The comparative advantage argument is often used to explain the benefits of swaps. In the Excel file, you will find the cost of fixed rate and floating rate for two companies that do not have the same credit quality. AAA company wants to borrow at floating rate, while the BBB company wants to borrow at fixed rates. a) Calculate the total gain (in terms of interest rates) that the two companies can achieve by entering into a swap between them. b) Assuming that the gain is divided equally between the two companies, provide new financing costs for AAA (the example in your lecture notes on swaps should help) c) Assuming that the gain is divided equally between the two companies, provide new funding costs for BBB (for help, use the example from your lecture notes on swaps). d) Suppose the fixed rate for the BBB has been 7.4% instead of 8% (all other rates are unchanged). Would it have been possible to gain by entering into a swap between AAA and BBB? Why? e) Explain briefly why the comparative advantage argument is misleading. Data Question 2 a) Question 2 b) Question 2 c) Floating rate: rate on top on bankers' acceptances with maturity 6 months 0.10% 0.50% Total gain interest) Cost of financing AAA Cost of financing BBB Fixed rate AAA BBB 7.00% 8.00% Fixed rate floating rate AAA pays to BBB Fixed rate AAA receives from BBB Cost of financing (spread paid on top of bankers' acceptance rate) Floating rate (paid on top of BA rate) fixed rate paid from BBB to AAA floating rate received by BBB from AAA New cost of financing