Help with Equity Swap Question

CFA Level II Derivatives
#1

Below is the question. I have the answer, I follow what they do in the solution, but I don’t understand how they don’t account for the return on the equity portfolio.

Doesn’t the dividend yield make a difference in the pricing?

Thank you

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Consider a fixed-rate semiannual-pay equity swap where the equity payments are the total return on a $1 million portfolio and the following information:

  • 180-day LIBOR is 4.2%
  • 360-day LIBOR is 4.5%
  • Div. yield on the portfolio = 1.2%

What is the fixed rate on the swap?

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Answer:

(1-(1/1.045))/[(1-(1/(1+,042(180/360))+(1-(1/(1+,045(360/360))]

#2

they only ask for the Fixed rate.
Thats from Libor, nothing to do with the div.

#3

Yes to what FDLAVOIE said and also for the equity return, I believe dividend yield is not included. It’s the return from the capital appreciation. (smb correct me if I’m wrong)

#4

Swaps are custom derivatives; as such, they can have whatever terms the parties negotiate.

For equity swaps in particular, the equity return can be only the dividend yield, only the capital appreciation, or the total return.

#5

Thank you for all of the responses.