Suppose that you are a swap bank and you notice that interest rates on zero coupon bonds are as shown.Develop the 3-year bid price of a euro swap quoted against flat USD LIBOR. $$\begin{array} { | l | l | l | l | }
\hline \begin{array} { l }
\text { Zero } \
\text { Rates }
\end{array} & 1 \text {-year } & \text { 2-year } & \text { 3-year } \
\hline \text { USD } & \$ 3 \% & \$ 4 \% & \$ 5 \% \
\hline \text { euro } & € 2 \% & € 3 \% & € 4 \% \
\hline
\end{array}$$ In other words,what will you be willing to pay in euro against receiving USD LIBOR?

Question

Suppose that you are a swap bank and you notice that interest rates on zero coupon bonds are as shown.Develop the 3-year bid price of a euro swap quoted against flat USD LIBOR. $$\begin{array} { | l | l | l | l | } 
\hline \begin{array} { l } 
\text { Zero } \
\text { Rates }
\end{array} & 1 \text {-year } & \text { 2-year } & \text { 3-year } \
\hline \text { USD } & \$ 3 \% & \$ 4 \% & \$ 5 \% \
\hline \text { euro } & € 2 \% & € 3 \% & € 4 \% \
\hline
\end{array}$$ In other words,what will you be willing to pay in euro against receiving USD LIBOR?

Quizplus · Accepted Answer

The swap bank would be willing to pay the euro rate that matches the USD LIBOR rate. The 3-year euro zero rate is 4%, and the 3-year USD zero rate is 5%. The swap bank would pay the euro rate that equates to the USD LIBOR, which is 3% to ensure a fair swap.

Suppose That You Are a Swap Bank and You Notice