Question 1

Describe briefly the nature of a swap and its primary component.

Accepted Answer

A swap is an agreement between two parties. The main part is the contractual obligation to exchange some specified cash flows.

Question 2

Assume corn spot prices over the next 3 years are $2.20, $2.35, and $2.28, respectively. The original swap price was $2.30 per bushel. If cash settlement occurs, what transaction will the counter-party make in year 2 on a 5,000-bushel swap agreement?

Accepted Answer

In year 2, the spot price is $2.35, which is higher than the swap price of $2.30. The counter-party will pay the difference of $0.05 per bushel for 5,000 bushels, resulting in a $250 payment.

Question 3

The set of swap rates that correspond to different maturities, as implied by LIBOR, is called the .

Accepted Answer

The swap curve is the set of swap rates that correspond to different maturities, as implied by LIBOR.

Question 4

Given zero-coupon bond yields are 5.2%, 5.5%, and 5.8% in years 1, 2, and 3, respectively, calculate the prepaid swap price for corn. Assume corn forward prices for the proceeding 3 years are $2.10, $2.20, and $2.35, respectively.

Accepted Answer

The prepaid swap price is calculated by discounting the forward prices using the zero-coupon bond yields. The formula is: Prepaid Swap Price = (Forward Price Year 1 / (1 + Yield Year 1)) + (Forward Price Year 2 / (1 + Yield Year 2)^2) + (Forward Price Year 3 / (1 + Yield Year 3)^3). Substituting the given values: (2.10 / 1.052) + (2.20 / 1.055^2) + (2.35 / 1.058^3) = $5.96.

Question 5

Assume corn forward prices over the next 3 years are $2.25, $2.35, and $2.28, respectively. Effective annual interest rates over the same period are 5.2%, 5.5%, and 5.8%. What is the 2- year swap price on a hypothetical ʺforward swapʺ that begins at the end of year 1?

Accepted Answer

The 2-year swap price is calculated by taking the weighted average of the forward prices for years 2 and 3, discounted by the interest rates. The formula is: Swap Price = (F2 / (1 + r1)) + (F3 / ((1 + r1) * (1 + r2))) / (1 / (1 + r1) + 1 / ((1 + r1) * (1 + r2))). Plugging in the values: Swap Price = ($2.35 / 1.052) + ($2.28 / (1.052 * 1.055)) / (1 / 1.052 + 1 / (1.052 * 1.055)) = $2.32.

Question 6

What change in cash flows will occur to the fixed rate payer at settlement, in an interest rate swap agreement, when market interest rates rise?

Accepted Answer

The answer of What change in cash flows will occur...

Question 7

The hedge created by a commodity swap does not protect the hedger against what type of risk?

Accepted Answer

The answer of The hedge created by a commodity swap...

Question 8

What is the 3-year swap price on corn? Assume interest rates over the next 3 years are 6.2%, 6.5%, and 6.8%. The prepaid swap price is given as $6.50.

Accepted Answer

The 3-year swap price is calculated by discounting the prepaid swap price using the given interest rates for each year. The formula is: Swap Price = Prepaid Swap Price / [(1 + r1) * (1 + r2) * (1 + r3)], where r1, r2, and r3 are the interest rates for each year. Plugging in the values: $6.50 / [(1 + 0.062) * (1 + 0.065) * (1 + 0.068)] = $2.46.

Question 9

The 3-year swap price on a new corn swap agreement is $5.94. Interest rates immediately rise on 1, 2, and 3-year zero coupon bonds from 5.1%, 5.4%, and 5.7% to 5.2%, 5.6%, and 6.0%, respectively. What is net swap payment per year if the reverse transaction occurs? Assume year 1, 2, and 3 forward prices are $2.05, $2.15, and $2.30, respectively and do not change.

Accepted Answer

The answer of The 3-year swap price on a new...

Question 10

Euro dollar futures prices with maturities of 3, 6, and 9 months are 89.04, 88.75, and 88.55, respectively. What is the annualized swap rate on 9-month securities?

Accepted Answer

We need to use the formula to calculate the annualized swap rate:

[(1 + R3)^3 * (1 + R9)^9] = [(1 + R6)^6]^2
where R3, R6, and R9 are the rates for the respective maturities given in the question.

Substituting the values, we get:

[(1 + 0.8904/100)^3 * (1 + R9)^9] = [(1 + 0.8875/100)^6]^2

Solving for R9, we get:

R9 = 11.34%

Therefore, the annualized swap rate on 9-month securities is 11.34%. The correct choice is C.

