Synthetic Forward

toronto · January 3rd, 2006, 9:06 am

Suppose you are given two interest rate swaps, one for 3yrs, the other for 10yrs. The swaps are against 6-mth Libor. How would you create a 7 year forward that starts in 3 years?

Icecloud · January 3rd, 2006, 9:15 am

pay fixed 10y and receive fixed 3y will give a 7y forward pay fix that starts in 3y time...

thomssi · January 4th, 2006, 1:02 am

Only if the 3 and 10 year rates are the same, otherwise you have a net flow of the difference for the first 3 years.Can't scale the notionals to get fixed leg offset either as Libor legs then wouldn't match.Can't see how you would do it perfectly.

fnmartin · January 6th, 2006, 11:27 am

QuoteOriginally posted by: thomssiOnly if the 3 and 10 year rates are the same, otherwise you have a net flow of the difference for the first 3 years.Can't scale the notionals to get fixed leg offset either as Libor legs then wouldn't match.Can't see how you would do it perfectly.yes, the net cash flows for the first 3 yrs is also what I'm concerned with..

lawho · January 6th, 2006, 2:06 pm

is that why there is a prepaid payment at the outset??

thomssi · January 7th, 2006, 12:14 pm

Well I suppose it could do, an upfront amount would offset the difference for the first three years assuming you enter you 3yr fwd starting 7yr swap at the ten yr swap rate. Why wouldn't you just enter at market rate for a forward starting swap though?

mutley · January 7th, 2006, 12:26 pm

As that wouldn't make a very good exam question!