An extendable swap which combines a fixed payer swap and a payer swaption. For example, an investor buys a swap whereby he pays 6% and receives a floating rate (LIBOR) for two years. The swap is combined with a swaption that gives the buyer the right to lock in the fixed rate (6%) for an extension of three years in the future. If rates rise above 6%, the buyer has the right to exercise the payer swaption which allows him to continue paying a maximum of 6% over the extension period. As such, the original swap is said to have been extended from three to five years. However, if rates drop, the swaption will not be exercised (it expires worthless).
Derivatives
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