An interest rate swap (IRS) that has an amortizing notional principal amount (NPA) over time. Differently stated, the swap’s NPA decreases (may decrease) with the passage of time depending on the path of future interest rates (the index). An index amortizing rate swap is, by nature, an over-the-counter derivative contract (OTC derivative) between two parties who agree to exchange (swap) interest payment (measured at an amortizing notional) on two different legs: the fixed rate leg and the floating rate leg. The swap doesn’t involve the exchange of the notional, and the net interest payment is based on the balance of the notional principal that may decrease, depending on the underlying rate index (typically, a short-term interest rate), over the term of the swap (typically, five years).
The rate of amortization varies with the underlying short-term rate as per a pre-agreed schedule of payment (by the two parties). Under normal circumstances, the notional principal would decrease more proportionately when short-term rates fall and less proportionately when the rate rise.
It is known for short as IAR swap.
