Explanation:
In a plain vanilla interest rate swap, floating interest rates are typically determined in advance (at the beginning of the period) and paid in arrears (at the end of the period/settlement date). Thus, the payment made at the current settlement date is based on the 13.5% Euribor rate established on the previous settlement date.
TIEN receives the floating Euribor rate and pays a fixed rate of 12%.
Net interest rate received by TIEN = Floating Rate Received - Fixed Rate Paid
Net interest rate = $13.5% - 12.0% = 1.5%$
With a notional principal of USD 50 million and semiannual payments (assuming a 360-day year, 180 days per period), the net settlement amount is: Net Payment = Notional Net Rate (Days / 360) Net Payment = Net Payment = .
TIEN will receive a net payment of USD 375,000.
Ultimate access to all questions.
Q.38 Tiara Enterprises (TIEN) has just announced its plans to establish a facility in New York, USA, to meet the increased demand for its products. TIEN plans to fund the expansion with debt, and in order to hedge the risk of borrowing, TIEN has entered into a plain vanilla interest rate swap with a notional principal of USD 50 million. TIEN would make semiannual payments at the rate of 12% with the counterparty making floating rate payments at the Euribor rate. Assuming a 360-day year, if the Euribor was 13.5% on the last settlement date and is 11.0% on the current settlement date, the amount that TIEN would receive at the last settlement date is closest to:
A
USD 250,000.
B
USD 625,000.
C
USD 375,000.
D
USD 312,500
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