A barrier swaption in which protection exists or activates only if the swap rate crosses the barrier. In essence it belongs to the class of barrier options. Thanks to the knock-in mechanism, this swaption has the potential to increase the premium of a standard interest rate swaption on either leg. The swaption is, therefore, contingent upon a barrier being broken through by a reference rate on a rollover date, in which case it automatically knocks in (gets activated). This mechanism can be fixed on both legs of a swaption (i.e., receiver and payer). There is a wide range of reference rates that can underlie this type of options including LIBOR, exchange rates, equity prices, commodity prices, etc.
This type of swaptions particularly suits lenders or investors whose need of interest rate protection is contingent upon developments in an economic variable such as exchange rates, equity prices, and so on.
Comments