Hedging and Relative Value Strategies · Swaps Trading Guide

A useful swap stress test asks what can happen to value and cash at the same time. Rate shocks alone do not capture the full risk of a portfolio.

Choose several market shapes

Test parallel shifts, steepening, flattening and localized curve moves. Add currency and basis shocks where relevant. Credit and equity swaps need appropriate reference asset shocks and default or corporate action scenarios. A historical event can inform a scenario, but future combinations need not repeat the past exactly.

Reprice the actual contracts

Use the remaining payment schedules, current fixings and contractual options. Linear sensitivities are useful checks, but large shocks need full repricing where possible. Compare approximate and full results to understand nonlinear exposure. Record which assumptions are simplified instead of presenting a single precise number without context.

Add the funding timeline

Suppose a stress causes a $400,000 variation margin call and an additional $150,000 initial margin requirement. If only $300,000 is immediately available, the illustrative funding gap is $250,000 before other payments. An offsetting asset gain does not fill that gap unless it can be converted into eligible cash in time.

Define actions before the shock

Set review thresholds, liquidity reserves and a process for reducing exposures. Include dealer withdrawal, collateral haircuts, disputed values and delayed receipts. A useful stress report identifies who must act and when, rather than merely ranking losses after the event.

Try it yourself

A stress requires $250,000 of variation margin, $100,000 of additional initial margin and a $50,000 coupon payment. Available cash is $280,000. What is the immediate gap?

Show the worked answer

Total immediate needs are $400,000, leaving a $120,000 gap. The result assumes all obligations fall due before other receipts become available.

Further reading

Educational material, not a recommendation to transact. Numerical examples are hypothetical and simplify contract terms. Access, documentation, collateral and regulatory requirements depend on the product, jurisdiction and counterparties.

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