An interest rate swap (pay fixed, receive floating) whose notional value adjusts according to rising interest rates by linking the floating leg to a constant maturity swap (CMS). The two legs of the swap (fixed for floating) are calculated based on the notional amount. In an airbag swap, the notional amount may increase as interest rates increase and vice versa.
Principally, it is designed to allow hedging against rising interest rates. It was introduced to help insurance companies overcome their inherent sensitivity to interest rate fluctuations and the early redemptions resulting from rising rates. However, airbag swaps are currently also used by other financial institutions seeking to offset the negative impact of interest rate fluctutations on their fixed-income portfolios.
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