Interest Rate Call Option

DEFINITION of 'Interest Rate Call Option'

An interest rate derivative in which the holder has the right to receive an interest payment based on a variable interest rate, and then subsequently pays an interest payment based on a fixed interest rate. If the option is exercised, the investor who sells the interest rate call option will make a net payment to the option holder.

BREAKING DOWN 'Interest Rate Call Option'

Interest rate call options can be used by an investor wishing to hedge a position in a loan in which interest is paid based on a floating interest rate. By purchasing the interest rate call option, an investor is able to forecast the cash flow that will be paid when the interest payment is due.

Interest rate call options can be used in either a periodic or balloon payment situation.

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