The most common and simplest swap is a “plain vanilla” interest rate swap. In this swap, Part A agrees to pay Part B a pre-defined fixed interest rate for a fictitious amount of capital on specified dates for a specified period. At the same time, Part B undertakes to make payments on the basis of a variable interest rate to Part A, on the same fictitious principle, on the same dates indicated for the same period indicated. In a simple vanilla swap, both cash flows are paid in the same currency. Reported payment data is called billing dates and interim periods are called clearing periods. As swaps are tailored contracts, interest payments can be made annually, quarterly, monthly or at another interval set by the parties. Derivative contracts can be divided into two families: the reasons for the use of swap contracts can be categorized into two fundamental categories: commercial needs and comparative advantages. The normal activities of some companies lead to certain types of interest rate or currency liabilities that may relieve swaps. Consider, for example, a bank that pays a variable interest rate on deposits (for example. B commitments) and who earns a fixed interest rate on credits (e.g.

B assets). This disparity between assets and liabilities can create enormous difficulties. The bank could use a fixed-rate swap (a fixed interest rate and a variable interest rate) to convert its fixed-rate assets into variable-rate assets, which would be in line with its mobile liabilities. 1. Buy the contractor: just like an option or futures contract, a swap has a calculable market value, so that one party can terminate the contract by paying that market value to the other. However, this is not an automatic function, so either the swap contract must be indicated in advance or the party that wishes to do so must obtain the agreement of the counterparty. Finally, at the end of the swap (usually the date of the last interest payment), the parties re-exchange the initial amounts of the principal. These principal payments are not affected by exchange rates on that date. The simple vanilla swea-currency involves the exchange of capital and fixed interest for a loan in one currency for capital and fixed-rate interest payments for a similar loan in another currency.

Unlike an interest rate swap, parties to a currency swap exchange capital amounts at the beginning and end of the swap. The two main amounts shown are set so that they are about the same when the exchange rate is expressed at the time of the swap. Unlike most standardized options and futures, swaps are not exchange-traded instruments. Instead, swap contracts are bespoke contracts negotiated between private parties on the over-the-counter market. Businesses and financial institutions dominate the swap market, and few (if at all) individuals participate. Because swaps take place in the over-the-counter market, there is always a risk of a counterparty defaulting. As with interest rate swaps, payments are effectively reduced against each other relative to the exchange rate that prevailed at the time. If the one-year exchange rate is $1.40 per euro, the payment by Company C is $1,960,000 and the payment of Company D would be $4,125,000.

In practice, Company D would have the net difference of $2,165,000 ($4,125,000 – $1,960,000) to Company C. To keep it simple, we say that they make these payments every year, starting one year from the exchange of capital. Since C borrowed the euro, it must pay interest in euros on the basis of an interest rate in euros. Similarly, Company D, which has borrowed dollars, will pay interest in dollars on the basis of a dollar interest rate. For this example, say, the agreed dollar interest rate is 8.25 per cent, and the euro-denominated interest rate is 3.5 per cent. For example, Company C pays 40,000,000 euros each year – 3.5 euros