Interest rate swap, Mr Xi would like to enter into an

Interest rate swap

Assignment Help Operation Management

Reference no: EM132305491

Mr Xi would like to enter into an Interest Rate Swap (IRS) with another party, Mr Hu. The details of the IRS are:

Fixed rate receiver, floating rate payer: Mr Hu

Tenor: 5 years

Interest/Coupon payment: quarterly

Fixed rate: 4% per annum, quarterly basis

Notional principal: $100m

Before transacting, Mr Hu would like to assess the pre-settlement risk of the IRS. Assuming:

Percentage changes in interest rates/yields are normally distributed, with standard deviation of 10% p.a.

95% confidence level

Ignoring the pre-settlement risk of the floating rate legs of the IRS (in the market, this risk is generally ignored since the risk is relatively small due to the short period between resetting of the floating rate), and the settlement risk at each payment date, calculate the potential exposures of the IRS over the entire tenor at each payment date. Plot these twenty potential exposures on a graph to show the credit risk profile of the IRS.

Reference no: EM132305491

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