FF2C Pte Ltd, a fintech firm, recently issued floating rate notes. As the economy has been improving, there is a growing concern that the central bank is going to usher in a new phase of increasing interest rates. FF2C wishes to protect itself via an interest rate swap. The notional of the swap is $30 million and the company will receive Libor and pay a fixed rate of 1.5% Currently, Libor is 0.8%. Suppose that fixed-rate payments are made on the basis of 90/365 and floating-rate payments are made on the basis of 90/360.
(a) Show how interest rate swap can be used to hedge interest rate risk in the above scenario with a clear and concise explanation.
(b) Find the first payment, showing carefully the payment that each party makes.