Currency swap(Currency Swap) is a currency transaction that combines the purchase or sale of a currency on spot terms with the simultaneous sale (or purchase) of the same currency for a certain period on conditions, that is, a combination of two opposite ones is carried out for the same amounts, but with different value dates.

There are classic swap operations and their varieties in the form of option, currency and interest rate swaps and the like. Classic swaps, depending on the sequence of performed “spot” and “forward” operations, are divided into report and deport. Report- this is the sale of currency on spot terms and simultaneous purchase on forward terms. Deport— purchase of currency on spot terms and sale on forward terms. If the purchase (sale) of a currency is carried out on the basis of two agreements at the outright rate, then such an operation is called “forward-forward” or “forward swap”.

If a swap transaction is concluded, the execution date closer to the transaction is called value date, and the date of execution of the reverse transaction, remote in time, is swap completion date(maturity).

During a deport operation, the standard swap entry can be as follows: 6M USD/UAH b/s swap. This means that on a spot basis a certain amount of US dollars was purchased for hryvnia and the same amount of dollars was sold for hryvnia at the outright rate for 6 months. (b/s - buy and sell - bought/sold).

During a report operation (sold/bought - sell and buy - s/b), the entry can be as follows: 6M USD/UAH s/b swap, that is, a certain amount of dollars was sold at the spot rate and the same amount was purchased at the outright rate » with delivery in 6 months.

Depending on the timing of the agreement, “swaps” are divided into:

1. ordinary (operations report and deport);
2. weekly - “swap” s/w (spot-week swap), if the first transaction is carried out on “spot” terms, and the second - on weekly “forward” terms;
3. one-day - “swap” t/n (tomorrow-next swap), if the first operation is carried out with a value date of “tomorrow”, and the reverse one is carried out on “spot” terms;
4. forward (“forward-forward”).

For classic currency swaps (report and deport), two exchange rates are used - spot and outright. The latter is determined using the standard method: spot rate plus (minus) forward margin (premium or discount).

Currency swap agreements are interbank transactions and have much in common with outright transactions. In practice, they are used much more often than simple forward operations.

Recently, currency swaps have become more widely used not only between commercial banks, but also between central banks, which can be considered as mutual lending agreements in national currencies. For this purpose, in 1969, a multilateral system of mutual currency exchange was created based on the use of swap operations through Basel. The mechanism of currency swaps of the National Bank of Ukraine with commercial banks used in 2009. During a banking crisis, in order to stimulate refinancing and manage currency risks. Since May 30, 2011, currency swaps began to be widely used in the domestic foreign exchange market both between banks and between banks and the central bank for the purpose of concluding agreements for the sale of foreign currency for hryvnia with obligations to repurchase it after a certain period of time at a predetermined rate.

The main purpose of using a currency swap is to provide financing for long-term obligations in a foreign currency; hedging long-term currency risk; replacing the currency in which investment income is received with another at the investor’s choice; ensuring the conversion of exported capital into another currency.

If we describe the concept of “currency swap” in more strict terms, then they say that it is a combination of conversion transactions that are essentially opposite, with an equivalent amount, but valued. They say that the value date is the date when the first transaction is made, and the execution or sale date of the swap is the time the reverse transaction is made. As a rule, a transaction such as a currency swap is very rarely concluded for a period of more than one year.

There are two types of swap transactions. In the first case, currency is first purchased and then sold, in the second - vice versa. Thus, a swap of the first type is called “bought/sold”, and a swap of the second type is called “sold/bought”.

In most cases, the swap is carried out with the same counterparty - a foreign bank. This is a “pure” swap. But there is also a “constructed” swap, when the first currency transaction is performed with one counterparty, and the second with another. The valued amount remains unchanged, even with the swap constructed.

Swap transactions serve as a tool for refinancing or regulating bank liquidity. As a rule, central banks that have a significant flow of funds in foreign currency are more willing to use this instrument. For example, Brazil and Australia regularly use swaps.

