Bank A is rated AAA and so it can get financing at a fixed interest rate of 6%. However, the Bank wants fund itself at a floating interest rate to compensate the floating interest rate changes of its loan portfolio. In this case, the interest rate of the financing would be at Libor + 0,25%. On the other side, company B rated BBB, may find a floating rate loan at Libor + 0,75%. For this company, what it would really be attractive was to get a fixed rate loan to eliminate the interest rate risk. Given its low rating, the best offer the company has it is 7,5%. How can we structure a IRS that may benefit both parties in terms of financial cost and accomplish the goals of both (Bank A will get a floating interest rate, meanwhile company B will get a fixed interest rate)?
in the solution Bank A pays libor to an investment bank and receives 6,3% while company B pays 6,4% and receives libor…
how do you get to these numbers??
same kind of exercise : Alcoa has just made a $10 million issue (face value) of floating rate bonds on which it pays an interest rate 1% over the Libor rate. The bonds are selling at par value. Alcoa is worried that rates are about to rise, and it would like to lock in a fixed interest rate on its borrowings. Alcoa sees that dealers in the swap market are offering swaps of Libor for 7%. a. What interest rate swap will convert the firm’s interest obligation into one resembling a fixed-rate loan? b. What interest rate will the firm pay with the interest rate swap
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