A 3-year annual pay currency swap takes place between a New Zealand (NZ)company with NZD and a U.S. company with USD (US). The NZ company swaps NZD for USD on which it makes end of period payments based on the rate in effect at the beginning of each period. The US company makes fixed-rate payments in NZD. - the fixed swap rate at the initiation of the swap was 7%; at the end of the swap it was 8%. - The variable rate at the end of year 1 was 6%, at the end of yr 2 was 8%, and at the end of year 3 was 7%. - At the beginning of the swap, one million USD were exchanged at a NZD/USD rate of 2. - At the end of the swap period, the exchange rate was NZD/USD 1.5. At the end of yr. 2 the: A) NZ company gives US company USD60,000 B) US company gives the NZ company USD 80,000 C) NZ company gives US company USD80,000 D) US company gives the NZ company USD160,000

A

Assuming NZ company is at the Floating Leg, It should use the end of year-1 floating rate to calculate the payment for 2nd year. So Floating Rate is 6%, Fixed Rate is &% US Company receives 2M NZD & NZ Company receives 1M USD [Initial Transaction] 2nd Year ----------- US Company = 2M*0.07 = 140K NZ Company = 1M*0.06 = 60K Is the answer A ?? - Dinesh S

I am sleepy enough that i am probably not thinking this through correctly, but my guess is A? The interest rate on NZ firm pays = interest rate at beginning of period 2 = 6%.

alright the answer is A, but can someone explain why A and not C. Dinesh, you said: “It should use the end of year-1 floating rate to calculate the payment for 2nd year. So Floating Rate is 6%, Fixed Rate is 8%” Why so? Why 6%? Is it not? Nz company… usd company based 1 mio usd… based 2 mio nzd Pays Var … pays fixed 6,8,7 … 7,7,7 Can someone clarify?

It’s high time since I touched Derivatives, but as far as I have read and have understood. Floating Rates for any kind of swaps are always calculated based on the “beginning-of-the-year-prevaling-rate”, So when they said that end of year floating rate was 6%, this also means that beginning of next-year is 6% and this is the rate that needs to be used for next interest payment. I would have pointed out to you some references, but I am too burried onto my bed to fetch the Book-5. So at the initiation of the deal, the fixed payer already knows what he will be paying for the tenor of the contract, the variable/ floating payer knows what he will be paying at the next settlement-date atleast, if not all payment-flows. Correct me if I am wrong guys? - Dinesh S

dinesh, that 140K should be NZD.right? So, in this case, assuming the constant exchange rate of 2NZD/USD, the US Company is essentially paying 70K USD and receiving 60K USD in return. NET : US company pays 10K USD to NZ Company. Option A is fine since no other choices reflect the NET payment thing. Correct me if i m wrong. Cheers.

maparam, it should be read as US Company = 2M*0.07 = 140K NZD NZ Company = 1M*0.06 = 60K USD and Currency Swaps are NEVER netted 1. Complete amount changes hand at the initiation of the contract 2. Interest Paymets are not netted (since the currency of payments are different) 3. Complete amount changes hand at the termination of the contract too. - Dinesh S

TKS dinesh. Now it’s clear. only interest rate Sways r netted.

So far so good, even it makes just little sense… Can someone put down what every company has to pay during the whole period of 3 years? NZ company… US company… Hopefully then it’ll make more sense.

Can anyone please explain why the fixed rate changes from 7% at the beginning of the swap to 8% at the end?