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My question is written at the last part(i’m still confused)
Participant
My question is written at the last part( i still can’t understand the forex swap john…)
( i have pasted the last question and your response)May 14, 2018 at 5:20 pm
thomas1212
Participant
My question is written at the last part( i still can’t understand the forex swap john…)
( i have pasted the last question and your response)May 13, 2018 at 9:48 am
thomas1212
Participant
Hi john, you have mentioned that i can’t post a textbook question, therefore i have changed the company names of the question, and even the verbs and the amount.( i really can’t understand this one part, so i really need your help…)The question is
we assume that a company called ACY Ltd need an initial investment of 200m won and it will be sold for 300m won in one year’s time.
The currency spot rate is 40 won per sgd(singapore dollar) and government has offered a forex swap at 40 won per sgd. ACY Ltd can’t borrow won directly and no forward market is available.
The estimated spot rate in one year is 80 won per sgd and the current singapore borrowing rate is 20%.
In the answer sheet, it is
with forex swap
– Buy 200m won at 40
– swap 200m won back at 40
– sell 200m won at 80
– interest on singapore loan ( 5mx 20%)My question is that when, they buy at 200m won at 40, is this(40) the currency spot rate ? or the forex swap rate (and why is it ) ?
i stand on spot rate because we only consider swapping rate when we actually swap and swap back the currency not for buying the loan.
| QUOTE May 13, 2018 at 8:52 pm
John Moffat
Keymaster
It is the swap rate, because that is the offer that has been made.– You have mentioned that we use the swap rate(for buying the loan) however, offer has been made to swap the currencies not for buying the loan isn’t ? therefore shouldn’t we suppose to use the spot rate to buy the loan ?
| QUOTE May 14, 2018 at 6:38 pm
John Moffat
Keymaster
The way the question is worded as you have typed it, I stand by my previous answer. If I am prepared to swap currencies with you, I can dictate any rate I want – it is your choice whether or not to accept the swap.
(Then i have 2 questions)
1. Does that mean that if just assuming that spot rate is lower than the government forex swap rate, then we use the lower rate ?2. If number 1 question answer is yes, then we just always use the lower rate for buying the loan ?
if the number question answer is no, then how do i know which rate to use for the forex swap rate ?3. will the forex swap rate provided by the bank or government always be lower than the spot rate ??
thanks john… ! i still have difficulties understanding it…
| QUOTE May 15, 2018 at 6:59 pm
John Moffat
Keymaster
You use whatever the swap rate quoted in the question is, regardless of whether it is higher or lowerMy question
– i am talking about buying a loan to buy foreign currency so that when the swapping date comes in, ACY Ltd can swap back the currency to obtain their own local currency. Buying loan is not part of the swapping agreement ! ! ! but why do they have to use the government forex swap rate for buying the loan ???????????Because from what you have copied from the question, it seems as though that was what the government offered.
so what you are saying is that when one company enters into a forex swap with another party, one can not only swap the currency with another party(using government swap rate) but also buy the other party currency’s loan(using government swap rate) ??????
The purpose of a currency swap is to end up paying interest in another currency.
Maybe you are intending to invest in a new operation in a foreign country and so the earnings will be in a foreign currency. It then makes sense to borrow in the foreign currency so that you are paying interest in that foreign currency – you are matching the foreign receipts with foreign interest payments (which helps reduce the risk due to exchange rate movements).
Instead of trying to borrow money yourself in the foreign currency, it will likely be lower interest if you swap with a company in the foreign country (they will have a better credit rating than you will in the other country and so will pay less interest).
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