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The Value of a New Swap

The Value of a New Swap

A central concept of financial instrument pricing is that of zero net present value
at inception; the concept is also known as mid-market pricing. Applied to a
derivatives transaction, the concept means that the terms of the transaction are
set so that the present value of expected cash flows to be paid by one party is
equal to the present value of expected cash flows to be paid by the other. For an
interest rate swap, for example, zero net present value means that the swap fixed
rate is set so the present value of fixed rate cash flows equals the present value
of expected floating rate cash flows. For a credit default swap, it means that the
credit spread is set so the present value of expected spread payments equals the
present value of expected default payments [...]