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What are dividend swaps?

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What are dividend swaps? Powered By Docstoc
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A dividend swap pertains to an over-the-counter derivative contract especially in the
form of a swap. The dividend swap is made up of a number of payments advanced in
connection with two parties at specified intervals across a predetermined term such as
each year over five years. A single party, that is, the bearer of the given leg pays the
other party a preassigned fixed payment at every interval.

The counterparty - the bearer of the floating leg pays the full dividends which were
disbursed by a chosen underlying, that can be an individual firm, a group of companies,
or alternatively the entire membership of an index. The monetary disbursements are
computed by a conceptional number of shares.

As with the majority of swaps, the contract is often set up in such a way that its worth at
the signing stage is equivalent to nothing. This is realized through drawing the economic
value of the fixed leg to be identical to the economic value of the floating leg. Which in a
matter of speaking, the fixed leg would be equivalent to the average anticipated
dividends during the term of the swap. Hence, the pegged leg of the swap is in a
position to be applied for estimating market forecasts as regards the dividends which
will be disbursed by the underlying.

Dividend swaps tend to be considerably new financial instruments that emerged in the
period starting from the early 2000s. They were previously linked to the growth of
equity-linked notes (ELNs) as well as structured notes that had become common in the
1990s. Equity linked notes (ELNs) including structured notes indicate capital
appreciation only which does not incorporate profits from dividends and dividend
reinvestment so as to to steer clear of taxation issues and other matters in the contract.

Dealers in equity linked notes and structured notes were consequently left sitting on
potentially unstable dividend payments. As such demand for instruments surged, these
would swap such volatile income into fixed payments, bringing about the dividend swap.

Dividend swaps sprang up with European underlyings and flourished globally in the
period around the early 2000s, regardless of the fact that the market continues to be
predominantly active over-the-counter. although

				
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