For example, consider a plain vanilla fixed-to-floating interest rate swap where Party A pays a fixed rate, and Party B pays a floating rate. In such an agreement the fixed rate would be such that the present value of future fixed rate payments by Party A are equal to the present value of the expected future floating rate payments (i.e. the NPV is zero). Where this is not the case, an [[Arbitrage]]ur, 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.
Subsequently, once traded, the price of the Swap must equate to the price of the various corresponding instruments as mentioned above. Where this is not true, an arbitrageur could similarly the overpriced instrument, and use the proceeds to purchase the correctly priced instrument, pocket the difference, and then use payments generated to service the instrument which he is short.