Caps & floors

CFA Level II Portfolio Management
#1

Hi guys,

I am a bit confused. If we have a 2 year cap with annual observations. Strike is 5%. Do we have a payoff on the first caplet? From what I understand, at time zero, the Libor 1Y is known which would mean that the payoff on the first caplet is known from inception. Is that correct? Or do we simply assume that the fixing is made at the end of the year?

Thanks for your help!

#2

Correct me if im wrong but the payoff happens for the period when LIBOR hits that rate. For example, at time 0 you’re not going to get a payoff but if at time 1 (1 year) Libor is at 5.5% then you will get a payoff. Doesn’t matter if Libor is known at time zero or not, that will just determine how expensive the premium you will pay for that option.