What Is a Variance Swap and How Is It Typically Settled?

A Variance Swap is a forward contract on the future realized variance (or volatility) of an underlying asset. It allows a party to trade the future level of volatility directly.

Since variance is not a deliverable asset, Variance Swaps are always cash-settled. The payoff is based on the difference between the agreed-upon strike variance and the realized variance over the contract's life.