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FRM Part I · FRM Exam Part I · How Do Firms Manage Financial Risk?

A company has floating-rate debt of USD 50 million paying 6-month SOFR plus 1.00%. It enters a pay-fixed, receive-floating swap with a fixed rate of 4.50% on the same notional, with floating payments equal to SOFR. Ignoring day-count and timing differences, what is the company's net effective annual borrowing rate?

The swap's floating receipt cancels the SOFR component of the loan interest, leaving the fixed 4.50% swap payment plus the 1.00% loan spread. The net effective borrowing cost is therefore a fixed 5.50% per year.

  1. ASOFR + 1.00%
  2. B4.50%
  3. C5.50%Correct
  4. DSOFR + 5.50%

Explanation

The company pays SOFR + 1.00% on the debt, receives SOFR on the swap, and pays 4.50% fixed. Net = SOFR + 1.00% - SOFR + 4.50% = 5.50%. Option 2 omits the 1.00% credit spread on the loan.

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