Download presentation

Presentation is loading. Please wait.

Published byDanna Veazey Modified over 2 years ago

1
Swaps Transform assets or liabilities by “swapping” cash flows with another party Allows a party with a comparative advantage in a certain money market segment to exploit that advantage while operating in other segments. Can mitigate risks to cash flow Serve the same purpose as forward or futures contract for longer period at less cost

2
Objectives Identify the elements of interest rate swaps and foreign currency swaps Identify situations where entering into a swap reduces risk Structure a swap Calculate the rate where entering into a swap becomes advantageous

3
How swaps work Transform a liability Transform an asset Reduce costs associated with inconsistent pricing across different international credit market segments Serve the same purpose as long-dated forward contracts for less cost Do not require participating parties to have similar credit quality Intermediary facilitates swap between parties for a fee

4
Structure Shell and Microsoft each make yearly payments on 5- year notes valued at $100 million Rates Shell - 1-Year LIBOR minus one year (5.17% floating) Microsoft pays 5% fixed Yearly payments on notes: Microsoft - $5 million Shell - $5.17 million MicrosoftShell 5% LIBOR

5
Structure Each party agrees to make the other’s yearly payments Yearly payments on notes: Shell pays Microsoft $5 million Microsoft pays Shell $5.17 million General structure - Microsoft pays Shell $170,000 Libor decreases to 4.9%: Shell pays Microsoft $5 million Microsoft pays Shell $4.9 million General structure - Shell pays Microsoft $100,000 MicrosoftShell 5% LIBOR 5%

6
Outcome Transformation of respective liabilities: Shell now pays 5% fixed Microsoft now pays 1-Year LIBOR minus one year

7
Identify situations where entering into a swap reduces risk Fixed loan when interest rates are falling Floating interest when rates are increasing Inflows of foreign currency when home currency is appreciating Outflows of foreign currency when home currency is depreciating

8
Example Click and Coval, “International Financial Management,” P 288

9
Calculate the break-even rate where entering into a swap becomes advantageous Principal and present value of payments: (Swap Principal – Swap Fees)/So = P1/(1 +i) + P2/(1 + i)^2 + P3/(1 + i)^3 + Pn /(1+i)^n where S º is the current rate of exchange and P is the loan payment

10
Exercise Shell plans to build a refinery in Saudi Arabia and Al Rajhi Bank plans to build a bank in the Netherlands. Al Rajhi Bank borrows 600 million Saudi Riyals for ten years at 9.6 percent interest on the black market and agrees to swap payments with Shell, which has borrowed 100 million Euros for ten years at 9.8 percent interest.

11
Objectives Identify the elements of interest rate swaps and foreign currency swaps Identify situations where entering into a swap reduces risk Structure a swap Calculate the rate where entering into a swap becomes advantageous

Similar presentations

OK

Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill /Irwin 10-1 Chapter Ten Derivative Securities Markets.

Copyright © 2004 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill /Irwin 10-1 Chapter Ten Derivative Securities Markets.

© 2017 SlidePlayer.com Inc.

All rights reserved.

Ads by Google

Ppt on pi in maths sign Ppt on describing words for class 1 Ppt on unified power quality conditioner Ppt on medical tourism in india Ppt on paris in french Ppt on unity in diversity of india Ppt on mathematics for class 7 Ppt on world book day games Microsoft powerpoint converter pptx to ppt online Ppt on network devices used in wireless communication