Company X Wants to Borrow $10,000,000 Floating for 5 Years;

question 55

Multiple Choice

Company X wants to borrow $10,000,000 floating for 5 years; company Y wants to borrow $10,000,000 fixed for 5 years.Their external borrowing opportunities are shown below: $$\begin{array} { l c l } & \begin{array} { l } \text { Fixed-Rate Borrowing } \\\text { Cost }\end{array} & \begin{array} { l } \text { Floating-Rate } \\\text { Borrowing Cost }\end{array} \\\hline \text { Company X } & 10 \% & \text { LIBOR } \\\text { Company Y } & 12 \% & \text { LIBOR } + 1.5 \%\end{array}$$ A swap bank proposes the following interest only swap: X will pay the swap bank annual payments on $10,000,000 with the coupon rate of LIBOR - 0.15%; in exchange the swap bank will pay to company X interest payments on $10,000,000 at a fixed rate of 9.90%.Y will pay the swap bank interest payments on $10,000,000 at a fixed rate of 10.30% and the swap bank will pay Y annual payments on $10,000,000 with the coupon rate of LIBOR - 0.15%. What is the value of this swap to the swap bank?

• A)The swap bank will lose money on the deal.
• B)The swap bank will earn 40 basis points per year on $10,000,000 = $40,000 per year.
• C)The swap bank will break even.
• D)None of the above

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Definitions:

Aversive Conditioning

A method of behavior modification that involves using unpleasant stimuli to discourage undesirable behaviors.

Classical Conditioning

A method of conditioning in which the pairing of two stimuli results in a response initially elicited by the second stimulus being evoked by the first stimulus after repeated associations.

Mary Cover Jones

Mary Cover Jones was a pioneering American psychologist known for her work in behavior therapy and for conducting early studies on the desensitization of phobias.

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A sweet, frozen dessert made from cream or milk and sugar, often flavored with fruits, chocolate, or nuts.