Derivatitives q 7 final.

Quiz > Derivatitives q 7 final.

Western Sydney University DERIVATIVE 200079 7. The board of a company (Firm A) has agreed to pursue a new project and the Chief Financial Officer (CFO) speaks with several banks and determines that it may borrow: • Floating at BBSW + 3.65%pa • Fixed rate debt at 9.45%pa The CFO of a mid-sized corporate (Firm B) speaks with their banker ...[Show More]

Western Sydney University
DERIVATIVE 200079
7. The board of a company (Firm A) has agreed to pursue a new project and the Chief

Financial Officer (CFO) speaks with several banks and determines that it may borrow:

• Floating at BBSW + 3.65%pa

• Fixed rate debt at 9.45%pa

The CFO of a mid-sized corporate (Firm B) speaks with their banker and learns that it may

borrow

Floating at BBSW + 3.85%pa

• Fixed rate debt at 12.15%pa

Government debt is trading at 2.80%Da

Both CFO's happen to approach the same investment bank, you, to explore funding options.

You recommend that each party enter into a swap with your bank. Note: a prerequisite

swap transactions is the bank makes a minimum of 0.15% profit on each leg.

Determine the swap strategy that maximises the benefit of the swap for each party, including

your investment bank.

a. specify the swap cashflows

b. Calculate the borrowing costs and the benefit to each party from entering into the swap.

Always start with the entity can borrow the fixed at cheaper price

Firm A has Fixed rate debt at 9.45%pa < Firm B has Fixed rate debt at 12.15%pa

-Firm A borrows fixed at 9.45% for its comparative advantage

-Firm B borrows floating at BBSW +3.85% for its comparative advantage

-Midpoint of fixed point: 12.15-((12.15-9.45)/2)=10.8

-Midpoint of investment bank charges: 0.15/2=0.075%

-Firm B pays the bank fixed at (10.8+0.075=10.875) 10.875%, which is the midpoint

+0.075%

-The bank pays firm A fixed at (10.8-0.075=10.725) 10.725%, which is the midpoint

-0.075%

-Midpoint of BBSW: 3.85-((3.85-3.65)/2)= 3.75%

-The bank pays firm B floating at BBSW (3.75-0.075=3.675) +3.675%, which is the midpoint

-0.075%

-Firm A pays the bank floating at BBSW (3.75+0.075=3.825) +3.825%, which is the

midpoint +0.075%

Description:

Firm A:

-Pays fixed at 9.45%

-Receives fixed at 10.725%

-Pays floating at BBSW +3.825%

-Resultant is pays Floating at BBSW (3.825-(10.725-9.45)=2.55) 2.55%

(benefit of (3.65-2.55=1.1) 1.1%) (the benefit of both firm has to match each other’s