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Interest rate derivative - Definition and Overview |
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An interest rate derivate is a derivative security where the underlying asset is the right to pay or receive a (usually notional) amount of money at a given interest rate.
Interest rate derivatives are the largest derivatives market in the world. Market observers estimate that $60 trillion dollars by notional value of interest rate derivatives contract had been exchanged by May 2004.
According to the International Swaps and Derivatives Association, 80% of the world's top 500 companies at April 2003 used interest rate derivatives to control their cashflow. This compares with 75% for foreign exchange options, 25% for commodity options and 10% for equity options.
Examples
An interest rate option which ensures the purchaser pays a maximum interest rate is known as an interest rate cap.
An interest rate option which ensures the purchaser receives a minimum interest rate is known as an interest rate floor.
See also
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