New method calculates value of interest-rate derivatives, revolutionizing financial markets.
This article explains how to price interest-rate derivatives like deposits and swaps using the risk-free discount curve. By knowing the discount factor, we can calculate the fair value of these derivatives without the risk of arbitrage. The process involves bootstrapping the discount curve from quoted rates of deposits and swaps. This method allows for the accurate pricing of simple interest-rate derivatives, such as inter-bank deposits, interest-rate swaps, and foreign-exchange forward contracts.