Swaps: Plain and Fanciful

Authors

  • ROBERT H. LITZENBERGER

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    • The Wharton School, University of Pennsylvania. I would like to thank Larry Lang, Vicente Madrigal, Yun Kuen Wong, and William Harrington for helpful comments. This paper was prepared for the Presidential Address for the American Finance Association Meetings in New Orleans, Louisiana, January 2–3, 1992.

ABSTRACT

The outstanding face amount of plain vanilla interest rate swaps exceeds two trillion dollars. While pricing and hedging of such swaps appear to be quite simple, many existing theories are based on the incorrect characterization of a swap as a simple exchange of a fixed for a floating rate note. This characterization is not consistent with standarized swap contracts and the treatment of swaps in bankruptcy. This paper provides an alternative perspective on swaps.

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