

C) Similarly by swap with B it can reduce the borrowing by maximum of 0.2% so it can borrow by 0.2% so LIbor+2.3%

**Note: Incase of any doubt, please do comment. I will get
back to you. Thanks!!**

21. Firm AAA can borrow at 6% fixed or in the floating-rate
market at LIBOR flat. BBB can borrow at 7.5% fixed or at
LIBOR+0.5%. AAA wants to borrow floating and BBB fixed, so that
they are interested in entering into an interest-rate swap. What is
the swap fixed rate that is equally attractive to both firms?
Assume that there is no financial intermediary involved in the swap
transaction.
A) 7% B) 6.5% C) 6% D) 5.5%

Firm AAA can borrow at 5% fixed or in the floating-rate
market at LIBOR+0.5%. BBB can borrow at 7% fixed or at LIBOR+0.5%.
AAA wants to borrow floating and BBB fixed, so that they are
interested in entering into an interest-rate swap. What is the swap
fixed rate that is equally attractive to both firms? Assume that
there is no financial intermediary involved in the swap
transaction.
A)
7%
B)
6.5%
C)
6%
D) 5.5%

Firm AAA can borrow at 5% fixed or in the floating-rate market
at LIBOR+0.5%. BBB can borrow at 7% fixed or at LIBOR+0.5%. AAA
wants to borrow floating and BBB fixed, so that they are interested
in entering into an interest-rate swap. What is the swap fixed rate
that is equally attractive to both firms? Assume that there is no
financial intermediary involved in the swap transaction.
A)
7%
B)
6.5%
C)
6%
D) 5.5%

Firm B, with a better credit rating, has lower borrowing costs
in both types of borrowing. Firm A and Firm B face the following
rate structure: (3pts)
Preferred
Fixed
Floating
Firm
A Fixed
8.0%
6-month LIBOR+0.6%
Firm
B
Floating
6.8%
6-month LIBOR
a) Devise a swap agreement (without a swap bank) such
that A and B will share the benefit equally? Compute the after-swap
borrowing costs for Firm A and Firm B, and also determine cost
savings for both...

Apple and Compaq both seek funding at the lowest possible cost.
Apple would prefer the flexibility of floating rate borrowing,
while Compaq wants the security of fixed rate borrowing. They face
the following interest rate structure: (1) Apple could borrow
floating at LIBOR + 1% or borrow fixed at 8%; (2) Apple prefers
floating rate debt; (3) Compaq could borrow floating at LIBOR + 2%
or borrow fixed at 12%; and (4) Compaq prefers a fixed rate. a. To
arrange...

Company X and Company Y have been offered the following
rates
Fixed Rate
Floating Rate
Company X
3.5%
3-month LIBOR plus 10bp
Company Y
4.5%
3-month LIBOR plus 30 bp
Suppose that Company X borrows fixed and company Y borrows
floating. If they enter into a swap with each other where the
apparent benefits are shared equally, what is company X’s effective
borrowing rate?
A.
3-month LIBOR−30bp
B.
3.1%
C.
3-month LIBOR−10bp
D.
3.3%

Consider two
companies, Alpha and Beta that can borrow at the rate indicated in
the table below. Assume Alpha desires floating-rate debt and Beta
desires fixed-rate debt. All interest rates are compounded
annually.
Alpha
Beta
Moody’s credit
rating
Aa
Baa
Fixed-rate
5.5%
7.0%
Floating-rate
LIBOR
LIBOR + 1%
Desires to pay at
Floating-rate
Fixed-rate
Estimate the feasibility of a swap arrangement by which the
companies can save interest payments and at the same time pay
floating- or fixed-interest payments consistent...

Press F, a BBB-rated firm, desires a fixed rate, long-term loan.
Press F presently has access to floating interest rate funds at a
margin of 1.42% p.a. over LIBOR. Its direct borrowing cost is
10.47% p.a. in the fixed rate bond market. In contrast, B.D.
Energy, which prefers a floating rate loan, has access to fixed
rate funds in the Eurodollar bond market at 7.20% p.a. and floating
rate funds at LIBOR + 0.29% p.a. Suppose they enter into an...

Companies X and Y have been offered the following annual
interest rates with semi-annual compounding on $5 million 6-year
loans.
Company
Fixed Rate (%)
Floating Rate
X
5.00%
LIBOR
Y
7.00%
LIBOR + 1%
Company X borrows initially at a fixed rate but would like to
have a floating rate loan. Company Y borrows initially at a
floating rate but would like a fixed-rate loan.
a) What is the Quality Spread
Differential (QSD)?
b) What is the necessary
condition for a fixed-for-floating...

(a) Prawn and Lobster are two companies that
can borrow for a five year term at the following rates.
Prawn
Lobster
International credit rating
A
B
Fixed-rate borrowing cost
6.5%
10.5%
Floating-rate borrowing cost
LIBOR + 1%
LIBOR + 3%
(i) Calculate the quality spread differential
(QSD).
Enter your answer as a percentage to 2 decimal places, e.g.
1.23 (1 Mark)
Answer %
(ii) Develop an interest-rate swap in which
both Prawn and Lobster have an equal cost savings in...

ADVERTISEMENT

Get Answers For Free

Most questions answered within 1 hours.

ADVERTISEMENT

asked 3 minutes ago

asked 4 minutes ago

asked 18 minutes ago

asked 27 minutes ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago

asked 1 hour ago