Chapter 8
Interest Rate Risk and Swaps
◼ Learning Objectives
1. Explain interest rate fundamentals, including basic floating rates of interest and fixed
rates of interest
2. Define corporate interest rate risk and examine a variety of methods for its management
3. Explore the use of interest rate futures and forward rate agreements in managing interest
rate risk
4. Examine the use of interest rate swaps to manage the interest rate risks of multinational
firms
◼ Chapter Outline
I. Interest Rate Foundations
A. Corporate Cost of Debt
B. Credit Ratings and Cost of Funds
C. Credit Risk and Repricing Risk
D. Sovereign Debt
E. Sovereign Spreads
II. Interest Rate Risk
A. Debt Structures and Strategies
B. MedStat’s Floating-Rate Loans
Refinancing
Interest Rate Futures
Forward Rate Agreements (FRAs)
Interest Rate Swaps
III. Interest Rate Futures and FRAs
A. Interest Rate Futures
B. Forward Rate Agreements
IV. Interest Rate Swaps
© 2018 Pearson Education, Inc.
3. Credit Risk Premium. What is a credit risk premium?
4. Credit and Repricing Risk. From the point of view of a borrowing corporation, what are
credit and repricing risks? Explain steps a company might take to minimize both.
© 2018 Pearson Education, Inc.
10. Interest Rate Futures Strategies. What would be the preferred strategy for a borrower
paying interest on a future date if they expected interest rates to rise?
11. Forward Rate Agreement. How can a business firm that has borrowed on a floating-rate
basis use a forward rate agreement to reduce interest rate risk?
12. Plain Vanilla. What is a plain vanilla interest rate swap? Are swaps a significant source of
capital for multinational firms?
13. Swaps and Credit Quality. If interest rate swaps are not the cost of government
borrowing, what credit quality do they represent?
© 2018 Pearson Education, Inc.
14. LIBOR Flat. Why do fixed for floating interest rate swaps never swap the credit spread
component on a floating rate loan?
15. Debt Structure Swap Strategies. How can interest rate swaps be used by a multinational
firm to manage its debt structure?
16. Cost-Based Swap Strategies. How do corporate borrowers use interest rate or cross-
currency swaps to reduce the costs of their debt?
© 2018 Pearson Education, Inc.
17. Cross-Currency Swaps. Why would one company with interest payments due in pounds
sterling want to swap those payments for interest payments due in U.S. dollars?
18. Value Swings in Cross-Currency Swaps. Why are there significantly larger swings in the
value of a cross-currency swap than there is in a plain vanilla interest rate swap?
19. Unwinding a Swap. How does a company cancel or unwind a swap?
20. Counterparty Risk. How does organized exchange trading in swaps remove any risk that
the counterparty in a swap agreement will not complete the agreement?
© 2018 Pearson Education, Inc.