A British company Britago Corp enters into a 1-year interest rate swap with Bake

Question

A British company Britago Corp enters into a 1-year interest rate swap with Baker Bank. The notional principle of the swap is £40 million. Payments will be made quarterly on the basis of 90/360 (90 days in the settlement period and 360 days per year). Britago will receive a fixed rate of 5% and pay floating rate Euribor plus 100 basis points (i.e. 1%). The 90-day Euribor rates are as below:

Current            4%       In 1 quarter      5%       In 2 quarters    3%

In 3 quarters    4.5%    In 1 year          5%

A. Determine the initial exchange of cash that occurs at the start of the swap.  

B. Determine the quarterly payments (Q1, Q2, Q3, Q4)

C. Determine the final exchange of cash that occurs at the end of the swap.

Explanation / Answer

Quarter Fixed Rate Floating Rate Difference Brithish company Baker bank 1st Quarter 1.25(5/4) 1.50(5+1/4) 0.25 0.10 mIllion Cash outflow 0.10 million cashinlow 2ns Quarter 1.25 1.00(3+1/4) -0.25 0.10 million cash inflow 0.10 million cash outflow 3rd quarter 1.25 1.375(4.5+1/4) 0.125 0.05 million cash outfolw 0.05 Million cash inflow 4th quarter 1.25 1.50(5+1/4) 0.25 0.10 million cash inflow 0.10 million cash outflow

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