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- Correlation Swap /
- Contract Description
Contract Description
Similar to variance swaps, the correlation swap payoff involves a notional, a realized correlation component and a strike price:
Correlation swap payoff = Notional * (Realized Correlation - Strike)
Example: a 1y correlation swap contract on the constituents of the SX5E index would include the following terms:
- underlying assets: each of the 50 constituent stocks denoted by S1, S2, ..., SN.
- notional - €100 000 per correlation point
- realized correlation: 
where 
is the familiar pairwaise coefficient of correlation between the time series Xi and Xj of daily log returns observed in the year following the trade date.
- strike: 52 correlation points
If after one year the arithmetic average of pairwise correlation coefficients between the 50 underlying assets is equal to 58.3 correlation points, the swap seller will pay a net CF of €630 000 to the swap buyer.