Payoff Description
A general expression for the payoff of a range accrual is:
- index(i) is the value of the index at the ith observation date
- N is the total number of observations within a period
- P is the payout when the index is in the range
If the observation frequency is daily, the payoff could be more easily written as
where
- n is the number of days a specified index is within a given range
- N is the total number of days of the observation period
- P is the payout for any given day where the index is in the range
The index could be an interest rate (e.g. USD 3 months Libor), or a FX rate (e.g. EUR/USD) or a commodity (e.g. oil price) or any other observable financial index.
The observation period can be different from daily (e.g. weekly, monthly,etc.), though a daily observation is the most encountered.
The receiver of the range accrual coupons is selling binary options. The value of these options is used to enhance the coupon paid.
Read more about this topic: Range Accrual
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