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- Financial swaps means the agreed exchange of future cash flows with or without the exchange of cash flows at present. In other words, a financial swap is an agreement between two parties to exchange interest payments for specific maturity on an agreed upon notional amount.
- Swap is an exchange of two streams of cash flows. The value of each stream of cash flows is the net present value of the cash flows in the stream. If the cash flows are in different currencies (as in currency swaps) the present values are converted to a single currency at the prevailing exchange rate. The price of the swap is the difference between the values of the two cash flows.
- Swaps can be shown equivalent to combination of assets, forward contracts, future contracts and options. This comparision helps us in pricing and valuing swaps.
- Several swap credit risks are off-setting through natural hedging while others must be measured and managed.
- Swaptions are options on swaps that give the holder the right to enter into a swap at a future date. Swaptions can be either American or European and also either call swaptions or put swaptions.