Range Accrual - Valuation and Risks

Valuation and Risks

A range accrual can be seen as a strip of binary options, with a decreasing lag between fixing date and payment date. For this reason, it is important the valuation model is well calibrated to the volatility term structure of the underlying, at least at the strikes implied by the range.

If furthermore the range accrual is callable, then the valuation model also needs to take into account the dynamic between the swaption and the underlying.

Accrual swaps that monitor permanence of interest rates into a range and pay a related interest rate times the permanence factor also depend on correlation across different adjacent forward rates. For the details see for example Brigo and Mercurio (2001).