The dealer's mid rate for a four year plain vanilla swap is 7.55% against AUD LIBOR. The
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Question:
The dealer's mid rate for a four year plain vanilla swap is 7.55% against AUD LIBOR. The swap dealer pays 10 basis points less than the mid rate and receives 10 basis points more. Construct a five year plain vanilla interest rate swap which will remove the interest rate risk of Ernie Ltd and Bert Ltd who are in the following position:
Income Liability
Ernie Ltd: AUD 10 million @AUD libor+2.5% (income) AUD 10 million@ 7.0% p.a. (liability)
Bert Ltd: AUD 10 million @ 9% p.a. (income) AUD 10 million @ AUD libor-0.5% (liability)
Diagram all interest flows, determine the lowest effective borrowing cost for each, and their locked-in spreads.
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