When the normal relationship between fixed and floating interest rates alters in an interest rate swap,this risk is called:
A) basis risk.
B) exchange risk.
C) mismatch risk.
D) front-end risk.

Question

Quizplus · Accepted Answer

When the relationship between fixed and floating interest rates changes, there is a risk that the swap will no longer provide the intended hedge, which is called basis risk. This is because the value of the fixed and floating rates may move independently of each other, creating a basis between the two rates that was not anticipated when the swap was initiated. Exchange risk refers to the risk of loss due to changes in exchange rates, while mismatch risk refers to the risk of loss due to a mismatch between the cash flows of two instruments. Front-end risk is not a term commonly used in finance.

When the Normal Relationship Between Fixed and Floating Interest Rates