In Nov 2007 when £1.00 = $2.00, conditions in the four year market indicated that currency swap banks were prepared to p

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In Nov 2007 When 1 00 2 00 Conditions In The Four Year Market Indicated That Currency Swap Banks Were Prepared To P 1 (163.22 KiB) Viewed 65 times

In Nov 2007 when £1.00 = $2.00, conditions in the four year market indicated that currency swap banks were prepared to pay or receive fixed dollars at 4% of dollar face values against receiving or paying 5% of the face value equivalent in pounds. These mid market rates are for annual rates and single annual payments in arrears. Both term structures are flat and not expected to change. Swap Yld p.a Years PV FV Mid market currency swap rates $200M par currency swap £100M par currency swap 4 4.0% -$200M Swap Con PMT p.a. $8.00M £5 OOM $200M 4 50% -£100M £100M Now you discover that in Nov 2007 your firm, Bank Inc, intermediated between back to back annual currency swaps with two other firms Def plc (UK) and Dis inc (US). These are shown diagrammatically below for the four year bond borrowings and currency swaps. $200M fixed $ p.a. 3.90% fixed $ p.a. 3.90% fixed Sp.a. 4.10% US Bond market Def plc Bank Dis Inc UK Bond market -> 5.10% fixed Ep.a. 4.90% fixed £p.a. 4.90% fixed Ep.a. €100M By Nov 2009 after the second set of annual coupon payments have just been made (i.e. two years into the existing four year deals), current (or par) swap yields for new/replacement deals have changed to the mid market and choice values below and the spot FX rate is £1.00 = $1.80. Although rates have changed, the term structure moving forward is flat and these rates also hold for bond yields in each market. Mid market currency swap rates Years PV FV Swap Yld p.a Swap Con PMT p.a. 2 1.0% $180M $1.80M $180M $180M par currency swap £100M par currency swap NN 2 2.0% -£100M £2.00M £100M REQUIRED e) Use the $ 2 year swap rate to value the dollar $200M bond that Def has issued in the US market Use the £ 2 year swap rate to value the sterling £100M bond that Dis has issued in the UK market. f) 9) Assuming the immediate default of Def or Dis plc caused the loss of all their remaining payments and required replacement swaps at current rates to be put in place, identify the credit exposure on both counterparties saying to which counterparty loss the Bank is more exposed