Managing Interest Rate Risk with

Cross Currency Swaps

Saniye Atak
Chintan Shah
Eddie Warner
NYU-SCPS. Interest Rate Swaps. X51.9204
26 July 2010

Some Tools to Manage Interest Rate

Risk
Refinancing go back to lender and
restructure/refinance the agreement. Not always
possible and usually expensive.
Forward Rate Agreement lock in future interest rate
payment. OTC market.
Interest Rate Futures lock in future interest rate
payments by taking a position in an interest rate
futures position.
Interest Rate Swaps enter into an agreement with a
bank or swap-dealer to exchange cash flows in such a
way that interest rate payments on a floating loan
would become fixed.

Cross Currency Swaps

An agreement between two counterparties to
exchange future cash flows.
Cross Currency Swap involves the exchange of
cash flows from one currency for those in another
with an agreement to reverse that transaction at a
future date.
Interest Rate swaps changes the basis on which
income streams or liabilities are received or paid
on a specified principal amount.

Cross Currency Swaps

Two cash-flow schedules in different currencies.
Two notional amounts in different currencies.
Motivation to enter in a cross currency swap is
the desire to pay interest in a currency with lower
rates such as JPY or CHF and receive interest in a
currency with higher rates.
Gives companies extra flexibility to exploit their
comparative advantage in their respective
borrowing markets.
Allows companies to explain advantages across a
matrix of currencies and maturities.

Cross Currency Swaps

Advantages
Beneficial interest rate payments, i.e. receiving higher
coupons or paying lower coupons than market
Liquid and transparent product
Zero/Low cost product
(Partial) protection of the notional possible

Disadvantages
Long term FX forward risk
Long term view on the FX rate impossible

Structure of a Cross Currency Swap

Exchange notional amounts at inception
Use current spot rate (CHF = Swiss Francs)
$10m USD at 1.1138 CHF, Sfr 11.138m

Pay/Receive intermediate cash flows

Use bid/ask swap rates

Re-exchange notional amounts at expiration

Using agreed upon spot rate, 1.1138 CHF

CHF stands for Confoederatio Helvetica Franc

Initial Exchange of Notional

Pay/Receive Intermediate Cash Flows

Re-exchange notional at expiration

Cross Currency Swap Case Study

Carlton Corporation
Recently took out a 3Y floating-rate loan for $10M
Was worried interest rates would rise
Used an Interest Rate Swap to convert to fixed

Carlton recently signed a contract with a Swiss

buyer that will be paying Francs to Carlton
Incoming Swiss Francs cash flows
Good motivation for Cross Currency Swap

Interest Rate and Currency Swap Quotes

Years
1
2
3
4
5
6
7
8
9
10
12
15
20
25
30
LIBOR

Euro -
Bid
Ask
2.99
3.02
3.08
3.12
3.24
3.28
3.44
3.48
3.63
3.67
3.83
3.87
4.01
4.05
4.18
4.22
4.32
4.36
4.42
4.46
4.58
4.62
4.75
4.82
5.00
5.04
5.13
5.17
5.19
5.23
3.0313

3.0938

Swiss Franc - Sfr

Bid
Ask
1.43
1.47
1.68
1.76
1.93
2.01
2.15
2.23
2.35
2.43
2.54
2.62
2.73
2.81
2.91
2.99
3.08
3.16
3.22
3.30
3.45
3.55
3.71
3.81
3.96
4.06
4.07
1.17
4.16
4.26
1.3125

1.4375

US Dollar $
Bid
Ask
5.24
5.27
5.43
5.46
5.56
5.59
5.65
5.68
5.73
5.76
5.80
5.83
5.86
5.89
5.92
5.95
5.96
5.99
6.01
6.04
6.10
6.13
6.20
6.23
6.29
6.32
6.29
6.32
6.28
6.31
4.9373

5.0625

Japanese
Bid
0.23
0.36
0.56
0.82
1.09
1.33
1.55
1.75
1.90
2.04
2.28
2.51
2.71
2.77
2.82

Yen -
Ask
0.26
0.39
0.59
0.85
1.12
1.36
1.58
1.78
1.93
2.07
2.32
2.56
2.76
2.82
2.88

0.1250

0.2188

Setting up the Cross Currency Swap

Carlton enters into a three-year receive US
Dollars and pay Swiss francs.
Carlton pays 3Y CHF Ask rate (2.01%)
Carlton receives 3Y USD Bid rate (5.56%)

Target currency is CHF. $10M = 11.138M Sfr

Interest Payment: 2.01% 11.138M Sfr = 223,873.80 Sfr

Receiving currency is USD.

Interest Received: 5.56% 10M = $556,000

Pay CHF & Receive USD

Accounting practices will require mark-to-market

If CHF appreciates, Carlton would record a loss.
If CHF interest rates were rising, Carlton committed
to a fixed 2.01% and would record a gain.
P&L will persist over course of swaps life.

How to price a currency swap

swap with SWPM
SWPM is the main interest rate derivatives pricing function in the
Bloomberg professional system, allowing users to price a wide range of
vanilla and exotic interest rate swaps, interest rate options, swaptions and
interest rate / hybrid structured notes.
We will use SWPM to price a cross currency interest rate swap transaction
and calculate a mark to market price with current markets or historicized
curves.

Example
Receive 4.5% on 10MM USD and pay floating
Euribor 3M
Notional
Effective Date
Maturity
User receives
Pay frequency
Day Count
Business days adj.
User pays Euribor
Pay frequency
Day Count

10MM USD
6/29/2010
6/29/2015
4.50% p.a
SemiAnnual
30/360
unadjusted
3M flat
Quaterly
act/360

To have a quick price of a new Interest Rate Swap transaction user has to
- open SWPM;
- enter the IRS details in the Main Screen relevant input fields;
- select Calculate Premium from Calculate menu field;
- refresh for price

In Curves Screen user can:

- visualize and export in Excel the par or zero coupon curve used for swap evaluation;
- manually override curve values;
- apply shifts to the whole curve or to defined buckets;
- choose interpolation method used;

Use the Cashflow Screen to visualize and export to an Excel spreadsheet deal cash
flows, with the ability to choose between Net, Pay, Receive and Historical cash flows.

The Risk Screen shows for each leg some key risk measures :
- DV01: the dollar value of a 1-basis-point negative shift in the curve.
- Risk: the risk for each leg and the deal is calculated according to the following
equations:
Risk = [DV01 / Notional] x 10,000