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Risk-Neutral Valuation: Pricing and Hedging of Financial Derivatives Bingham N.H., Kiesel R.
Publisher: Springer Verlag

You may well be hedging it with IR swaps. Mathematical Models of Financial Derivatives, Y K Kwok G. For instance These, however, were fixes to what they saw as a good model, indeed the paradigmatic good model: one in which prices were imposed by arbitrage, and in which there was a well-defined risk-neutral or martingale measure. N H Bingham and R Kiesel, Risk-Neutral Valuation, Springer; T Björk, Arbitrage Theory in Continuous Time, Oxford; P J Hunt and J Kennedy, Financial Derivatives in Theory and Practice, Wiley; D Lamberton and J Kennedy, Thorsten Rheinlander and Jenny Sexton, Hedging Derivatives, World Scientific. Black & Scholes (1973) established the bases of the modern financial options theory, when they developed an equilibrium model that did not need any restrictive assumption on the individual preferences regarding risk, or on market price formation in equilibrium. There's more worth reading here; in particular, the paper gives a good sense of how credit derivatives modeling and hedging is at least in part about market convention rather than mathematically provable correct hedges. Margins discourage the accumulation of excessive derivatives positions, a market failure caused by unregulated trading of hedging contracts among protection sellers. So: if you are pricing an IR swaption, you almost certainly want to be risk-neutral, at least to start with. In the risk-neutral evaluation, it is not assumed that the investors' preferences before risk are neutral, and it does not use actual probabilities, but the risk-neutral probabilities or also called martingale measures. Continuous-Time Finance, R C Merton H. Duffie, D and Singleton, K (2003), Credit Risk: Pricing, Management, and Measurement, Princeton: Princeton University Press (Princeton Series in Finance). Based on the current use of accepted risk transfer mechanisms in Islamic finance, this article explores the validity of derivatives in accordance with fundamental legal principles of the Shariah and summarises the key objections of Shariah scholars that challenge the permissibility of Parties to forward agreements need to have exactly opposite hedging interests, which inter alia coincide in timing of protection sought against adverse price movements and the quantity of asset delivery. Risk-Neutral Valuation: Pricing and Hedging of Financial Derivatives, R Kiesel, N H Bingham F.