Suppose that Thales would like to borrow fixed-rate yen, whereas Korea Development Bank would like to borrow floating rate US dollars. Thales can borrow fixed-rate at 4.9% or floating $ at LIBOR + 0.25%. KDB can borrow fixed rate 4.5% for the ¥ and LIBOR +0.8% for the $. a) What are the possible cost savings that Thales can realize through an interest rate/currency swap with KDB? b) Assuming a notional principal of $125 million, and spot rate ¥105/$, what do the possible cost savings translate into in Japanese yen terms?

¥9,843,750

Explanation:

In this question, we are asked to calculate the possible cost savings in Japanese Yen, given a notional principal of a certain amount in US dollars.

Firstly, we identify the following parameters obtainable from the question;

The fixed rate of borrowing = 4.9%

The fixed rate for the Yen = 4.5%

Notional principal = $125 million

Spot rate = ¥105/$

The difference in floating = LIBOR + 0.8% - LIBOR + 4.95% = 0.55%

The difference in fixed rate = 4.9 - 4.5 = 0.4%

The overall cost saving by entering into interest rate swap is 0.55% - 0.4% = 0.15%

Since profit are equally distributed, the profit here = 0.15/2 = 0.075%

The translation in Japanese yen will be 0.075/100 * 105 * 125,000,000 = ¥9843750

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