Fundamentals of Corporate Finance
11th Edition
ISBN: 9780077861704
Author: Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Bradford D Jordan Professor
Publisher: McGraw-Hill Education
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Chapter 23, Problem 9CRCT
Summary Introduction
To discuss: The reason to call a swap agreement is a series of forward contracts and the nature of default risks if a firm enters into a swap agreement with a swap dealer.
Introduction:
A swap contract is an emerging derivative instrument, which was introduced in the year 1981. The swap contract is an agreement to swap or exchange cash flows at specified intervals. The swap dealer is an important part of the swap market because unlike a futures contract, there is no standardized or organized exchange available in swaps. Hence, a swap dealer is any person who makes the market in swaps.
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Students have asked these similar questions
3 Why is an interest rate swap equivalent to a series of forward contracts? Explain
Question 2
a) Give an example of how a swap might be used by a portfolio manager.
b) Explain the nature of the credit risks to a financial institution in a swap agreement.
How can exchange-rate risk be hedged using forward, futures,
and options contracts?
OA. Firms can buy a put option to hedge against a rise in
the exchange rate.
OB. Firms can buy a call option to hedge against a rise in
the exchange rate.
OC. Firms can sell forward contracts to hedge against a rise
in the exchange rate.
OD. All of the above.
Chapter 23 Solutions
Fundamentals of Corporate Finance
Ch. 23.1 - Prob. 23.1ACQCh. 23.1 - Prob. 23.1BCQCh. 23.2 - Prob. 23.2ACQCh. 23.2 - Prob. 23.2BCQCh. 23.3 - What is a forward contract? Describe the payoff...Ch. 23.3 - Prob. 23.3BCQCh. 23.4 - Prob. 23.4ACQCh. 23.4 - Prob. 23.4BCQCh. 23.5 - Prob. 23.5ACQCh. 23.5 - Prob. 23.5BCQ
Ch. 23.5 - Prob. 23.5CCQCh. 23.6 - What is a futures option?Ch. 23.6 - Prob. 23.6CCQCh. 23 - Keith is preparing a graph that compares the value...Ch. 23 - Prob. 23.3CTFCh. 23 - Prob. 23.6CTFCh. 23 - Prob. 1CRCTCh. 23 - Prob. 2CRCTCh. 23 - Prob. 3CRCTCh. 23 - Prob. 4CRCTCh. 23 - Prob. 5CRCTCh. 23 - Prob. 6CRCTCh. 23 - Options [LO4] Explain why a put option on a bond...Ch. 23 - Prob. 8CRCTCh. 23 - Prob. 9CRCTCh. 23 - Prob. 10CRCTCh. 23 - Prob. 11CRCTCh. 23 - Hedging Exchange Rate Risk [LO2] If a U.S. company...Ch. 23 - Hedging Strategies [LO1] For the following...Ch. 23 - Prob. 14CRCTCh. 23 - Prob. 15CRCTCh. 23 - Prob. 16CRCTCh. 23 - Prob. 1QPCh. 23 - Prob. 2QPCh. 23 - Futures Options Quotes [LO4] Refer to Table 23.2...Ch. 23 - Prob. 4QPCh. 23 - Futures Options Quotes [LO4] Refer to Table 23.2...Ch. 23 - Prob. 6QPCh. 23 - Prob. 7QPCh. 23 - Interest Rate Swaps [LO3] ABC Company and XYZ...Ch. 23 - Prob. 9QPCh. 23 - Prob. 10QPCh. 23 - Prob. 1MCh. 23 - Prob. 2MCh. 23 - Prob. 3MCh. 23 - Prob. 4MCh. 23 - Prob. 5MCh. 23 - Are there any possible risks Joi faces in using...
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- Interest swaps are subject to counterparty risk. 1. Please briefly explain the consequences for a bank if the counterparty fails. 2. Briefly explain how the extent of the counterparty risk can be calculated. 3. Briefly explain how the risk can be integrated into the ''pricing'' of the swap. Remark: It is not necessary to calculate any value.arrow_forwardA firm gives all its employees American-style call options on the firm's stock. The options have a five- year life. The employees are not allowed to sell their options, but they can take long and short positions in the company's shares. As a result, if an employee does exercise his/her options, then he/she can sell the shares that they acquire. Which of the following statements is correct? O Highly risk-averse investors are better off exercising a fraction of their options early and holding a portfolio containing the remaining options and the shares obtained by exercising. O If the firm will not pay any dividends during the next five years, then an employee considering exercising prior to maturity will always be better off by undertaking trades in the firm's stock and borrowing or lending. O Options are more volatile than the underlying stock. Thus, if the options are in-the-money, employees with high risk aversion will be better off exercising their options, O If an employee believes…arrow_forwardInterest Rate Swap: A company that expects interest rates to rise and wishes to exchange its floating interest rate for a fixed rate would: Select one OA. Enter into a payer swap B. Enter into a receiver swap C. Sell interest rate futures OD. Buy interest rate futuresarrow_forward
- Explain what a first-to-default credit default swap is. Does its value increase or decrease as the default correlation between the companies in the basket increases? Explain.arrow_forwardA swap: Group of answer choices B. Gives the holder the right to see the underlying bond. A. Allows the buyer to purchase the underlying instrument. C. Is an OTC agreement to exchange the cash flows of two different securities. D. Not effective at managing interest rate risks.arrow_forwardWhich of the following statements about interest rate swaps is/are true? I - The notional principals are exchanged by the counterparties at the end of an interest rate swap's life II - The differences in how credit risk is priced gives rise to comparative advantage in borrowing through swaps. III - When an intermediary is involved in a swap, the intermediary assumes no counterparty risk for either end of the transaction IV - It is possible for both counterparties to benefit from a swap even if one counterparty has the absolute advantage in all types of borrowing O a. I, II, III, and IV O b. II and IV O c. II, III, and IV O d. I, II, and IV Oe. II and IIIarrow_forward
- Which of the following is the advantage of swaps? Answer choices: a. Early termination of swaps before maturity will not incur any cost. b. Swaps does not have up-front premium. c. Swaps are only used only for shorter periods d. The financial intermediaries cannot earn any commission, only parties of swap do.arrow_forwardWhich of the following most accurately describes the behavior of credit default swaps?a. When credit risk increases, swap premiums increase.b. When credit and interest rate risk increase, swap premiums increase.c. When credit risk increases, swap premiums increase, but when interest rate risk increases, swap premiums decrease.arrow_forwardDescribe who would use a swap and why? How many different types of swaps are they and why? Describe how a company might benefit from interest rate currency swaps?arrow_forward
- Consider a security that pays income to its holders (e.g., a dividend-paying stock, or acoupon bond). Should the forward price of this security (for a contract that matures attime T), F0,T, be higher than, lower than, or equal to the security's current spot price?Why?.arrow_forward4: A futures contract is used for hedging. Carefully explain why the daily settlement of the contract can give rise to cash flow problems.plz explain itarrow_forward. Answer the below questions. (a) For a single-name credit default swap, what is the difference between physical settlement and cash settlement? . (b) In physical settlement, why is there a cheapest-to-deliver issue? (Please correct answer)arrow_forward
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