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?

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Quizplus · Accepted Answer

The gain is the difference between the original swap price and the new swap price, which is $1.45 - $1.32 = $0.13 per euro. Since the swap is for 2 years, the total gain is $0.13 * 2 = $0.26. However, the investor also has to pay interest on the notional amount of the swap, which is $1.32 * 100,000 = $132,000. The interest rate on a 2-year zero coupon government bond is 4.5%, so the interest payment is $132,000 * 0.045 = $5,940. Therefore, the net gain is $0.26 - $5,940 = $0.24.

An Investor Enters into a 2-Year Swap Agreement to Euros