MPD Ltd. issues a 50 Million Floating Rate Loan on July 1, 2018 with resetting of coupon rate every 6 Months equal to LIBOR + 50 bps. MPD is…

CA Final · Advanced Financial Management · RTP · January 2026
MPD Ltd. issues a 50 Million Floating Rate Loan on July 1, 2018 with resetting of coupon rate every 6 Months equal to LIBOR + 50 bps. MPD is interested in an Interest rate Collar Strategy of selling a Floor and buying a cap. MPD buys the 3 years cap and sell 3 years Floor as per the following details on July 1, 2018: Principal Amount 50 Million Strike Rate 5% for Floor & 8% for Cap Reference Rate 6 months LIBOR Premium NIL, since premium paid for cap = premium received for Floor The Reset dates & Interest rates p.a., on that dates are: Reset Date 31/12/2018 30/06/2019 31/12/2019 30/06/2020 31/12/2020 30/06/2021 LIBOR (%) 7.00 8.00 6.00 4.75 4.25 5.25 Using the above data, you are required to determine: (i) Effective Interest paid out at each six reset dates, (Round off to the nearest rupee) (ii) Average overall effective rate of interest p.a. (round off to 2 decimals). Note: Assume 365 days a year and 366 days for leap year.

Suggested Answer and Working Notes:

(i) The pay-off of each leg shall be computed as follows: Cap Receipt Max {0, [Notional principal x (LIBOR on Reset date – Cap Strike Rate) x (No. of days in settlement period/ 365)} Floor Pay-off Max {0, [Notional principal x (Floor Strike Rate – LIBOR on Reset date) x (No. of days in settlement period/ 365)} Statement showing effective interest on each payment date. Reset Date LIBOR (%) Date of Payment Days Interest Payment (₹) LIBOR+0.50% Cap Receipts (₹) Floor Pay-off (₹) Effective Interest (₹) 31-12-2018 7.00 30-06-2019 181 18,59,589 0 0 18,59,589 30-06-2019 8.00 31-12-2019 184 21,42,466 0 0 21,42,466 31-12-2019 6.00 30-06-2020 182 16,16,120 0 0 16,16,120 30-06-2020 4.75 31-12-2020 184 13,19,672 0 62,842 13,82,514 31-12-2020 4.25 30-06-2021 181 11,77,740 0 1,85,959 13,63,699 30-06-2021 5.25 31-12-2021 184 14,49,315 0 0 14,49,315 Total 1096 98,13,703 (ii) Average Annual Effective Interest Rate shall be computed as follows: (98,13,703 / 5,00,00,000) X (365 / 1096) × 100 = 6.54%

Topics: Interest Rate Risk Management

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