This translates into approximately 8bps on the financing, so technically the rate is hedged at 4. Some borrowers will iterate between strike and cost to back into an actual 4.
If 10 year swap rates are below 4. If 10 year swap rates are above 4.
The swap option is provider will pay the borrower the present value difference between 4. Considerations For this borrower, the swaption should be viewed as hedging insurance against a dramatic upward movement in swap rates rather than precisely locking in a rate in the future.
The swaption does not imply a loan commitment and does not hedge borrowing spreads. The swaption is an option swap option is 10 year swaps, not the 10 year Treasury. Although these are usually highly correlated, if the ultimate rate on the financing is based on Treasurys, there could be a mismatch.
While the value of a swaption is driven, in part, by the settlement date, a borrower can terminate at any time. Conclusion Collars can be attractive instruments to hedge specific financings or generic interest rate movements, but can have high upfront costs because they are hedging long term rates.
Swaptions do not have prepayment penalties. Swaptions can be executed apart from a financing to simply hedge rate risk.