Question

Company A desires a variable-rate loan but currently has a better deal from the fixed-rate market at a rate of .13. If Company A borrows from the variable-rate market, the cost would be LIBOR+.02. In contrast, Company B, which prefers a fixed-rate loan, has a better deal from the variable-rate market at LIBOR+.03. If Company B borrows from the fixed-rate market, the cost would be .16. Knowing both companies’ needs, Bank C designed a swap deal. The deal is outlined in the following:

1) Company A obtains a fixed-rate loan at .13.

2) Company B obtains a variable-rate loan at LIBOR+.03.

3) Company A pays Bank C a variable rate of LIBOR+.01 and receives a fixed rate of .133 from the bank.

4) Company B pays Bank C a fixed rate of .145 and receives a variable rate of LIBOR+.02 from the bank.

How much is the cost saving to Company B and how much is the total gain to the bank?

Select one: a. Cost savings for B: 0.5%, and the gain for bank: 0.2%

b. Cost savings for B: 0.4%, and the gain for bank: 0.4%

c. Cost savings for B: 0.7%, and the gain for bank: 0.2%

d. Cost savings for B: 0.6%, and the gain for bank: 0.3%

e. Cost savings for B:1%, and the gain for bank: 0.3%

Answer 1

Detailed answer is provided in the hand written notes below.