Traditionally firms raise capital in the primary market issuing either fixed or floating rate debt.  Both bond structures expose the firm to interest rate risk. The financial derivatives market  provides firms the opportunity to manage their interest rate risk of their bond portfolios as well potentially lowering the cost of borrowing.
One of your firm's clients wants to issue a $100 million, 3-year maturity bond and has asked for  guidance as to achieving the lowest fixed rate borrowing cost. Based on current bond market
conditions the firms can:
• Issue a 3-year, fixed rate bond (annual coupon payments) paying the 3-year US Treasury  rate plus 250 basis points. The current 3-year US Treasury rate is 4.50%.
or
• Issue a 3-year floating rate bond paying (annually) the 1-year SOFR rate plus 200 basis points.
The client's CFO asks whether they could lower their all-in fixed rate borrowing costs using an 
interest rate swap. 
As the junior derivatives analyst, you have been tasked with evaluating this situation and  determining if the use of an interest swap would achieve the firm's goal. To that end you have
identified a bank that offers the following interest rate swap:
• Fixed Rate Leg: 3-year US Treasury rate plus 30 basis points.
• Floating Rate Leg: 1-year SOFR
You are to prepare a presentation for the client's CFO illustrating the financial structure that  provides the lowest fixed rate borrowing cost as well the savings, if any, as a result of using an interest rate swap.

Answer rating: 100% (QA)

Presentation for the Clients CFO Title Using an Interest Rate Swap to Lower Fixed Rate Borrowing Costs Introduction One of your firms clients wants to issue a 100 million 3year maturity bond and has a... View the full answer