# Tag Info

## Hot answers tagged swaps

9

I like to present to you a slightly different approach: Historically, only one single yield curve was derived from different instruments, such as OIS, deposit rates, or swap rates. However, market practice nowadays is to derive multiple swap curves, optimally one for each rate tenor. This idea goes against the idea of one fully-consistent zero coupon curve, ...

7

Var and vol swaps are very similar products, with the leverage (convexity) being the biggest theoretical difference, yes. In the actual market however they are very different. After the 2008 debacle var swaps in the single stock space are not too common, whereas single stock vol swaps are regularly quoted. One interesting perspective is trading one versus ...

5

The short answer is that Libor swap rates come from the market. They represent a series of cashflows in the future whose value is determined by the fixing, which the market participants have their own valuations of. Since the actual cash flows are now discounted using a separate funding curve, the swap prices embed both a prediction of future fixings and a ...

5

Derman et al has a long note on this from 1999. Variance swaps are actually the more natural choice. It has nothing to do with leverage. From the linked article: Although options market participants talk of volatility, it is variance, or volatility squared, that has more fundamental theoretical significance. This is so because the correct way to ...

5

As you know both var swap & vol swap are traded on vol. The difference comes in convexity. Although variance swap payoffs are linear with variance they are convex with volatility. Because of the convexity, a variance swap will always outperform a contract linear in volatility of the same strike. This convexity is the reason that variance swaps strikes ...

5

There are several ways to understand how to price a swap. One way is to see it as a sum of Forward Rate Agreements that you can price individually. This is more or less what Probilitator explained. A simpler way imho is this: if you are receiver of floatting leg the value of the swap at $t\leq T_0$ $$Swap_t = Leg_{Float,t} - Leg_{Fixed,t}$$ I think ...

4

I have a little more informations, so let me share it with you. Even though I think that the frameworks I presented in my question are both corrects (i.e. aribtrage free), it happens to be the case that the market seems to have more "structure". Here is a methodology that allows to retreive market quotes and which is the same as BBG (which is the best ...

4

CMS adjustments in single curve context can be roughly explained if you consider a CMS swaplet by the fact that there is a single payment at the CMS rate at a single date and not on the whole strip of the underlying CMS tenor schedule. So if you are trying to hedge a CMS swaplet with the corresponding swap of CMS tenor length (with correct naïve nominal ...

4

The risk implied by Euribor or EONIA (or their swaps) is for lending to another prime rated bank. These rate indexes represent where contributor banks are offering funds to each other in the interbank market. Contributing banks are mostly rated P-1 (Moody’s) or A-1 (S&P). You wouldn’t use these rates for govt discount curves because the risk doesn’t ...

4

A swap does not require a model because its price can be derived from the yield curve without any assumptions about how the yield curve may move in the future. The PFE however is an indication of by how much the swap's mark-to-market may move between now and a moment in the future. It is of course influenced by how volatile rates are. The more volatile ...

4

To elaborate on Freddy's answer: These days you need to maintain a separate funding (usually OIS) curve to your Libor* type curves. Once you have this discounting curve, you can calculate from Libor instrument market data what the market estimations of that Libor are: 3m instruments like Interest Rate Futures, IRS with a 3m float leg, 3m FRAs can be used to ...

4

First of all it is not clear what exactly you mean by right number, you definitely do not adjust forward swap rate. You probably mean adjusting euro dollar futures contract rates so that you can later use these values to fit the swap/forward libor curve. Reason for adjustment is simple. If you are short ED futures and rates go higher futures price drops ...

4

To explain it I will need some preliminaries. A forward starting payer swap (or receiver swap of the floating leg) is an instrument where the holder pays fixed and receives floating at some predetermined points in time in the future. (The payment/exhange dates of fixed and floating could differ - e.g. the fixed leg is paid annualy and the floating is paid ...

3

(In addition to the answers of Freddy and Phil H): With "modern" multi-curve setups: You have to distinguish between discount curves (which describe todays value of the a future fixed payoff (e.g. a zero coupon bond)) and forward curve, which describe the expectation (in a specific sense) of future interest rate fixings. Swaps pay LIBOR rates and are ...

3

CDS provides protection against default. So when a firm is unable to pay the coupon (and there are few more scenarios where firms default) CDS is triggered. After default the liability holders have first claim on the firm's assets. If the assets are less than loan (say 60% of loan amount) then recovery can only be 60%. if these are risky assets and there ...

3

The two are not equivalent, because of the cross-currency basis spread (CCBS), which became a risk factor in itself sice 2007, and does depend on term. This practically leeds to a difference in your constantly-assumed notionals (the notional is not constant anymore). What it happens is that you assume having a constant notional cross-currency swap that ...

