DEFINITION of 'Liability Swap'
An exchange of debt related interest rates between two parties  usually large corporations. In a liability swap, two currently identical (in nominal value) cash flows are exchanged. Usually a variable (floating) rate is exchanged for a fixed rate of income. Swaps are undertaken because each company receives a better rate of interest by trading with the other than they would if they chose a more traditional financing route.
BREAKING DOWN 'Liability Swap'
For example, XYZ may swap a sixmonth LIBOR interest rate for ABC's sixmonth fixed rate of 5% on a notional principal of $10 million dollars. Due to the split, XYZ will pay a fixed interest payment of 5%, instead of the floating rate.
A swap will have an initial value of zero because the initial cash flows are the same. Over time, however, this will change as interest rates change and the swap will have either a positive or negative value for each contract holder. In certain cases, the swap can be markedtomarket periodically to clear out the unrealized gains and losses by making any payments due.

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Interest Rate Swap
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How do companies benefit from interest rate and currency swaps?
An interest rate swap involves the exchange of cash flows between two parties based on interest payments for a particular ... Read Answer >> 
What are interest rate swaps on the OTC market?
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Do interest rate swaps trade on the open market?
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Can bond traders trade on interest rate swaps?
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How are swap agreements financed?
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What are some risks a company takes when entering a currency swap?
Read about the risks associated with performing a currency swap, including counterparty credit risk in the event that one ... Read Answer >>