Notional Principal Amount

AAA

DEFINITION of 'Notional Principal Amount'

In an interest rate swap, the predetermined dollar amounts on which the exchanged interest payments are based. Notional principal never changes hands in the transaction, which is why it is considered notional, or theoretical. Neither party pays or receives the notional principal amount at any time; only interest rate payments change hands.

INVESTOPEDIA EXPLAINS 'Notional Principal Amount'

For example, two companies might enter into an interest rate swap contract as follows:


-For three years, Company A pays Company B 5% interest per year on a notional principal amount of $10 million.


-For the same three years, Company B pays Company A the one-year LIBOR rate on the same notional principal amount of $10 million.


This would be considered a plain vanilla interest rate swap because one party pays interest at a fixed rate on the notional principal amount and the other party pays interest at a floating rate on the same notional principal amount.

RELATED TERMS
  1. LIBOR

    LIBOR or ICE LIBOR (previously BBA LIBOR) is a benchmark rate ...
  2. Floating Interest Rate

    An interest rate that is allowed to move up and down with the ...
  3. Interest Rate Swap

    An agreement between two parties (known as counterparties) where ...
  4. Notional Value

    The total value of a leveraged position's assets. This term is ...
  5. Liability Swap

    An exchange of debt related interest rates between two parties ...
  6. BOBL Futures Contract

    A futures contract with medium term debt that is issued by the ...
Related Articles
  1. Options & Futures

    An Introduction To Swaps

    Learn how these derivatives work and how companies can benefit from them.
  2. Charts & Patterns

    Introduction To Counterparty Risk

    Unlike a funded loan, the exposure from a credit derivative is complicated. Find out everything you need to know about counterparty risk.
  3. Active Trading

    An In-Depth Look At The Swap Market

    The swap market plays an important role in the global financial marketplace; find out what you need to know about it.
  4. Forex Education

    Currency Swap Basics

    Find out what makes currency swaps unique and slightly more complicated than other types of swaps.
  5. Active Trading

    How Companies Use Derivatives To Hedge Risk

    Derivatives can reduce the risks associated with changes in foreign exchange rates, interest rates and commodity prices.
  6. Investing Basics

    How Are Interest Rate Swaps Valued?

    When trading in financial markets, higher returns are generally associated with higher risk. Hedge your risk with interest rate swaps.
  7. Investing

    Simple Interest

    Simple interest is a quick method of calculating the interest charged on a loan. Simple interest is determined by multiplying the interest rate by the principal by the number of periods.
  8. Investing

    What's an Interest Rate Swap?

    An interest rate swap is an exchange of future interest receipts. Essentially, one stream of future interest payments is exchanged for another, based on a specified principal amount.
  9. Investing Basics

    ISDA Master Agreement

    The ISDA Master Agreement is a document outlining the terms of an over-the-counter derivatives transaction between two parties. This document serves as a standard agreement in these transactions ...
  10. Insurance

    Credit Default Swaps: What Happens In A Credit Event?

    The credit crisis of 2008 prompted important changes to the settlement of credit default swaps.

You May Also Like

Hot Definitions
  1. Multiplier Effect

    The expansion of a country's money supply that results from banks being able to lend. The size of the multiplier effect depends ...
  2. Command Economy

    A system where the government, rather than the free market, determines what goods should be produced, how much should be ...
  3. Prospectus

    A formal legal document, which is required by and filed with the Securities and Exchange Commission, that provides details ...
  4. Treasury Bond - T-Bond

    A marketable, fixed-interest U.S. government debt security with a maturity of more than 10 years. Treasury bonds make interest ...
  5. Weight Of Ice, Snow Or Sleet Insurance

    Financial protection against damage caused to property by winter weather specifically, damage caused if a roof caves in because ...
  6. Weather Insurance

    A type of protection against a financial loss that may be incurred because of rain, snow, storms, wind, fog, undesirable ...
Trading Center