Posted on 29 August 2009
Tags: Bank of America Securities, Citigroup, foreign currency trading, foreign exchange, forex, FX, FX market, hedge fund, interest-rate risk, JP Morgan Chase, mortgage portfolio, over-the-counter market, Properties of Swaption, protection from rising interest rates, Receiver Swaption, swaption agreement, swaption interbank market, swaption market, Swaptions, variable rates
In this article I will explain you about Swaption market, properties of Swaption and also I will explain Swaption contract with example.
The Swaption Market
Predominantly large corporations, banks, financial institutions and hedge funds are the participants in the swaption market. Swaptions are typically used by end users such as corporations and banks in order to manage interest rate risk arising from their core business or from their financing arrangements. For instance, a corporation that is willing to have protection from rising interest rates might buy a payer swaption.
A bank by which a mortgage portfolio is being held might buy a receiver swaption in order to protect against lower interest rates which might lead to early prepayment of the mortgages.
A hedge fund by whom it is anticipated that interest rates will not rise by more than a certain amount might sell a payer swaption so that they may collect the premium.
Markets in swaptions are made by Major investment and commercial banks such as JP Morgan Chase, Bank of America Securities and Citigroup in the major currencies, and these banks trade amongst themselves in the swaption interbank market. Large portfolios of swaptions are typically managed by the market making banks which they have written with various counterparties, in order to properly monitor the resulting exposure a significant investment in technology and human capital is required.
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Posted on 09 August 2009
Tags: Black-Scholes formula, Currency Rates, economic theory, EUR investments, Euribor rates, finance, financial instruments, German government bills, government debt, governments defaulting, hyperinflation, interest rate, interest-rate risk, liquidity risk, long-term bonds, market risk, owners of government debt, risk, Risk-Free Assets, Risk-Free Interest Rate, short-dated government bonds, US treasury bills, USD investments
The interest rate that can be obtained by investing in financial instruments with no default risk is referred to as the risk-free interest rate. However, other types of risk could be carried by the financial instrument, e.g. market risk (market is the risk of changes in market interest rates), liquidity risk (liquid risk is the risk of being unable to sell the instrument for cash at short notice without significant costs), etc.
Risk-Free Assets
Though it is true that a truly risk-free asset exists only in theory, while in practice short-dated government bonds of the currency in demand is used by most professionals and academics. Usually US Treasury bills are used for USD investments, while German government bills or Euribor rates are a common choice for EUR investments. During the 20th century the mean real interest rate of US treasury bills was 0.9% p.a. (Due to hyperinflation during the 1920s corresponding figures for Germany are inapplicable.)
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