CHAPTER 13 Swaps

Swaps are one of the most important and useful instruments in the debt-capital markets, indeed the global economy. The main types of swap are interest-rate swaps, asset swaps, basis swaps, cross-currency swaps, and currency-coupon swaps. The market for swaps is organised by the International Swaps and Derivatives Association (ISDA). They are used by a wide range of institutions, including banks, mortgage banks and building societies, corporates, and local authorities. As the market has matured, the instrument has gained wider acceptance, and it is regarded as a plain-vanilla product in the debt-capital markets. Virtually all commercial and investment banks will quote swap prices for their customers, and as they are over-the counter (OTC) instruments, dealt over the telephone, it is possible for banks to tailor swaps to match the precise requirements of individual customers. There is also a close relationship between the bond market and the swap market, and corporate finance teams and underwriting banks keep a close eye on the government yield curve and the swap yield curve, looking out for possibilities regarding new issue of debt.

In this chapter, we review the use of interest-rate swaps from the point of view of the bond-market participant; this includes pricing and valuation and its use as a hedging tool. The bibliography lists further reading on important topics such as pricing, valuation, and credit risk.



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