Which of the following is true for an interest rate swap?
A. A swap is usually worth close to zero when it is first negotiated
B. Each forward rate agreement underlying a swap is worth close to zero when the swap is first entered into
C. Comparative advantage is a valid reason for entering into the swap
D. None of the above
A
A swap is worth close to zero at the beginning of its life. (It may not be worth exactly zero because of the impact of the market maker's bid-offer spread.) It is not true that each of the forward contracts underlying the swap are worth zero. (The sum of the value of the forward contracts is zero, but this does not mean that each one is worth zero.) The remaining floating payments on a swap are worth the notional principal immediately after a swap payment date, but this is not necessarily true for the remaining fixed payments.
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