8 Pages Posted: 14 May 2003
Constant maturity swaps can be regarded as generalizations of vanilla interest rate swaps. In a vanilla swap one exchanges the fixed swap rate against a floating LIBOR, which involves an interest rate relevant for that particular settlement period only. In a CMS swap this will be generalized. One will exchange the fixed legs against floating legs - usually the swap rate.
In this note we give a new (for our knowledge) approximate formula for convexity adjustment based on forward measure approach and LIBOR market model. This link is interesting itself - showing that convexity adjustment is model and calibration dependent.
Keywords: Constant maturity swaps, forward measure, LIBOR market model
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By Donald Smith