Despite the fact that currency swaps, in form, are currency conversion operations, in essence they relate to money market operations.

Swap line

A swap line is an agreement between central banks different countries concerning currency exchange at fixed rates. For example, one Central Bank buys euros from another for dollars, and sells them at a cost increased by the swap difference. This method actually allows you to issue funds.

Swap lines were first used during the credit crisis of 2008 in order to stabilize the situation. The agreement on the use of a swap line significantly affects exchange rates. It may be concluded for a fixed period or amount of funds, but may not have any restrictions.

The Bank of Russia also uses transactions such as currency swaps to provide liquidity to credit institutions or provide liquidity to banking organizations if other means are insufficient to achieve this goal. The Bank of Russia began to use currency swap operations starting in the fall of 2002. At first, transactions were carried out using the ruble-dollar instrument; in 2005, the ruble-euro instrument was added.

Swap (SWAP) is an exchange of property or in cash, in order to reduce risks or change the structure of assets.

The transaction is noteworthy in that the objects of the agreement usually remain in the hands of the owners, and the parties make offsets on interest (discounts). The swap consists of two stages - the initial exchange of assets and the final one (closing the contract). Based on the time of fulfillment of obligations, operations are divided into:

• one-day;
• ordinary - first exchange within 2 days (spot), reverse exchange on forward terms (after a period specified in the agreement);
• weekly - exchange before the end of the spot, settlement after 7 days;
• forward - the contract will come into force in 3 or more days.

Types of swaps with examples

Exchange transactions differ in the assets that are the subject of contracts.

Commodity

As the name implies, the object of the contract is the manufactured products or purchased raw materials. With the help of a swap, the manufacturer minimizes the risks associated with fluctuations in market prices.

Example: enterprise A mines or buys diamonds, the selling price of which directly depends on the exchange rate. It enters into a 5-year swap contract with company B for a fixed sales price of 15 €, but sells products at real (floating) prices. If the sale price turns out to be less than the contract price, then B will transfer the difference to A and suffer a loss. Otherwise, A will pay the discount to B, but will not lose anything.

A similar situation occurs if participants in a swap transaction fix the purchase price. Then company B will compensate for the changes upward.

The example shows that a commodity swap is beneficial to manufacturers (sellers) - they receive stability and can predict income and expenses. The financing party benefits only with a competent long-term price forecast.

Foreign exchange

The purpose of currency exchange is to avoid financial losses during purchase and sale due to changes in rates.

Example: Entity B wants to buy long-term bonds worth CHF 10 million. But she doesn’t have Swiss money, but she has American dollars (or she can take out a loan at a low percentage). Company D owns francs and agrees to exchange them for US dollars. A swap is concluded - the exchange of Swiss currency “today” for dollars at a fixed rate with a return in 5 years.

Contracts may be subject to payment of interest calculated on bank loans on the day the transaction is closed or during the term of the agreement.

Currency swaps are used for:

• increasing liquidity or changing the structure of banking assets in foreign currency;
• investments in foreign companies;
• stock speculation;
• purchases and sales of securities on different exchanges;
• loan servicing.

Percentage

The swap is based on two types of interest rates on loans - fixed and floating LIBOR (weighted average for leading banks). Which one will be preferable for a company depends on the type of business.

Example: A credit institution provides F with a loan only at a fixed rate, but he prefers a floating one. At the same time, G has the right to a floating interest rate on the loan. Organizations enter into a swap - F takes 10 million at 14%, and G takes the same amount at LIBOR +2. Every month the companies offset the interest and pay each other the difference.

Credit default

The purpose of a credit default swap is to insure against the loss of money if the borrower goes bankrupt. The subject of insurance can be a credit, loan, securities obligations, contracts with prepayment and deferred deadlines.

