In Preparing The Company S Financial Statements Alteco S Accountants Are Faced W

In preparing the company’s financial statements, ALTECO’s accountants are faced with valuing the company’s positions in three currency and interest rate swaps.

Swap A:

ALTECO pays 3% p.a. (s.a. compounding) on a principal of US$450m and receives 4% p.a. (s.a. compounding) on a principal of £250 million. Cash flows are exchanged semi-annually and it is exactly six months to the next swap payment date. The swap has eighteen months to run.

Swap B:

ALTECO pays 3.5% p.a. (s.a. compounding) on a principal of US$600m and receives six-month sterling LIBOR on a principal of £400 million. Cash flows are exchanged semi-annually and it is exactly six months to the next swap payment date. The swap has two years to run.

Swap C:

ALTECO pays six-month sterling LIBOR on a principal of £350 million and receives six-month US dollar LIBOR on a principal of US$500 million. Cash flows are exchanged semi-annually and it is exactly six months to the next swap payment date. The swap has three years to run.

The current exchange rate for sterling is £1 = US$1.60 and the LIBOR/swap term structures in the UK and US are as follows (all rates continuously compounded):

Required

(a) Use the zero coupon valuation method to value the three swaps to ALTECO in US dollars.1 (16 marks

(b) Calculate the duration of Swap C from ALTECO’s perspective. Briefly explain your answer.

(4 marks)

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