Question

show how to combine a currency swap paying euros at a floating rate and receiving japanese yen at a floating rate with another currency swap to obtain a plain vanilla swap paying japanese yen at a fixed rate and receiving japanese yen at a floating rate.

Answer 1

To create a plain vanilla swap paying Japanese yen at a fixed rate and receiving Japanese yen at a floating rate, one would need to combine the initial euro-paying, yen-receiving swap with a second swap where yen is paid at a fixed rate in exchange for floating rate euros.

Step-by-step explanation:

To obtain a plain vanilla interest rate swap that pays Japanese yen at a fixed rate and receives Japanese yen at a floating rate, we need to combine the original currency swap with another complementary swap. The original swap involves paying euros at a floating rate and receiving Japanese yen at a floating rate.

By entering into another currency swap where the student pays Japanese yen at a fixed rate and receives euros at a floating rate, the two floating euro positions cancel out. This leaves the student with a net position of paying yen at a fixed rate and receiving yen at a floating rate, thus achieving a plain vanilla interest rate swap.

Market exchange rates and purchasing power parity (PPP) are important concepts to understand when dealing with swaps and conversions between different currencies. Understanding these rates is crucial since they reflect the relative value of currencies which impacts the swap payments.