Example: The bank issued a mortgage to the Vasin family. To minimize the risk of losing money and free up reserves for non-repayments, I offered a microfinance organization (MFO) a swap at 1% per annum. The MFO, after checking the borrowers, agrees and receives a commission from the bank. After 3 years, financiers suspect the bankruptcy of the company where Vasin worked and offer another company to become a guarantor of the mortgage. He agrees, but for 3%. For the MFO, this is a loss of money, but financial liability for the mortgage debt is removed.

On promotions

Equity swaps are used only by large financial corporations and banks. The purpose of the operations is to reduce the tax burden, purchase securities of companies in another country, and improve the quality of the investment portfolio. The advantage of an exchange transaction is that the parties to the agreement retain control over the company, that is, they remain real shareholders.

A swap is an over-the-counter transaction and therefore the terms, assets, and conditions are established by the parties to the agreement. But the advantages are also disadvantages: there are no guarantees of fulfillment of obligations (by the exchange clearing house).

A currency stop is a special financial instrument that is used by both banks and international companies. Despite the fact that all types of swaps - currency, stock and interest rate - work approximately the same, the former have certain features.

An operation such as a currency swap always involves the participation of two market participants who want to make an exchange to obtain the desired currency with maximum benefit. To illustrate the essence of a currency swap, consider the following conditional example.

Let a certain English company (company A) want to enter the US market, and an American corporation (B) want to increase the geography of its sales in the UK. Typically, loans and credits that banks provide to non-resident companies have higher interest rates than those issued to local firms. For example, company A can be given a loan in US dollars at 10% per annum, and company B can be given a loan in GBP at 9%. At the same time, rates for local companies are much lower - 5% and 4% respectively. Firms A and B can enter into a mutually beneficial agreement, under which each organization will receive a loan in its national currency from a local bank at more favorable rates, and then the loans will be “swapped” using a mechanism known as a currency swap.

Let's assume that the dollar is exchanged on the Forex market at the rate of 1.60 USD per 1.00 GBP, and each company needs the same amount. In this case, US company B will receive 100 million pounds, and company A will receive 160 million dollars. Of course, they have to compensate their partner, but swap technology allows both firms to reduce their costs of repaying the loan by almost half.

For the purpose of simplicity, the role of the swap dealer, who acts as an intermediary between the participants in the transaction, was excluded from the example. The dealer's participation will slightly increase the cost of the loan for both partners, but the costs will nevertheless be much higher if the parties do not use swap technology. The amount of interest that the dealer adds to the cost of the loan, as a rule, is not too large and is in the range of ten basis points.

It should also be noted that this type of operation is a currency-interest rate swap. In this case, the parties exchange interest payments aimed at repaying foreign currency loans.

Let us note a few key points that make swaps different from other types of similar operations.

Unlike a swap, which is based on income, and an interest rate simple swap, a currency swap involves a preliminary and then final exchange of a pre-agreed amount of loan obligations. In our example, the companies exchanged an amount of $160 million for 100 million pounds at the beginning of the transaction, and at the end of the contract they have to make a final exchange - the amounts are returned to the relevant parties. At this point, both partners are at risk, because the original exchange rate between the dollar and the pound (1.60:1) has probably already changed.

In addition, most swap transactions are characterized by netting. This term means the offset of monetary amounts. In a swap transaction, for example, the return on an index can be exchanged for the return on a specific security. The income of one participant in the transaction is netted against the income of the other participant on a pre-agreed specific date, and only one payment is made. At the same time, those related to currency swaps are not subject to netting. Both partners undertake to make the respective payments on the agreed dates.

Thus, a currency swap is a tool with which two main goals are achieved. On the one hand, they reduce the cost of obtaining loans (as in the example above), and on the other, they allow you to hedge risks associated with sudden changes in the exchange rate on the Forex market.

