## Interest Rate Swap

INTEREST RATE SWAP An interest rate swap is a contractual agreement between two counterparties to exchange cash flows on particular dates in the future. The Situation 1 A baker has opened a new bakery in town, and a farmer has purchased more land to grow more crops. They both want to convert their debt. OPEN FIXED RATE PAYER Pays 10% interest per year FLOATING RATE PAYER Floating rate interest + 5% A fixed rate payer makes a series of fixed payments and at the outset of the swap, these cash flows are known. The fixed A floating rate payer makes a series of payments that depend on the future level of interest rates (a quoted index like LIBOR for example) and at the outset of the swap, most or all of these cash flows are not known. Valuing the floating leg is more complex since, by definition, the cash flows change with future changes in the interest rates. leg is fairly straightforward since the cash flows are specified by the coupon rate set at the time of the agreement. Finding A Solution A financial institution usually takes the position in between both as it is nearly impossible for two parties to find each other The Swap An interest rate swap is priced by first calculating the present value of each leg of the swap (using the appropriate interest rate curve) and then aggregating the two results. Fixed Rate Floating Rate Floating Rate + 5% 10% Fixed Rate 10% Fixed Rate Floating Rate + $% O Panap = Pru-PE Panmp = PA-PAu S) How Large is the Market? $402.6. TRILLION $58.9. TRILLION' DEC 2001 DEC 2011 1 htp://www.bis.arg/statistics/otcder/dt 1920a pdf 2 http://www.bis.org/publ/ote_hy0205. pdf Numbers only include hterast Rate Swap Contracts, not other hnterast Rate Contracts such as FRAS or Options. Your use of the infomation in this artide is at your own risk. The information in this article is provided on an "as is" basis and with- out any representation, obligation, or warranty from AINCAD of any kind, whether express or implied. We hope that such information will assist you, but it shouldnot be used or refied upon as a substifute for your own independent research FÍNCAD Copyright © 2012 FinancialCAD Corporation, All rights reperved FinancialCADO and forifoemaional noademarks of Finan MAKES NO WARRANTIES, RESSED OR IMLIED, INRRAh CorporationC INTEREST RATE SWAP An interest rate swap is a contractual agreement between two counterparties to exchange cash flows on particular dates in the future. The Situation 1 A baker has opened a new bakery in town, and a farmer has purchased more land to grow more crops. They both want to convert their debt. OPEN FIXED RATE PAYER Pays 10% interest per year FLOATING RATE PAYER Floating rate interest + 5% A fixed rate payer makes a series of fixed payments and at the outset of the swap, these cash flows are known. The fixed A floating rate payer makes a series of payments that depend on the future level of interest rates (a quoted index like LIBOR for example) and at the outset of the swap, most or all of these cash flows are not known. Valuing the floating leg is more complex since, by definition, the cash flows change with future changes in the interest rates. leg is fairly straightforward since the cash flows are specified by the coupon rate set at the time of the agreement. Finding A Solution A financial institution usually takes the position in between both as it is nearly impossible for two parties to find each other The Swap An interest rate swap is priced by first calculating the present value of each leg of the swap (using the appropriate interest rate curve) and then aggregating the two results. Fixed Rate Floating Rate Floating Rate + 5% 10% Fixed Rate 10% Fixed Rate Floating Rate + $% O Panap = Pru-PE Panmp = PA-PAu S) How Large is the Market? $402.6. TRILLION $58.9. TRILLION' DEC 2001 DEC 2011 1 htp://www.bis.arg/statistics/otcder/dt 1920a pdf 2 http://www.bis.org/publ/ote_hy0205. pdf Numbers only include hterast Rate Swap Contracts, not other hnterast Rate Contracts such as FRAS or Options. Your use of the infomation in this artide is at your own risk. The information in this article is provided on an "as is" basis and with- out any representation, obligation, or warranty from AINCAD of any kind, whether express or implied. We hope that such information will assist you, but it shouldnot be used or refied upon as a substifute for your own independent research FÍNCAD Copyright © 2012 FinancialCAD Corporation, All rights reperved FinancialCADO and forifoemaional noademarks of Finan MAKES NO WARRANTIES, RESSED OR IMLIED, INRRAh CorporationC

# Interest Rate Swap

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