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Answer: Positive, which will occur if new swaps are being priced at 6%
## Explanation When a swap dealer enters into a plain-vanilla swap as the **receive-fixed party**, they are: - **Receiving fixed payments** (at 7% in this case) - **Paying floating payments** (based on market rates) **Credit risk exposure occurs when the swap has positive value for the dealer** - meaning the counterparty owes money to the dealer. ### Scenario Analysis: **If new swaps are priced at 6%:** - The dealer is receiving 7% fixed (higher than current market rate of 6%) - This is an **in-the-money** position for the dealer - The swap has **positive value** for the dealer - The counterparty would need to pay the dealer to terminate the swap - **Credit risk exposure exists** (dealer faces risk that counterparty defaults) **If new swaps are priced at 8%:** - The dealer is receiving 7% fixed (lower than current market rate of 8%) - This is an **out-of-the-money** position for the dealer - The swap has **negative value** for the dealer - The dealer would need to pay the counterparty to terminate the swap - **No credit risk exposure** (counterparty faces credit risk instead) Therefore, the dealer faces credit risk exposure only when the swap value is **positive**, which occurs when new swaps are priced **below** the original 7% rate (i.e., at 6%). **Correct Answer: C**
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Assume that swap rates are identical for all swap tenors. A swap dealer entered into a plain-vanilla swap one year ago as the receive-fixed party, when the price of the swap was 7%. Today, this swap dealer will face credit risk exposure from this swap only if the value of the swap for the dealer is
A
Negative, which will occur if new swaps are being priced at 6%
B
Negative, which will occur if new swaps are being priced at 8%
C
Positive, which will occur if new swaps are being priced at 6%
D
Positive, which will occur if new swaps are being priced at 8%
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