Exhibit 14-4
USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)
A company buys an interest rate cap that pays the difference between LIBOR and 8% if LIBOR exceeds 8%. Current LIBOR is 7%. The amount of the option is $2,500,000, and the settlement is every 6 months. Assume a 360 day year.
-Refer to Exhibit 14-4. Find the payoff if LIBOR closes at 8.2%.
A) $0.00
B) $25,000.00
C) $50,000.00
D) -$25,000.00
E) -$50,000.00

Question

Quizplus · Accepted Answer

The payoff is calculated as the difference between the closing LIBOR (8.2%) and the cap rate (8%), multiplied by the amount of the option ($2,500,000), and then adjusted for the settlement period (6 months or 0.5 years in a 360-day year). The calculation is: (8.2% - 8%) * $2,500,000 * 0.5 = $25,000.00.

Exhibit 14-4 USE THE FOLLOWING INFORMATION FOR THE NEXT PROBLEM(S)