For an issuer of a floating-rate note, the market value of the loan will be: A) volatile, but the position will become more stable with the addition of a receive-floating swap position. B) relatively stable but the position will become more stable with the addition of a receive-floating swap position C) relatively stable but the position will become less stable with the addition of a receive-floating swap position
C? Since FRN have low MV Risk and by receive floating, we are effectively paying fixed that will increase the MV Risk, so position becomes less stable…
I pick C as well.
nice work gents- answer is C. i was jamming through and thought the q asked about payments, not mkt value. that wasn’t wise of me. A floating-rate note’s value will be relatively stable because the payments vary with changes in the interest rates. Adding a receive-floating position will produce a synthetic fixed-payment position whose value will change with changes in interest rates.
Floating (lower duration) has more CF risk, fixed (higher duration, obviously) has more MV risk.
^ yep yep. i thought this q was good in reflecting that. i actually changed answer B here to make it a better q, that answer in qbank was a throw away. all about READ THE QUESTION… i had several of those last year on the actual L2 test that had i failed would’ve haunted me. most/least, here MV/CF. slow down speed racer…
i’m confused. since fixed payments have more market risk, wouldn’t receiving fixed payments (assuming swap isnt done) make the position unstable?
“RTFQ” shows up (written very large and obnoxiously) on a lot of my practice tests when I’m grading them.
bump
niraj- you issued floating. you jam into a swap to get floating. those cxl out and you’re left as a fixed rate payer. market value of the loan (which is what they ask here) is more volatile for fixed than floating- w/ floating the interest rate will change but the mkt value should be pretty stable. fixed, the interest rate is the same so the mkt value will be moving up/down more w/ changes in interest rates.
niraj_a Wrote: ------------------------------------------------------- > i’m confused. since fixed payments have more > market risk, wouldn’t receiving fixed payments > (assuming swap isnt done) make the position > unstable? Well, the swap in this question is a “receive floating” not fixed. By receiving a floating, we are effectively paying a fixed rate on the note. And issuing a fixed rate note has more market risk as you said… so this questions goes like this: Issue floating rate bond --> Little market risk of the bond’s value fluctuating Enter into receive floating swap --> Pay fixed rate The swap makes it so that we effectively issued a fixed rate note So… “Issue” fixed rate bond --> more market risk of position’s value fluctuating than the initial floating rate bond Does that make sense? I’m pretty sure that’s right, but someone correct me if I’m off.
i guess i wasn’t clear if the relationships changed whether we were paying or receiving fixed. i knew that initiating the swap would leave us with a fixed-pay position. its clear now. i’m so ready to be done !