Currency interest rate swap may involve both an exchange of interest payments and an exchange of the principal amount. The situation on the international capital market may develop in such a way that a bank may be quoted lower interest rates on loans in one currency, and higher on loans in another (for example, an American bank is quoted more attractive interest rates in US dollars compared to rates on loans in British pounds sterling). It is then possible for the bank to borrow in a market where it has an advantage and carry out a currency swap. Such a swap will provide:

Exchange of principal amounts at the beginning of the agreement;

Exchange of interest payments during the term of the agreement;

Reverse exchange of debt amounts at the end of the agreement. It is also possible that banks only make interest payments, without

exchange of principal amounts.

Example:

As you can see, it is more profitable for Bank A to attract American dollars, and for Bank B - British pounds sterling. If the bank needs to have British pounds at its disposal, and Bank B needs dollar resources, then they can carry out a swap.

If the exchange rate on the date of the transaction is 1.6000, then bank A lends 16 million dollars, bank B - 10 million pounds. Art., banks exchange amounts of debt (Fig. 13.3), and then during the term of the agreement they service each other’s interest payments (in this case, each bank is responsible for its obligations on the international capital market, regardless of the quality of performance by the other bank of its obligations under the swap). At the end of the agreement, banks reverse exchange of debt amounts and each of them pays off with its creditor.

Rice. 13.3. V

But the exchange of principal amounts contains credit risk, because on the date of completion of the transaction the exchange rate may differ significantly from the rate that was on the date of conclusion. However, the banks exchanged fixed amounts, and at the end of the swap, they must return exactly these amounts to each other.

It is also possible to carry out currency interest rate swaps without exchanging principal amounts. That is, banks exchange only interest payments on obligations in different currencies. Such swaps are carried out when the bank does not need to attract resources in one currency or another, but only to fix income and expenses in one currency, that is, when the bank has interest income from an asset in one currency, and interest expenses in another. For example, a British bank issues debt in US dollars with a maturity of five years with annual interest payments. This implies that during these five years the bank must pay interest on the bonds in US dollars. At the same time, the bank has income from assets in British pounds sterling. Consequently, the bank has receipts in one currency and payment obligations in another, which implies currency risk for the bank. The swap allows the bank to calculate income and expenses in one currency. In this case, swaps with exchange are possible:

Interest payments at fixed rates;

Interest payments at floating rates;

Payments at fixed rates to payments at floating rates.

As a rule, such swaps are concluded with the participation of a third party - a dealer. Depending on the terms of the swap, the currency risk may be borne by the dealer or by one of the parties. The mechanism for implementing a currency swap based on Swiss francs and US dollars is shown in Fig. 13.4.

Rice. 13.4. V

Swaption

Swaption - marching a financial instrument, a swap option, a contract that gives its buyer the right to enter into a swap transaction on a specific date in the future.

Swaption call- a swaption, which provides the buyer with the right to be a payer at a fixed rate (fixed rate), while he will be paid at a floating rate.

Swaption put- a swaption, which provides the buyer with the right to be a payer at a floating rate (floating rate), while he will be paid at a fixed rate.

If the buyer of a swaption has a need in the future to act as a buyer of an asset (or currency) with a fixed rate, while simultaneously making a counter-sale of a similar asset at a floating rate, then he can enter into a put swaption, thereby completely shifting all risks to the seller of the swaption. If for any reason the current floating rate is lower than the previously agreed fixed purchase rate, the trader will bear a loss. Having used the swaption, he will receive a fixed payment, which he will pay for his obligations, and he will give the resulting floating rate to the seller of the swaption. If the floating rate is higher than the fixed purchase price, then the trader will simply refuse the swaption, because such conditions will bring him profit.

Typically, the buyer and seller of a swaption stipulate:

Swaption premium (penalty) (fee for deferring a swap transaction);

Rate (fixed rate of the underlying swap);

Duration (usually ends two business days before the start date of the underlying swap) (“term” is the amount of deferral of the swap);

Date of the underlying swap;

Additional commissions and deductions;

Frequency of settlement of payments under the underlying swap.

Like others options, A swaption provides the right to enter into a contract in the future with the conditions currently agreed upon, but does not obligate it to do so. The fee reflects the variability of compliance with the agreed characteristics of the swap in the future.