A US-based corporation wants to raise fixed-rate dollar financing. It finds it can borrow fixed in USD at 6% per annum. It can also borrow fixed in JPY at 2% per annum. It can enter into a USD-JPY currency swap in which 2% fixed JPY interest rates are exchanged for USD Libor. Lastly, the company can enter into a USD plain vanilla fixed-vs-Libor interest rate swap with a fixed rate of 5.75%. Given this information, the company's best option is to
A) Raise USD fixed rate financing directly.
B) Raise USD floating rate financing at Libor plus 25 basis points and swap into fixed.
C) Raise fixed-rate JPY financing and leave it unhedged (i.e., do not enter into any swaps).
D) Raise JPY fixed rate financing, swap into USD fixed using a currency swap and an interest-rate swap.

Question

Quizplus · Accepted Answer

The company can minimize its interest expense by borrowing at the lower JPY fixed rate of 2% and then using swaps to convert the cost to USD fixed rate. This takes advantage of the lower interest rate environment in Japan and the swap markets to achieve a more favorable fixed rate in USD.

A US-Based Corporation Wants to Raise Fixed-Rate Dollar Financing