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Good evening
i am going thru the above article and i have 2 questions:
1. at the start of the swap the npv of the receipts and payments will be zero. can u please explain this.
2. in calculating the fixed payment, the year 1 spot and then the forward rates are used. i can understand that the payments the company makes to the bank will use the spot and forward rates. but i cant understand why the same rates are used for the receipts. why wdnt the bank use its spot rates from yr1 to yr 5.
regards
Always, in any borrowing, the present value of the repayments discounted at the interest rate will equal the amount of the borrowing. (The reason the repayments are more than the amount of the borrowing is solely because of the interest, and the whole purpose of discounting is to remove the interest). The same applies to lending, which is why the NPV of the two must be zero.
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