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Derivatives

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  • June 22, 2021
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Contingent Premium Cap

A contingent premium option in which the option is a cap (interest rate cap), where the holder is not required to pay an upfront premium. However, at expiration date, the holder will have to pay a preset premium amount if the cap is in the money. The premium for a contingent cap is typically much greater than the premium on an ordinary cap (vanilla cap), but it is contingent on the underlying rate being greater than the strike level when the option reaches maturity. Contingent premium caps are mainly used to enhance a leveraged financing deal and to take a view on volatility levels. The contingency of premium may be particularly attractive for investors who are currently short of cash.


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