Interest rate swap duration formula
Macaulay duration and modified duration are chiefly used to calculate the durations of bonds. The Macaulay duration calculates the weighted average time before a bondholder would receive the bond's cash flows. Conversely, modified duration measures the price sensitivity of a bond when there is a change in the yield to maturity. The Macaulay duration is calculated by multiplying the time period by the periodic coupon payment and dividing the resulting value by 1 plus the periodic yield raised to the time to maturity. Next, the value is calculated for each period and added together. Then the value is divided by the current bond price.
Encyclopedia
A measure of a swap's value sensitivity to interest rate changes. The duration of a swap is equal to the difference between the durations of the two legs of the swap.
Since payments on the fixed leg of an interest rate swap are equivalent to those of a fixed-rate bond , and payments on the floating leg are comparable to those of a floating-rate bond , then the net settlement cash flows on the swap can be used to figure out the swap's duration. Both bonds should be priced at par value because the initial value of the swap is zero, as both legs are equal at outset.
When the swap fixed rate drops, the fixed-rate payer loses market value, whilst the fixed-rate receiver gains value. As such, the swap has a negative duration to the buyer long position and positive duration to the seller short position. The fixed leg has roughly a long duration, whilst the short leg has duration about time to reset. Read more Comments Last update: Feb 13, If you are interested in supporting this website and would like to contribute, kindly see the support page.
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duration of an interest rate swap is simply the duration of the asset less the duration of the liability. Here's a summary table: Duration of a Swap position, Dswap. Interest Rate Swap Duration and Convexity We know from the numerical example above Selection from BOND MATH: The Theory Behind the Formulas [Book].
FINCAD offers the most transparent solutions in the industry, providing extensive documentation with every product. This is complemented by an extensive library of white papers, articles and case studies. To price a swap, we need to determine the present value of cash flows of each leg of the transaction. In an interest rate swap , the fixed leg is fairly straightforward since the cash flows are specified by the coupon rate set at the time of the agreement.
Interest rate swaps have a duration?
A measure of a swap's value sensitivity to interest rate changes. The duration of a swap is equal to the difference between the durations of the two legs of the swap.
PIMCO Blog
In finance , the duration of a financial asset that consists of fixed cash flows , for example a bond , is the weighted average of the times until those fixed cash flows are received. When the price of an asset is considered as a function of yield , duration also measures the price sensitivity to yield, the rate of change of price with respect to yield or the percentage change in price for a parallel shift in yields. The dual use of the word "duration", as both the weighted average time until repayment and as the percentage change in price, often causes confusion. Strictly speaking, Macaulay duration is the name given to the weighted average time until cash flows are received, and is measured in years. Modified duration is the name given to the price sensitivity and is the percentage change in price for a unit change in yield.
Macaulay Duration vs. Modified Duration
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It involves exchange of interest rates between two parties.
However, in one of my recent practice questions, they did not provide the number and the answer guide said I should assume 0. Floating rate side should always between 0 and 1, regardless of number of years.
