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Answer: Holding all else constant, if the CNY depreciates against the USD, the mark-to-market value of the swap will decrease.
## Explanation In a currency swap: - **Option A is incorrect**: In a currency swap, both interest payments AND notional amounts are exchanged at initiation and maturity. The notional amounts are exchanged at the beginning and returned at the end. - **Option B is incorrect**: At initiation, the hedge fund would pay USD 10 million and receive CNY 65 million (not the other way around), since they are receiving interest in CNY. - **Option C is incorrect**: At initiation, currency swaps are typically structured to have zero mark-to-market value for both parties, as the exchange rates and interest rates are set to make the present value of future cash flows equal. - **Option D is correct**: If the hedge fund receives interest in CNY and the CNY depreciates against the USD, the value of the CNY-denominated cash flows decreases when converted to USD. Since the hedge fund receives CNY payments, a depreciation of CNY means these future payments are worth less in USD terms, decreasing the mark-to-market value of the swap from the hedge fund's perspective. **Key Concept**: In currency swaps, the party receiving payments in a currency that depreciates will see the value of their position decrease, as the future cash flows become less valuable when converted to their home currency.
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A currency derivatives trader at a hedge fund is describing the mechanics of currency swaps to a group of junior analysts. The trader uses an example of a fixed-for-fixed USD for CNY currency swap with the following terms:
Assuming the hedge fund receives interest in CNY, which of the following conclusions would the analysts find to be most likely correct?
A
Interest payments will be exchanged periodically for the duration of the swap, but the notional amounts will not be exchanged.
B
The hedge fund will pay CNY 65 million and receive USD 10 million at the initiation of the swap.
C
The swap is structured to have a positive mark-to-market value for the hedge fund at the initiation of the swap.
D
Holding all else constant, if the CNY depreciates against the USD, the mark-to-market value of the swap will decrease.