Deck 23: Currency and Commodity Swaps

Question 1

A currency swap is an agreement in which
(a) One currency is exchanged for another at a future date.
(b) Principal and interest payments in one currency are exchanged for principal and interest payments in another currency.
(c) An equity holding in a foreign currency is exchanged for one in the domestic currency at a future date.
(d) The return on an equity holding in a foreign currency is exchanged for the return on the domestic equity index.

Answer 1

B.

Question 2

A currency swap has more counterparty risk than an interest-rate swap because
(a) Unlike an interest rate swap, the counterparties are usually in different countries, making the swap vulnerable to different legal systems.
(b) Unlike an interest rate swap, the currency swap also involves an exchange and re-exchange of principal amounts, making the swap vulnerable to movements in exchange rates.
(c) Foreign exchange markets have more credit risk than interest rate markets.
(d) Each counterparty is less likely to default in its home currency than in a foreign currency.

Answer 2

B.

Question 3

The continuously-compounded forward-interest-rate curve for euros lies above that for dollars up to five years in maturity and then crosses below the dollar forward curve. The current spot exchange rate is $1.50/€. What is the most valid statement of the following?
(a) The forward exchange rate ($/€) will always be less than 1.50 for all maturities up to five years.
(b) The forward exchange rate ($/€) will always be greater than 1.50 for all maturities greater than five years.
(c) The forward exchange rate ($/€) will always be less than 1.5 for all maturities greater than five years.
(d) There is insufficient information to be able to make any definitive statements about the forward exchange rate.

Answer 3

A.

Question 4

You are an active currency trader in the dollar-euro market. The current market quote ($/€) is 1.51-1.55. You do not want to trade much and would rather take the afternoon off because you have no idea where the market is going. Which of the following quotes is the most likely one you will present to the market given your objectives?
(a) 1.52-1.56
(b) 1.50-1.54
(c) 1.50-1.56
(d) 1.52-1.54

Question 5

A US company may borrow USD funds at Libor plus 1%. In the EUR market, it can raise fixed-rate financing at 3%. It may also access a currency swap that is quoted as: Fixed EUR 3.0-3.2% vs Floating USD Libor. The cheapest rate at which the company can borrow floating dollar funds is:

A) Libor $- 0.2 \%$
B) Libor
C) Libor + 0.2%
D) Libor + 1%

Question 6

You are a CFO of a major corporation, and want to buy dollars in exchange for euros. The bank quotes you the following currency rate ($/€): 1.50-1.52. At what rate will you buy?
(a) 1.50
(b) 1.51
(c) 1.52
(d) Insufficient information to answer this question.

Question 7

Which of the following statements is most valid?
(a) The forward exchange rate is higher than the spot exchange rate if the foreign currency risk premium is positive.
(b) The currency that pays a higher interest rate trades at a premium in the forward exchange market.
(c) The currency that pays a higher interest rate trades at a discount in the forward exchange market.
(d) Whether the forward exchange rate is higher than the spot depends on the relative volatilities of interest rates in the two currencies.

Question 8

The USD-EUR spot exchange rate is $1.50/€. If the two-year interest rate (in continuously-compounded and annualized terms) is 3% for EUR and 2% for USD, what are the two-year forward points ($/€) expressed as usual in basis points?
(a) Zero
(b) 100
(c) 300
(d) Cannot be calculated from the given data.

Question 9

A US-based company needs to raise five-year financing for a new project. It will have to pay 5% interest for money raised in dollars, but only 2% interest for money raised in yen because interest rates are lower in Japan. Which of the following is not a risk if the company chooses to raise yen financing?
(a) The yen appreciates against the dollar, and dollar interest rates rise.
(b) The yen appreciates against the dollar, and yen interest rates rise.
(c) The yen depreciates against the dollar, and yen interest rates fall.
(d) The yen depreciates against the dollar, and yen interest rates rise.

Question 10

Consider a fixed-for-floating US dollar-Korean won currency swap in which an investor pays USD floating and receiving KRW fixed. From a cash-flow perspective, the swap is equivalent to a situation in which
(a) The investor has received a KRW fixed-rate loan and made a USD floating-rate loan.
(b) The investor has borrowed floating-rate USD and loaned KRW fixed-rate.
(c) The investor is short a USD floating rate loan and long a KRW fixed-rate borrowing.
(d) The investor has entered into a back-to-back loan agreement with his counterparty with fixed rates on both loans.

Question 11

If Japanese yen floating rates are well below US dollar floating rates, then a fairly-priced basis swap that exchanges Japanese floating rates (plus a spread) for US floating rates must have
(a) a positive spread to compensate for the lower Japanese interest rates.
(b) a negative spread to compensate for the likely appreciation of the yen against the dollar.
(c) zero spread.
(d) Any of the three are possible.

Question 12

A US-based corporation wants to raise fixed-rate dollar financing. It finds it can borrow fixed in USD at 6% per annum. It can also borrow fixed in JPY at 2% per annum. It can enter into a USD-JPY currency swap in which 2% fixed JPY interest rates are exchanged for USD Libor. Lastly, the company can enter into a USD plain vanilla fixed-vs-Libor interest rate swap with a fixed rate of 5.75%. Given this information, the company's best option is to
(a) Raise USD fixed rate financing directly.
(b) Raise USD floating rate financing at Libor plus 25 basis points and swap into fixed.
(c) Raise fixed-rate JPY financing and leave it unhedged (i.e., do not enter into any swaps).
(d) Raise JPY fixed rate financing, swap into USD fixed using a currency swap and an interest-rate swap.

