Interest Rate and Currency Swaps

Swaps

Swaps are contractual agreements between two parties to exchange cash flows or financial instruments over a specified period. They are primarily used to manage exposure to fluctuations in interest rates, currency exchange rates, and other financial variables.

Interest Rate Swaps

• Description: Exchange of interest payment obligations, typically swapping fixed-rate payments for floating-rate payments or vice versa.
• Purpose: Hedge against interest rate fluctuations or obtain a more favorable interest rate.
• Example: Company A pays a fixed interest rate but anticipates a decline in rates. By entering into an interest rate swap, it can exchange its fixed-rate payments for floating-rate payments.

Currency Swaps

• Description: Exchange of principal and interest payments in one currency for principal and interest payments in another currency.
• Purpose: Hedge against currency risk or obtain financing in a desired currency at more favorable terms.
• Example: A U.S. company needing euros can enter into a currency swap with a European company needing dollars, aligning their financial needs.