Discuss the particular interest rate risk each bank faces

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Bank A has $100 million of mortgages with an adjustable rate of HIBOR + 2%. These assets are financed with $100 million of fixed-rate deposits costing 5%. Bank B has $100 million investment of fixed-income notes with a fixed rate of 7%, which are financed with $100 million in CDs with a variable rate of HIBOR + 1%.

a) Discuss the particular interest rate risk each bank faces.

b) Assuming equal negotiation power, propose a feasible interest rate swap and demonstrate how such a swap may help both banks from hedging their interest rate risk in question by computation of the net position and net funding cost for each bank as a result of the proposed swap. (Hint: equal negotiation power should prompt the two parties to look for either the same net position or the same savings on funding cost as the case may apply.)

Reference no: EM13763856

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