 # Interest rate swap

I knew out to do it less than one month ago !! can someone refresh me please? thanks Assume that you are analyzing a plain vanilla interest rate swap with the following characteristics: Counterparty X : Counterparty Y pay fixed rate 6% : pay floating rate LIBOR + 0.5% receive floating rate LIBOR + 0.5% : receive fixed rate 6% Swap tenor: 10 years Notional principal: \$1,000,000 LIBOR0: 4.75% If this were an “in-advance” swap, Counterparty X would make its first fixed rate payment at the time the swap is negotiated. The amount of the payment would be: A. \$60,000 B. \$52,500 C. \$57,279.24 D. \$50,119.33 Edit : I picked the wrong answer on that one too … but I was sure to be correct Mary A. Contrary holds a SHORT position in 15 heating oil futures contracts. Her initial margin is IM = \$32,652.90, and her maintenance margin is MM = \$24,475.50. Each contract is for 42,000 gallons of heating oil, and her initial futures price was Finitial = \$1.036 per gallon. At what price will Ms. Contrary receive a margin call (ignoring tick size restrictions)? A. \$1.049 per gallon B. \$1.0275 per gallon C. \$1.0354 per gallon D. none of the these answers

For the second question, I think its A Initial Contract = 15*42000*1.036 = \$652680 Initial Margin = 32652.90 / 652680 = 5% Maintainence Margin = 24475.50 / 652680 = 3.75% Since its a short position, margin call = (1.05)/(1.0375) * 1.036 = 1.048 For the first part, why are there two sets of interest-rate exchange commitments for a vanilla swap?

For the first, it the answer C? That would be the PV of the \$60,000 discounted at LIBOR 4.75%. For the second, the margin call is made at an increase in price (for the short position). Without calculus I might pick directly A. With calculus: Total value of position = 15*42,000*1.036=652,680 That makes for an: Initial margin of 32,652.9/652,680=5% and a maintenance margin of 24,475.5/652,680=3.75% The maintenance margin has to be in the account at all times, or a call is received. Maintenance margin = (Amount in the account at the beginning of the contract – New value of the position)/New value of the position 0.0375=(652,680+32,652.9-P*42000*15)/(P*42000*15), solve for P = 1.0485~1.049

"For the first, it the answer C? That would be the PV of the \$60,000 discounted at LIBOR 4.75%. ", from map. Had the same thought, but an interest swap has normally a netting. (like discribed in cfa books) Or does the text say that only X pays in advance. (This swap construction wouldn’t make an economic sense) --> All answers are wrong? From which prepprovider is this question? “This swap construction wouldn’t make an economic sense” I have to correct my statement: Maybe it could make an economic sense, but i have never seen or heard about such a financial instrument. It’s a combination of FRA’s with a combination of floaters - strange thing this question.

for the first question may be we are think too hard. Plain vanilla you normally just pay the difference in the rates but here they are asking us if there was an ‘in advance swap’ what will X pay. well he is expected to pay 6% fixed so isn’t oit just 6% of 1,000,000? I think its A.

For Interest-Rate swaps, notional principal is not exchanged. So, my first thought was the difference between the fixed vs floating interest = 6% - 5.25% = 0.75% of Principal amount. I am not sure about that “in-advance” clause? Is that sort of a downpayment? If so, then assuming that Party X is subject to the fixed-rate, the first payment would simply be 6% * Notional principal = 60’000. Since this was owed at the first payment date, it would need to be discounted using Libor to the date of intitiation of contract, which would be 1 period. Hence 60000/(1.0475) = \$ 57279.23 (Answer C) What I still fail to grasp is the second set of data provided in the question, where the interest rate qualifications are reversed. “Counterparty X : Counterparty Y pay fixed rate 6% : pay floating rate LIBOR + 0.5% receive floating rate LIBOR + 0.5% : receive fixed rate 6%”