"swap" obligations, effectively exchanging cash flow streams calculated against a notional principal amount, and the value of the swap is the present value (PV) of both sets of future cash flows "netted off" against each other. To be arbitrage free, the terms of a swap contract are such that, initially, the Net present value of these future cash flows is equal to zero; see Swap (finance)#Valuation and Pricing. Once traded, swaps can (must) also be priced using rational pricing. The examples below are for Interest rate swaps and is representative of pure rational pricing as it excludes credit risk although the principle applies to any type of swap. Valuation at initiation Consider a fixed-to-floating Interest rate swap where Party A pays a fixed rate ("Swap rate"), and Party B pays a floating rate. Here, the fixed rate would be such that the present value of future fixed rate payments by Party A is equal to the present value of the expected future floating rate payments (i.e. the NPV is zero). Were this not the case, an arbitrageur, C, could: Assume the position with the lower present value of payments, and borrow funds equal to this present value Meet the cash flow obligations on the position by using the borrowed funds, and receive the corresponding payments—which have a higher present value Use the received payments to repay the debt on the borrowed funds Pocket the difference – where the difference between the present value of the loan and the present value of the inflows is the arbitrage profit Subsequent valuation The Floating leg of an interest rate swap can be "decomposed" into a series of forward rate agreements. Here, since the swap has identical payments to the FRA, arbitrage free pricing must apply as above – i.e. the value of this leg is equal to the value of the corresponding FRAs. Similarly, the "receive-fixed" leg of a swap can be valued by comparison to a bond with the same schedule of payments. (Relatedly, given that their underlyings have the same cash flows, bond options and swaptions are equatable.) See Swap (finance)#Using bond prices. Options As above, where the value of an asset in the future is known (or expected), this value can be used to determine the asset's rational price today. In an option contract, however, exercise is dependent on the price of the underlying, and hence payment is uncertain. Option