Assume that you are analyzing a plain vanilla interest rate swap with the following characteristics:

Counterparty X | Counterparty Y
pay fixed rate 6% | pay floating rate LIBOR + 0.5%
receive floating rate LIBOR + 0.5% | receive fixed rate 6%
Swap tenor: 10 years
Notional principal: $1,000,000
LIBOR: 4.75%

Swap payments are determined in advance but paid in arrears. Given this information, which of the following best describes the first net payment for the swap?

A. $7,500 from Counterparty X to Counterparty Y
B. $7,500 from Counterparty Y to Counterparty X
C. $12,500 from Counterparty X to Counterparty Y

Correct Answer: A

Counterparty X has agreed to pay (1,000,000)(.06) = $60,000 and Counterparty Y has agreed to pay (1,000,000)(.0475 + .005) = $52,500. The net payment, then, is from X to Y in the amount of 60,000 - 52,500 = $7,500