What is Notional Value?
Notional value refers to the nominal or face value of a financial instrument, on which payments are calculated. This value is referred to as notional, or nominal in some cases because it does not change. It is often used to value the underlying asset, in a derivatives contract.
Difference Between Notional Value and Market Value
Notional value is the theoretic value of how much a security controls. It is usually higher than the market value. Notional value is used in equity options and currency swaps. It is used to calculate the value on which interest rate payments will be exchanged. The notional value is also useful in assessing portfolio risk.
Market value refers to the price at which securities can be bought and sold. It is the actual value of a security at the current moment in a marketplace. Market value is also used to calculate the market capitalisation of a company. This value can be computed by multiplying the current share price, i.e. the market price of a share, by the number of outstanding shares.
More About Notional Values Being Used
Equity Options Notional value in equity options is the value that the option controls. In a stock option contract, the notional value is the value of what you control, rather than what you own.
Interest Rate Swaps In currency swaps, it is used to calculate the value on which interest rate payments will be exchanged. This, in turn, will give the investor the amount of interest due.
Total Return Swaps Under a total return swap, one party pays the other party a fixed or floating rate of interest, which is multiplied by a notional principal amount plus depreciation. This is swapped with a party who pays the appreciation of the notional value.
