Can anyone verify whether I’m doing this right, thanks.
Q2 Merimar
3 months ago, purhased a european receiver swaption , exercisable into 2 year swap with semiannual payments. the swaption has semiannual exercise rate of 2.75%. Swaption just expired.
Receive Fixed, pay floating. Since the swaption just expired, therefore floating = $1
You are taking into account notional amount in your calculation ie 1(.9149).Under swaption notional amounts are not exhanged this is what i understand.The official answer does not inculde this.
Yes. There is no need to value fixed rate legs, floating rate legs, etc. The value of a swaption is just the added interest you would recieve/save over the term of the swap. For a reciever swaption - you are contracted to recieve fixed (if you want to exercise). Therefore if swap fixed rates have declined this is effectively an annuity of added interest you would recieve from the old fixed rate of 2.75% vs. the current swap fixed rate of say 2%. Therefore quarterly you would recieve an additional (.75% / 4)*Notional. You then need to discount these cash flows back at the current term structure.
Notice there is no valuing fixed or floating rate legs in this.
I would recommend to read the curriculum text section 6.3 which will help to clarify the doubt you have.
I think you are clear why you are exercising the option, as you are receiving fixed, you would enter into option when you see that the rate that you have to pay is lower than 2.75%
So you first calculate the fixed rate using the formula ( 1-d4/(d1+d2+d3+d4) = 2.23%, implies you will exercise the option
you know the cash flows based on 2.75% semiannually every 180 days, but you know only the first floating payment ( 25MUSD * 0.0195*180/360)
As you do not know the rest of floating paynents and you want to know the value of the swaption, you enter into an opposite pay fix receive floating swap at market rate of 2.23%. the floating rate will be based on the same rate .0195*180/360*25M USD. The fixed rate would be 2.23%*25M every 180 days. Both the floating amounts get cancelled and ow what you are left with is (2.75-2.23)%of 25 M every 180 days. Now discount it back with the discount factors to get the market value
I would recommend to read the curriculum text section 6.3 which will help to clarify the doubt you have.
I think you are clear why you are exercising the option, as you are receiving fixed, you would enter into option when you see that the rate that you have to pay is lower than 2.75%
So you first calculate the fixed rate using the formula ( 1-d4/(d1+d2+d3+d4) = 2.23%, implies you will exercise the option
you know the cash flows based on 2.75% semiannually every 180 days, but you know only the first floating payment ( 25MUSD * 0.0195*180/360)
As you do not know the rest of floating paynents and you want to know the value of the swaption, you enter into an opposite pay fix receive floating swap at market rate of 2.23%. the floating rate will be based on the same rate .0195*180/360*25M USD. The fixed rate would be 2.23%*25M every 180 days. Both the floating amounts get cancelled and ow what you are left with is (2.75-2.23)%of 25 M every 180 days. Now discount it back with the discount factors to get the market value