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Hi John,
On the latest exam we had task:
We can:
borrow Fix 5,6%, or
borrow floating LIBOR + 0,5%Counterparty can:
borrow Fix 6,1%, or
borrow floating LIBOR + 1,5%If we use method you show (as I can understand) we will have 2 pairs:
We: 5,6%
Counter: L+1,5%
Total: L + 7,1%We: L+0,5%
Counter: 6,1%
Total: L+6,6%Furthermore, we were not told which of organisations wants to borrow fix or floating (thus, as opposed to your example, I can’t understand initially what the original borrowing is for both of them)
Thus, I have 2 questions:
1. When calculating total arbitry gain, do we always substract lower interest total expens (L+6,6%) from higher (L+7,1%), thus receiving positive gain 0,5%? Or is there some other rule, that I must use to arrive at total arbitry gain (thus possibly even making it negative)?
2. Which pair we have to use as original borrowing and which is for swap? Pair with higher total expens (L+7,1%) for original borrowing and pair with lower total expens (L+6,6%) for swap? Or, if not, what is the rule?
Thank you in advance 🙂
I have not seen the exam, and so I cannot give you a definitive answer.
However it does sound as though it was a bit like a previous exam question called Keshi (which is probably in your Revision Kit) which did not tell you whether they want to borrow fixed or floating.If that is the case then you effectively need to look at both options (i.e. if one borrows fixed and one borrows floating, then what is the total interest; and then if one borrows floating and one borrows fixed, then what is the total interest), decide which way round is the cheapest, and then organise the swap accordingly.
I can’t say more until (and if) the ACCA publisher the actual question on their website.
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