Question

XYZ Corp owns a 3-year $10 million par floating rate bond. The coupons on the bond are 12-month LIBOR. XYZ would like to hedge against interest rates falling by entering into an interest rate swap with a $10 million notional that receives a fixed rate and pays a floating rate (12-month LIBOR). You are given the following prices for zero coupon bonds. Years to Maturity Zero-coupon Bond Price 1 0.99 2 0.97 3 0.93 Calculate the fixed rate XYZ Corp would receive on the swap.

Answer 1

2.45%

Step-by-step explanation:

The computation of the fixed rate is shown below:

Years to maturity Zero coupon bond price YTM Forward rate

1 0.99 1.01%

2 0.97 1.53% 2.06%

3 0.93 2.45% 4.30%

The fixed rate should be equivalent to the YTM of the 3 year bond i.e. 2.45% the same is to be considered