Swaps - Upfront Premium. Cash Flow or Not?

CFA Level II
#1

Hi, The following sentence I find very confusing: “A Swap contract at initiation is valued at Zero, there is no exchange of Cash Flow”

The reason to why I find it confusing is that I thought a Swap contract could have a Cash Flow exchange at the start based on the upfront premium. (CDS Spread - Coupon) x CDS.Durration. So my question is, does a Swap have an exchange of Cash Flow at initiation or not?

#2

Swaps are custom contracts, so they can be structured any way you like. Swaps which have no exchange of cash at initiation are called market swaps, but there are certainly off-market swaps: those that have cash exchanged at initiation.

Do not confuse CDSs with swaps. Despite the name, a CDS is not really a swap; it’s an insurance contract. When the curriculum talks about swaps, they are not referring to CDSs.

#3

Thank you very much sir. I believe my issue here was confusing CDS(wap) with being a Swap. The sentence was referring to an interest rate swap, which I believe would be what yo are referring to as a market swap. For the exam, do you believe it is sufficient to think of Swaps having no CF upfront, ad if they are talking about a Swap with an upfront CF, they will refer to the name “Off Market Swap”?

#4

Hi S2000magician, I want to piggy back off of the OP’s post:

All swaps have 0 value at initiation, correct? But what you are saying here is that is potentially not the case if a CDS (not really a swap) has an upfront payment (“off-the-run” as you said)?

Thanks!

#5

In the CFA world they do, but not necessarily in the that alternate universe: the real world.

I was referring only to real swaps, and the term I used was off-market, not off-the-run.

In the CFA world they do, but not necessarily in the that alternate universe: the real world.

You’re welcome.