Canuck Oil is also exposed to interest rate risk, as it has issued 2,000 fixed rate coupon bonds with a face value of $1,000 each. The current interest rate on similar coupon bonds is 8%. The company can also borrow at a rate of prime + 2%. Mr. Rich believes that the interest rate will fall in the future, and would like to see if the company can switch to a flexible interest rate on its debt. Describe how the company and its investment dealer can design a plain vanilla swap with a counterparty who can borrow at a fixed rate of 10% or a flexible rate of prime + 1%. The investment dealer generally makes a spread of 1% on this type of swap. Use a diagram to illustrate this swap transaction.

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A plain vanilla interest rate swap is a financial contract between two parties to exchange interest ... View the full answer