Financial solutions - Interest rate swaps

Go back to the [[Risk Management Main Page]]

Financial swaps swap a risk with someone else.

Most common are interest rate swaps.

Almost every company uses or considers using them re: their debt payments.

Corporate Debt

1. Company-specific interest rate

2. #LIBOR - London Inter-Bank Offer Rate

3. Each company has it’s own interest rate

4. LIBOR floats and changes based on the Fed/central bank rate

   1. Variable rates
   2. Floating rates

Company’s rate = Libor+ - LIBOR + Company Specific rate

LIBOR is usually just above the cash rate

Interest swaps swaps out the floating interest rate.

You buy a slightly higher interest rate for 5 years to make sure you’re covered if the LIBOR rate climbs above the rate you bought the swap at.

eg. LIBOR —> 1% .: Buy 5-year swap @2% then LUBOR —> 3% .: you still pay 2%

Typical to lose money up front but you’re hedged against big swings up.

Company can still lose money if the LIBOR rate falls instead of rises after buying the swap.