I am working on a problem where company X entered into a 3 year semiannual interest rate swap paying fixed and receiving LIBOR. Notional is 150MM, fixed rate is 2.75%.
A year later the company is looking to neutralize risk since entering into the same type of Swap now costs about 2.3% fixed.
Strategy 1: is to short four off market LIBOR FRAs that coincide in the payment dates and Notional. This strategy will also neutralize the IR Swap.
Strategy 2: is to sell a floating rate note with a semiannual coupon based on the 180 day LIBOR, maturity of two years and notional of 150MM.
The problem is that the answer claims that the floating rate note will only offset half of the swap position. I’m failing to see this. By selling the floating rate note, the company is collecting some fixed payment from the counterparty and is obliged to make payments based on the 180 day LIBOR rate. Right now I’m failing to see how the floating rate note is not reversing the IR Swap.