QUESTION FOUR On 6th July 1992 the following two new bonds issues were simultaneously launched by Salomon Brothers International: PROVINCE OF ONTARIO, 200 MILLION 9.375% ANN COUPON EUROBOND, DUE 30TH JULY 2002 EUROPEAN INVESTMENT BANK, Can$ 450 MILLION 8.125% ANN COUPON EUROBOND, DUE 30TH JULY 2002 The two bond issues were linked by a cross currency Swap transaction. The Swap transaction resulted in the interest payment dates and maturity dates for each bond being the same. a) Using an appropriate example, explain the idea of comparative advantage as it applies to Swap transactions. [6 marks] b) Why might a Swap transaction be advantageous for both EIB and Ontario in the bond issues shown above? [3 marks] c) Explain why cross currency Swaps are usually more risky (for both parties) than a single currency fixed to floating interest rate Swaps. [4 marks] d) Using simple examples, briefly explain how a Swap is used in an "Asset Swap" and a "Liability Swap". [4 marks] e) Explain why a bank might wish to buy Swapped corporate bonds as an alternative to direct corporate lending. [3 marks] END OF QUESTION FOUR QUESTION FOUR On 6th July 1992 the following two new bonds issues were simultaneously launched by Salomon Brothers International: PROVINCE OF ONTARIO, 200 MILLION 9.375% ANN COUPON EUROBOND, DUE 30TH JULY 2002 EUROPEAN INVESTMENT BANK, Can$ 450 MILLION 8.125% ANN COUPON EUROBOND, DUE 30TH JULY 2002 The two bond issues were linked by a cross currency Swap transaction. The Swap transaction resulted in the interest payment dates and maturity dates for each bond being the same. a) Using an appropriate example, explain the idea of comparative advantage as it applies to Swap transactions. [6 marks] b) Why might a Swap transaction be advantageous for both EIB and Ontario in the bond issues shown above? [3 marks] c) Explain why cross currency Swaps are usually more risky (for both parties) than a single currency fixed to floating interest rate Swaps. [4 marks] d) Using simple examples, briefly explain how a Swap is used in an "Asset Swap" and a "Liability Swap". [4 marks] e) Explain why a bank might wish to buy Swapped corporate bonds as an alternative to direct corporate lending. [3 marks] END OF QUESTION FOUR