Interest rate swap

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Derivative instruments - interest rate risk management - hedging.


An interest rate swap is a longer-term interest rate derivative.

An IRS is similar in its effects on interest expense or interest income to a Forward Rate Agreement (FRA).

An IRS - like an FRA - is a contract for differences based on an agreed market interest rate (the reference rate).

But the IRS usually has multiple future interest calculation and settlement dates, and is used by a corporate to hedge or transform longer term interest rate exposures.

For example, an interest rate swap might be used to transform a longer term floating rate borrowing into a synthetic fixed rate borrowing.

(Whereas an FRA is for the shorter term and for a single settlement receipt or payment.)

The IRS contract for differences can also be viewed as an agreement to exchange:

  • A predetermined series of fixed interest payments, known as the fixed rate leg, or the fixed leg, for
  • A series of floating interest payments, determined over time by the reference rate, known as the floating rate leg, or the floating leg.

Other forms of capital market swap have been developed for the exchange of many other different types of cash flows and are used widely to hedge or transform a wide variety of related underlying exposures.

See also

Other links

Treasury Essentials: interest rate swap, Will Spinney, March 2014