Uni notes from class

Question 1

Pricing a deal: US PP

Answer 1

1. Spread to TSY; margin compensates for risk. Issuer received (4.52%) from bank, pays LIBOR +182. Issuer pays 4.52% to investor
2. Need to swap LIBOR to USD. Bank pays LIBOR + 182 to issuer; issuer pays BBSW + 242 to Bank
3. a: BBSW + 242 calculated as : swap rate (4.52%) minus US Treasury rate (2.70) = +182. Then add basis (+42), then add conversion factor (+18). Therefore, +182 + 42 + 18 = BBSW + 242
4. If required, also convert BBSW AU to Fixed AU

Question 2

Conversion factor

Answer 2

PV of 1bp in USD: $100 / (1+2.42%)
PV of 1bp in AUD: 100 / (1+4%)
Discounted USD / discounted AUD = conversion factor

a) if spread is high, conversion factor is high
b) if spread is low, conversion factor is low

Question 3

Banks not keen to do cross currency swaps due to

Answer 3

1. Credit valuation adjustment

2. Funding valuation adjustment

Question 4

cost of funds for banks

Answer 4

1. deposits are most costly

2. wholesale funding next most costly