A range accrual swap which confers on one of the parties the right, without the obligation, to terminate the swap on any of the pre-determined fixing or termination dates during the life of the swap. The right to terminate the swap prematurely is typically vested with the payer of the range accrual leg. This swap pays the buyer a coupon which only accrues if a predetermined index meets a certain condition agreed upon at the trade date. The coupons are multiplied by an accrual factor which relates the number of days spent within the range (n) to the number of days in the coupon period (N). As such the payoff of a callable range accrual swap is:
Payoff = coupons x n/N
This swap is implicitly embedded with a strip of digital options that expire on a daily basis. The buyer of the swap is short those options, and by those short options he can enhance the yield beyond the level attainable in an ordinary swap.
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