Interest rate swap The following questions are based on the case provided...
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Finance
Interest rate swap
The following questions are based on the case provided below
Able Inc. and Baker Inc. face the following borrowing costs in the fixed and floating rate markets:
FixedRate Market Floating Rate Market Preferred Type
Able 17% L + 0.20% Fixed
Baker 14% L 0.20% Floating
Each firm desires the rate other than that for which it has comparative advantage.
A dealer stands ready to enter into a swap as either a fixedrate payer or floating-rate receiver (or vice versa). The dealer will pay a fixed 15.50% against LIBOR or receive 14.50% against LIBOR. Assume that each firm borrows in the market in which it has comparative advantage and enters into a swap agreement. Analyze the potential gains from swapping for all parties under the following headlines:
a. What does the swap dealer earn?
b. Obtain the effective loan rate for Able. List all loans Able deals with.
c. By how much is Baker better-off from the swap agreement?
d. What is the overall benefit of the three parties: Able, Baker and the Dealer?
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