Swaption
A swaption gives flexibility over a future swap, commonly an interest-rate swap. A payer swaption permits entry into a specified pay-fixed, receive-floating swap, while a receiver swaption gives the opposite fixed-rate position, subject to contract terms. The buyer normally pays a premium and can decline exercise when market terms are more favourable. The swap's effective dates, rate, notional, settlement, counterparty and premium matter. A swaption is different from a swap already entered and does not by itself provide the underlying borrowing.
Worked example
A company expects to borrow in six months and buys an option to enter a pay-fixed swap at 5%. If the relevant new swap rate rises to 7%, exercising may be beneficial; if it falls to 3%, the company may let the option lapse and seek market terms, while the premium remains a cost.
Common mistake
Calling a swaption a binding swap from the outset, or ignoring the premium and exact exercise terms.
Where it appears in your exams
| Qualification | Exam | Relationship | Period |
|---|---|---|---|
| ACCA | AFM | Supporting | September 2026–June 2027 |