I wanted to get into details regarding this topic and since in the CFAI books the valuation of a swap (for example pay fix receive floating) is done only on settlement date I wanted to value one between payment dates. (apparently schweser cancelled this section in the errata).
Nothing special, but using the two methods explained in the CFAI books (equation 12 and equation 14 pag.308 and 310) I don’t get it right.
I take the example from the Schweser notes:
1-year LIBOR with quarterly payments
Fix rate at initiation: 6.052%
at initiation 90-day LIBOR 5.5%.
Notional: 30mio
Value after 30days? Here the new libors:
60-day LIBOR 6.0% 0.99010 150-day LIBOR 6.5% 0.97363 240-day LIBOR 7.0% 0.95541 330-day LIBOR 7.5% 0.93567
Method 1 equation 12: FB=Cn∑i=1PV0,ti(1)+PV0,tn(1)
just value the cash flow of a fixed rate bond:
0.06052/4 = 0.01513
Fixed side : 0.01513*(0.99010+0.97363+0.95541+0.93567)+0.93567 = 0.993993
Floating side: 0.055/4 (first payment in 90days, given at initiation) + 1 (which is the principal, since at 90days the bond is reset) = 1.01375
Obviously we have to discount it back to today (60days): 1.01375*0.99010 = 1.003714
Value of the swap (fix rate payer) = Floating - Fix = (1.003714 - 0.993993) *30mio = 291’6302
Method 2 V=NA(FS0−FSt)n′∑i=1PVt,ti
New fix rate = (1-0.93567)/(0.9901+0.97363+0.95541+0.93567)= 0.016688
applying equation 14: (0.016688 - 0.01513)*(0.9901+0.97363+0.95541+0.93567)*30mio = 180’73
Why this difference? I am missing something? Does equation 14 works only on settlment date?