Make a distinction fully between an Interest Rate Swap and a Currency Swap. Why do swaps exist?
Assume Firm X is able to obtain a $ bank loan with a term to maturity of six (6) years against LIBOR + 0.25%. It can as well issue fixed rate $ bonds with a term to maturity of six years against nine per cent p.a. Firm Y with a lower credit rating can attract a similar $ bank loan against LIBOR + 0.75 per cent and issue $ bonds against 10.25 % p.a. Suppose X insists on a net gain of 40 basis points (0.4 %), would a swap be possible between X and Y? describe the flows clearly if any.
Derive and illustrate out:
i) The International Fisher Effect
ii) The Interest Rate Parity Theorem
iii) The Unbiased Forward Rate Theory
iv) The Fisher effect
Outline and illustrate the main differentiations between forward and futures contracts.
What do you understand by foreign exchange exposure? What are the potential methods a firm might use to hedge foreign exchange rate risk?