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FRM Part I · FRM Exam Part I · Swaps

A company enters a plain vanilla interest rate swap in which it pays a fixed rate of 4% per annum and receives floating, with a notional of USD 50 million and semiannual payments. Immediately after a payment date, the floating-rate bond equivalent is valued at par. Which statement correctly describes how the value of the swap to the fixed-rate payer is determined using the bond approach?

The fixed-rate payer's swap value equals the floating-rate bond value minus the fixed-rate bond value, because paying fixed and receiving floating is equivalent to being long a floating-rate bond and short a fixed-rate bond. The reverse ordering gives the receiver's value.

  1. AValue = Floating-rate bond value minus fixed-rate bond valueCorrect
  2. BValue = Fixed-rate bond value minus floating-rate bond value
  3. CValue = Fixed-rate bond value plus floating-rate bond value
  4. DValue = Notional minus the present value of the final floating payment only

Explanation

The fixed-rate payer is long a floating-rate bond and short a fixed-rate bond. So value = B_float - B_fix. Reversing the order gives the value to the fixed-rate receiver, which is the key wrong option.

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