Question 11

Your company can get yen loans for 2.0%. Dollar rates on the same loans are 4.5%. The spot yen per dollar exchange rate is 104. The forward rates for years 1 thru 4 are, 101.51, 99.08, 96.71, and 94.40, respectively. What is the present value of the market-makerʹs net cash flow if spot rates are 102 instead?

Accepted Answer

The answer of Your company can get yen loans for...

Question 12

An investor enters into a 2-year swap agreement to euros at $1.32 per euro. Soon after the swap is created forward prices rise and the new swap price on a similar swap is $1.45. If dollar denominated interest rates are 4.0% and 4.5% on 1- and 2-year zero coupon government bonds, respectively, what is the gain to be made from unwrapping the original swap agreement?

Accepted Answer

The answer of An investor enters into a 2-year swap...

Question 13

IBM and AT&T decide to swap $1 million loans. IBM currently pays 9.0% fixed and AT&T pays 8.5% on a LIBOR + 0.5% loan. What is the net cash flow for IBM if they swap their fixed loan for a LIBOR + 0.5% loan and LIBOR rises to 8.5%?

Accepted Answer

If LIBOR rises to 8.5%, AT&T's rate becomes 9.0% (8.5% + 0.5%). IBM, now paying this rate, has a cash flow equivalent to its original fixed rate of 9.0%, resulting in no net cash flow difference.

Question 14

A 6 month swaption on oil has a strike price of $15. With 3 month remaining, the fixed price on the swap is $16.00. If an investor exercises the swaption and enters into a new swap, what is the net cash flow at settlement?

Accepted Answer

The investor exercises the swaption to enter a swap at $15, but the market rate is $16. The net cash flow is the difference, $1.00 received.

Question 15

Assume the net swap payment is $.50 on a reverse transaction involving a 3-year corn swap. What is the market value of the swap given interest rates on zero coupon treasury bonds are 5.2%, 5.6%, and 6.0% for 1, 2, and 3 years, respectively?

Accepted Answer

The answer of Assume the net swap payment is $.50...

Question 16

An oil buyer and seller enter into a financially settled 1 year swap. The spot price is $86.20 and the swap price is $90.00. How much will the oil seller receive as the swap payment?

Accepted Answer

The swap payment is the difference between the spot price and the swap price, multiplied by the notional amount. In this case, the notional amount is not given, so we cannot calculate the exact amount of the swap payment. However, we can see that the swap price is higher than the spot price, so the oil seller will receive a positive swap payment. The correct answer is therefore B) $3.80.

Question 17

A portfolio manager enters into a total return swap. She swaps 50% of her $50 million index based portfolio for 4.5% yield bonds. If the annualized total return on the index is 2.5%, what net cash flow will the manager experience under the swap agreement?
A) + $250,000
B) -$250,000
C) + $500,000
D) -$500,000

Accepted Answer

The manager swaps 50% of her $50 million portfolio, which means $25 million worth of index-based securities for the 4.5% yield bond.
The cash flow from the index-based securities will be: $25 million x 2.5% = $625,000.
The cash flow from the 4.5% yield bond will be: $25 million x 4.5% = $1,125,000.
So, the net cash flow for the manager will be: $1,125,000 - $625,000 = $500,000 positive cash flow. Therefore, the answer is C.

Question 18

The forward prices on a barrel of crude oil are $43 and $45 in years one and two, respectively. The interest rates on zero coupon government bonds are 4.0% and 4.5% in years one and two, respectively. What is the likely 2-year swap price on a barrel of crude oil?

Accepted Answer

The correct answer is B. The 2-year swap price on a barrel of crude oil is $43.97. This is because the forward price of a barrel of crude oil in year one is $43, and the interest rate on a zero coupon government bond in year one is 4.0%. This means that the present value of the forward price of a barrel of crude oil in year one is $43 / (1 + 0.04) = $41.54. The forward price of a barrel of crude oil in year two is $45, and the interest rate on a zero coupon government bond in year two is 4.5%. This means that the present value of the forward price of a barrel of crude oil in year two is $45 / (1 + 0.045) = $43.08. The 2-year swap price on a barrel of crude oil is the present value of the forward price of a barrel of crude oil in year one plus the present value of the forward price of a barrel of crude oil in year two. Therefore, the 2-year swap price on a barrel of crude oil is $41.54 + $43.08 = $43.97.

Question 19

An investor enters into a 2-year swap agreement to purchase crude oil at $43.26 per barrel. Soon after the swap is created forward prices rise and the new swap price on a similar swap is $44.12. If interest rates are 5.0% per year, what is the gain to be made from unwrapping the original swap agreement?

Accepted Answer