3

Assume you have an USD-EUR Cross Currency Swap (3M-FloatUSD+SpreadUSD vs 3M-FloatEUR+SpreadEUR) (spread on USD side is usually zero), collateralized by USD-OIS (Fed Fund) I assume you know the USD-OIS discount curve, then you know the discount curve for USD cash flows. I further assume that you know the USD-3M forwards collateralized w.r.t. USD-OIS (from ...

3

Not sure I understand your question. If I have a fixed stream of payments it has some value $V_{fixed}$ I can always solve for a spread to LIBOR by simply adding the spread $S$ to my calculated stream of LIBOR. That is the value of the LIBOR + spread leg is $$V_{LIBOR}(S) = \sum_{n=1}^{N} D(t_{n}) \alpha(t_{n-1},t_{n}) [L(t_{n-1},t_{n}) + S]$$ where ...

3

The essence of discounting is that now is less risky than later. So a contract to deliver £1 in 1 year is more risky than one to deliver £1 tomorrow, (the counterparty could suffer a credit event) so it is worth less. Discount factors multiply; if I know that £1 at 1y is worth £0.98 today, and £1 at 2y is worth £0.98 at 1y (i.e. equal rates for both ...

2

Whatever it is, it clearly is not a common term of art in the industry. Three possibilities come to mind: To the options: Since one can (under certain assumptions about continuity etc) synthesize a variance swap from European option contract prices, the basis may represent the difference between varswap price and the synthesized price. To the VIX: If we ...

2

Discounting in "post-crunch finance" depends on collateral agreements, e.g. CSA. For fully collateralized transactions you discount off the curve corresponding to the rate you receive on collateral. For non-collateralized or partially collateralized transactions it's more tricky and it's not something I can explain in a short answer, have a look on the ...

2

If there are no call features that Freddy describes, we might be able to approximate an amortizing swap from vanilla par swap rates. A 3m Libor + spread swap should price at roughly the par swap + the spread. An amortising swap is equivalent to a series of overlapping swaps of slightly different lengths. Given all the market data for par swaps, then, we ...

2

The following is an excellent Hagan paper (I just love his writing style and approach to explain). It covers amortizing swaps as well. A bit hard to find paper but here is a link: http://www.docin.com/p-414687649.html Keep in mind most amortizing swaps have embedded call-features and if I remember correctly the origin dates to the desire to hedge floating ...

2

Maybe because the underlying portfolio's notional may decrease over time? Maybe because the loans are part of a private transaction in which the deal stipulates that notional is paid off over time? Maybe its a pay-through structure in which the original mortgage loan notional is paid off over time and the notional portions are passed down the structure. ...

1

Strictly speaking a vanilla swap is not really a derivative instrument, and vanilla swaps are often considered linear products. Having said that, there are a host of non-standard swap contracts on a myriad of underlying contingent assets which would make the swap qualify as a derivative non-linear instrument. Short answer is that it completely depends on ...

1

I don't know what is supported by MatLab (I use Java to do such stuff :-). But in case you do not find a solution from the swapbyzero function you mentioned I can suggest a workaround: Value a swap with the annual fix frequence. Given that it is a payer swap (pays the fixed leg), correct the value by: Substract the value of an annual fix coupon bond ...

1

Yes, an adjustment has to be made and the reason is that a forward curve now will evolve and not be the same as the future spot curve. For example, a one year forward today is not equal to your spot rate a year hence. So spot curve discount factors have to be adjusted or directly replaced through the forward DFs. Convexity adjustments are already supposed ...

1

definition of a variance swap is $\int^{T+\Delta}_T \mathbb{E}_t[v_s] ds$ where $v_s$ is the variance and $\mathbb{E}_t[v_s]$ is the expectation of the variance of time s at time t. therefore, pnl is: $(\int^{T+\Delta}_T \mathbb{E}_t[v_s] ds - \int^{T+\Delta}_{T} \mathbb{E}_{t-\delta}[v_s] ds)*d\delta$

1

Markit is a pretty good source for CDS information, and their prices are pretty much the standard the industry goes by. Your best bet for finding large spreads would be to look at some of the European Banks or possibly TEPCO after the Japan Tsunami. Derivatives by default aren't "standard," the instruments are designed to be flexible, but the closest ...

1

In case the question is about closing an open position as a retail trader: Suppose this is a 3y swap, and the holder is paying fixed, receiving float. The fix leg is paying 10%, but the float index is now at 5%, so assuming the index is not expected to change in the future, the position is now significantly out of the money. The main exposure is to the ...

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