Online Finance – Pricing Interest Rate Options – Cap Floor Parity
The cap- floor parity says that being long a cap and short a floor with the same strike is equivalent to paying the fixed leg in the swap where the fixed rate is equal to the strike rate.
In other words, Cap – Floor = Swap.
From the above two examples on caps and floors we see that this value is
Calculating an interest rate swap, with fixed rate equal to the strike of 12.5%, notional =100,000, payment frequency = annual and payment dates similar to that of the cap and floor above we see that the value of the swap is as follows:
|Period Start||Period End||ti+1||ZCti+1|
|Cash flow||Rate||Cash flow||PV of Fixed Leg||PV of Floating Leg|