Question

Two firms are offered the following rates for their 5-year investment per annum on a $20 million: Fixed Floating Firm A 12.00% LIBOR+0.1% Firm B 13.4% LIBOR+0.6% A wants a fixed-rate investment and B wants a floating-rate investment. Design a swap that will net a bank, acting as intermediary, 0.1% per annum and will appear equally attractive to both A and B.

Answer 1

1]	Firm B has absolute advantage in both investment rates,
	but, the advantage is more in fixed rate, which is,
	13.4%-12.0% =	1.40%
	Firm A has comparative advantage in floating rate
	which is (L+0.6%)-(L+0.1%) =	0.50%
	The net advantage is thus 1.4%+0.5% =	0.90%
	Less: Fee to the intermediary bank	0.10%
2]	Net advantage to be shared thro' swap	0.80%
	Benefit to B =	0.40%
	Benefit to A =	0.40%
3]	B will invest in fixed rate at 13.4%, pay 13.00% to
	the bank and get L+0.6% from the bank, the net rate
	received being	L+1.00%
	A will invest in floating rate of L+0.10%, pay L-0.30% to
	the bank and get 12.00% from the bank, the net rate
	received being	12.40%