Question 13

ABC, a US-based corporation enters into a currency basis swap with XYZ, a British company, in which the initial principal amounts are $200 million and £ 100 million. That is:
-At inception, there is an initial principal exchange in which ABC pays XYZ $200 million and receives £ 100 million.
-Subsequently, at each interest payment date ABC pays XYZ the GBP-Libor rate on £ 100 million, and receives the USD-Libor rate on $200 million.
-Fnally, at maturity, a re-exchange of principals occurs in which ABC pays XYZ £ 100 million in exchange for $200 million.
Suppose the spot exchange rate is $1.55 = £ 1 at the time of entering into the swap. Assume that ABC and XYZ both have AA credit ratings at this time and can access funds at Libor flat. Then, from a credit perspective,

A) ABC is carrying more counterparty risk than XYZ.
B) ABC is carrying less counterparty risk than XYZ.
C) Both sides are carrying the same credit risk.
D) Neither side is carrying any credit risk.

Question 14

The forward foreign exchange rate
(a) Determines the future spot exchange rate.
(b) Is unaffected by changes in interest rates.
(c) Is the ratio of equivalent spot amounts in each currency compounded to the forward maturity at the respective currencies' spot rates.
(d) Is the rate that ensures that future expected purchasing power will be in parity.

Question 15

You are an active currency trader in the dollar versus euro market. The current market quote ($/€) is 1.51-1.55. However, you believe the euro will appreciate versus the dollar. Which of the following quotes is the most likely one you will present to the market given your views?
(a) 1.52-1.56
(b) 1.50-1.54
(c) 1.50-1.56
(d) 1.52-1.54

Question 16

You are an active currency trader in the dollar versus euro market. The current market quote ($/€) is 1.51-1.53. You determine the difference between the spot exchange rate and forward exchange rate using the forward points in the market. If dollar interest rates are lower than that of the euro, which of the following scenarios relating to forward exchange points is most valid in determining the forward exchange rate?
(a) Add the following bid-ask points to spot to get the forward exchange rate: 10-13.
(b) Subtract the following bid-ask points to spot to get the forward exchange rate: 10-13.
(c) Add the following bid-ask points to spot to get the forward exchange rate: 13-10.
(d) Subtract the following bid-ask points to spot to get the forward exchange rate: 13-10.

Question 17

Forward points (bid and ask) in the currency market reflect
(a) The interest differential between the two currencies.
(b) Which currency is at a higher interest rate.
(c) Both (a) and (b).
(d) Neither (a) nor (b).

Question 18

You are an active currency trader in the dollar versus euro market. The current market quote ($/€) is 1.51-1.55. However, you believe the dollar will appreciate versus the euro. Which of the following quotes is the most likely one you will present to the market given your views?
(a) 1.52-1.56
(b) 1.50-1.54
(c) 1.50-1.57
(d) 1.52-1.54

Question 19

The USD-EUR spot exchange rate is $1.50/€. If the two-year interest rate (in continuously-compounded and annualized terms) is 3% for the EUR and 2% for the USD, what is the two-year forward exchange rate ($/€)?
(a) 1.5457
(b) 1.5303
(c) 1.5151
(d) 1.4703

Question 20

ABC, a US-based corporation enters into a currency basis swap with XYZ, a British company, in which the initial principal amounts are $200 million and £ 100 million. That is:
-At inception, there is an initial principal exchange in which ABC pays XYZ $200 million and receives £ 100 million.
-Subsequently, at each interest payment date ABC pays XYZ the GBP-Libor rate on £ 100 million, and receives the USD-Libor rate on $200 million.
-Fnally, at maturity, a re-exchange of principals occurs in which ABC pays XYZ £ 100 million in exchange for $200 million.
Suppose the spot exchange rate is $1.55 = £ 1 at the time of entering into the swap. Assuming ABC and XYZ both have AA credit ratings at this time and can access funds at Libor flat, the value of the swap at inception to ABC is

A) Positive.
B) Zero.
C) Negative.
D) Cannot be determined from the given information.

Question 21

Consider an oil swap in which you pay the floating price of oil in exchange for a fixed amount $A$ . The price of a new oil swap (i.e., the breakeven value $A$ ) increases when

A) The spot price of the commodity declines.
B) The convenience yield on the commodity increases.
C) Interest rates rise.
D) All of the above.

Question 22

A commodity swap is (typically)
(a) An agreement to exchange one commodity for another.
(b) An agreement to exchange the price on one commodity for a fixed amount on future dates.
(c) An agreement to exchange the return on one commodity for a fixed amount on future dates.
(d) A series of forward contracts on commodities at different forward prices.

Question 23

The price of a two-year oil commodity swap is $84. The spot price of oil is $80. If the two-year forward price of oil is $90, assuming zero storage costs and convenience yields, what is the best estimate of the one-year forward price of oil?
(a) $81.20
(b) $83.10
(c) $84.50
(d) $85.30

Question 24

The price of oil is $80 (spot), $85 (one-year forward), and $90 (two-year forward). Convenience yields and other costs and benefits of storing oil are zero. What is the price of a two-year annual-pay oil commodity swap?
(a) 82.50
(b) 85.00
(c) 87.43
(d) 90.00

Question 25

The price of a two-year oil commodity swap is $85. The spot price of oil is $80. If the one-year forward price of oil is $83, what is the best estimate of the two-year forward price of oil? Assume that convenience yields and other costs and benefits of storing oil are zero.
(a) $86.00
(b) $87.00
(c) $88.50
(d) $90.00