2015 Mock Q40

A

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Using the Libor scenario shown in Exhibit 1 and under the assumption that the zero-cost collar is put in place, the effective interest due on AI’s loan for the semiannual period ended on 31 December 2013 is closest to: A. PEN1,911,000 B. PEN1,365,000 C. PEN2,062,667
Answer = A The effective interest in period t is: Loan balance × (Actual days in period/360) × [Libort1 + Spread + max(0,Libort– 1 – Cap rate) + max(0,Floor rate – Libort–1).
Can anyone explain how to to do this question? if the LIBOR rate is within the collar, there should be no payoff except he loan interest payment?
 
I believe that question is worded terribly. They’re using the LIBOR rate from June 2013 (2.0%) in which the interest payment is due on the semi-annual period ended December 2013 since interest is paid in arrears.
 
tobymen wrote:
Using the Libor scenario shown in Exhibit 1 and under the assumption that the zero-cost collar is put in place, the effective interest due on AI’s loan for the semiannual period ended on 31 December 2013 is closest to: A. PEN1,911,000 B. PEN1,365,000 C. PEN2,062,667
Answer = A The effective interest in period t is: Loan balance × (Actual days in period/360) × [Libort1 + Spread + max(0,Libort– 1 – Cap rate) + max(0,Floor rate – Libort–1).
Can anyone explain how to to do this question? if the LIBOR rate is within the collar, there should be no payoff except he loan interest payment?
Click to expand...
shouldn’t the formula be
Loan balance × (Actual days in period/360) × [Libort1 + Spread + max(0,Libort– 1 – Cap rate) - max(0,Floor rate – Libort–1).?
in this case, 200 bps Libor + 90bps coupon, with a put, of -25bps - shouldn’t it be 265bps payment on dec 2013?
 
I also thought this question was not very clear.
If you have a floating rate note outstanding, you should establish the collar by long floor and short cap. If libor decreases below strike of floor, you get some payoff to make up for the low interest received on the original note. If libor increases above the strike of cap, you will have to pay the cap owner but it’ll be offset by the higher interest on the original note.
But the answer guide’s formula looks like you are both long floor and cap. How do you establish zero-cost collar by going long on both cap and floor? What am I missing here?
 
it’s 2.25% + 90 bps - it uses the previous period to pay the dec ‘13 payment. The floor is 2.25% so you’re paying the 2% to the loan, and the .25% on the put. Is this typical treatment for a loan like this to have th eperiod delayed 1 per?
 
I can’t figure out where they got 182 days… the period clearly shows 183 in the figure
 
kjsgbp wrote:
I can’t figure out where they got 182 days… the period clearly shows 183 in the figure
Click to expand...
This is a confusing point, but here’s how it works.
You use the RATE from the end of the last period. You use the DAY COUNT from the current period.
 
Thanks, luckly, I got it right by picking the “closest”, but that wouldn’t fly on the AM
 
On the floor though, why is this not a credit?
I calculate the interest as $120MM (182/360) x .029 = $1,759,334
I calculate the payoff on the floor as $120MM (182/360) x (.0225 - .02) = $151,666
This sums to $1,911,000 which is the answer but I got it wrong because I subtracted the payoff on the floor. If AI is long the floor and short the cap, then the 2.25% - $2.00% should be a credit against the interest on the loan. Why am I mistaken on this?
 
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