A pay-fixed interest rate swap can be viewed as equivalent to
A) a long position in a par-valued FRN and a long position in a par-valued, fixed-rate note.
B) a long position in a par-valued FRN and a short position in a par-valued, fixed-rate note.
C) a short position in a par-valued FRN and a long position in a par-valued, fixed-rate note.
D) a short position in a par-valued FRN and a short position in a par-valued, fixed-rate note.
E) a flat position in a par-valued FRN and a short position in a par-valued, fixed-rate note.

Question

Quizplus · Accepted Answer

The pay-fixed interest rate swap involves the exchange of fixed-rate payments for floating-rate payments based on a notional principal amount. This can be replicated by taking a long position in a fixed rate bond and a short position in an FRN. Alternatively, it can be viewed as a long position in a par-valued FRN and a short position in a par-valued, fixed-rate note. Therefore, the best choice is (B).

A Pay-Fixed Interest Rate Swap Can Be Viewed as Equivalent