Interest Rate Swap Pricing and Market Value

Very Hard Derivative Pricing And Valuation Swaps

A corporate treasurer is considering entering into an interest rate swap to manage floating interest rate exposure on a $10 million loan. The company currently pays a floating rate that is tied to the LIBOR rate, which fluctuates. The treasurer is looking to swap this floating rate for a fixed rate of 3.5%. During a negotiation with a counterparty, she learns that the current market value of the swap could be significantly different from its nominal value due to changes in interest rates since the swap was initiated.

Assume that the LIBOR rate is currently 4.0%, and the treasury does not expect rates to rise above that in the immediate future. Which of the following statements is true regarding the swap's pricing and value as of now?

The swap has a positive market value to the floating rate payer, highlighting the benefit of locking in a lower fixed payment.

The swap has a negative market value to the fixed rate payer since the fixed payment is currently lower than the prevailing floating rate.

The market value of the swap is zero, as the two rates are equal.

Hint

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