# Interest rate swap split calc

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This topic contains 7 replies, has 4 voices, and was last updated by  John Moffat 3 weeks, 1 day ago.

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• harripool
Participant

Hi John,

Lecture example 2 chapter 21.
Can you explain how we arrive at:
‘B’ pays ‘A’ 0.75%

I understand how we arrive at a split of 0.25% each, but not how this equates to a 0.75% payment?
I’m obviously missing something simple here, but can’t figure it out!

Much appreciated

John Moffat
Keymaster

If company B were to borrow directly at fixed, they would be paying 11%, and so if they are to save 0.25% they must end up paying 10.75%.

Swapping with A would mean they would be paying 10%, so to make it up to 10.75% they pay 0.75% to A.

Similarly, if A were to borrow directly at floating, they would be paying L + 1%, and so if they are to save 0.25% they must end up paying a net L + 0.75%.

By swapping with B they will be paying L + 1.5%, but if they receive 0.75% from B then the net payment will be L + 0.75%

harripool
Participant

Eureka! Thanks John

John Moffat
Keymaster

You are welcome

indiffacca
Participant

John Moffat
Keymaster

Have you watched the free lecture on interest rate swaps?

piggeed
Participant

Hi John,

I watched the video lecture on interest rate swaps and apply the concept to Dec 14 Keshi Co:

own: Keshi Co would borrow floating L + 0.4%, and Counter-party would borrow at fix rate 4.6% => Total L + 5%

Swap: Keshi Co now borrows fix 5.5%, Counter-party borrows floating L + 0.3% => Total L + 5.8%.

Can we say that the saving is 0.8%? In this case, I see the swap costs 0.8% more, not less.

John Moffat
Keymaster

It depends whether Keshi would prefer to end up paying fixed interest or floating interest.

If they wish to end up borrowing fixed (and do it by borrowing floating and then swapping) then there is a saving to be made of 0.8% in total.

The advantage of arranging a swap and ending up paying fixed interest is that there is the saving. The potential downside is that if LIBOR were to fall then they will not get the benefit of the lower interest and may have been better off to have borrowing floating and not to have entered into the swap arrangement.

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