Swap rate curve

CFA Level II Fixed Income
#1

Can someone explain Example 8 determining the swap rate curve from Elan to me?

thanks!

#2

Hello

As I have gone through the SWAP chapter in derivatives hence can answer it. Otherwise the Fixed Income Chapters are really poorly written this time around by Elan/Wiley

Solution:

We are trying to calculated the Swap Fixed rate and this requires equating the fixed rate payment with floating rate payments: PV(Fixed rate payment) = PV (Floating Rate Payment)

We know that at every reset the price of Floating rate bond should be equal to par/face value. Hence the cupon rate for fixed rate payment is the only varible we need to calculate ( also refered to SWAP fixed rate) with the current term structure provided (Spot rates)

Par Value $ 1

Spot Year 1 : 5 %

Spot Year 2: 6%

Spot Year 3: 7%

Solving for Three year Plain Vanilla Interest rate SWAP

$1 Par (Floating rate)= (Cupon * Bo(1 yr)) + ( Cupon * Bo(2 yr))+ (Cupon * Bo(3 Yr)) + ($1 Par * Bo (3 Yr))

This equation can be solved for Cupon:

Cupon= (1- (Bo 3 yrs))/( B01 + BO2+B03)

Bo(1 Yr)= Discount Factors= 0.95238

Bo(2 yr)= Discount Factor= 0.88999

Bo(3 Yr)= Discount Factor= 0.8163

Hence: (1-0.8163)/ (0.95238+0.88999+0.8163) = 0.06909 or 6.909%

Hope it helps

#3

note that these are all LIBOR rates

so BO1 = 1/1.05 = 0.95238

Bo2 = 1/1.06^2 = 0.88999

Bo3 = 1/1.07^3 = 0.81629

#4

I don’t enjoy FI…Reading42 is long n filled with calculations n theories …yet. EOC questions super easy…

#5

I agree. I was suprised with EOC questions. Hope they reflect exam questions

#6

Doubt it…they r way too easy