What is a 'Swap Rate'

A swap rate is the rate of the fixed leg of a swap as determined by its particular market. In an interest rate swap, it is the fixed interest rate exchanged for a benchmark rate such as LIBOR plus or minus a spread. It is also the exchange rate associated with the fixed portion of a currency swap.

BREAKING DOWN 'Swap Rate'

An interest rate swap is the exchange of a floating rate for a fixed rate; a currency swap is the exchange of interest payments in one currency for those in another. In both types of transaction, the fixed element is referred to as the swap rate.

Interest Rate Swap

Parties are referred to with respect to the fixed rate leg of the swap; they are either payer or receivers of fixed. The cash flow of the fixed rate leg of the swap is set when the trade is done. The cash flow for the floating rate leg is set periodically on the rate reset dates, which are determined by the reset period of the floating rate leg. The most common index for the floating rate leg is the three-month U.S. dollar LIBOR. This can either be paid quarterly, so every three months, or compounded and paid semi-annually. The spread above or below LIBOR reflects both the yield curve and any credit spread to be charged. Interest rate payments between the fixed and the floating rate legs are netted at the end of each payment period, and only the difference is exchanged.

Currency Swap

There are three different types of interest rate exchanges for a currency swap: (1) the fixed rate of one currency for a fixed rate of the second; (2) the fixed rate of one currency to a floating rate of the second; and (3) the floating rate of one to a floating rate of the second. Within each of those three variations, there are two additional variations: the swap can include or exclude a full exchange of the principal amount of currency at both the beginning and the end of the swap. The interest rate payments are not netted because they are calculated and paid in different currencies.

Regardless of whether the principal is exchanged, a swap rate for the conversion of the principal must be set. If there is no exchange, then this is used simply for the calculation of the two notional principal currency amounts on which the interest rate payments are based. If there is an exchange, where the swap rate is set can have a large profit or loss impact between the start and end dates of the swap.

RELATED TERMS
  1. Delayed Rate Setting Swap

    An exchange of cash flows, one of which is based on a fixed interest ...
  2. Currency Swap

    A swap that involves the exchange of principal and interest in ...
  3. Bond Market Association (BMA) Swap

    A type of swap arrangement in which two parties agree to exchange ...
  4. Asset Swap

    Similar in structure to a plain vanilla swap, the key difference ...
  5. Interest Rate Swap

    An agreement between two parties (known as counterparties) where ...
  6. Swap

    A derivative contract through which two parties exchange financial ...
Related Articles
  1. Trading

    How Are Interest Rate Swaps Valued?

    When trading in financial markets, higher returns are generally associated with higher risk. Hedge your risk with interest rate swaps.
  2. Trading

    Interest Rate Swaps Explained

    Plain interest rate swaps that enable the parties involved to exchange fixed and floating cash flows.
  3. Managing Wealth

    An In-Depth Look At The Swap Market

    The swap market plays an important role in the global financial marketplace; find out what you need to know about it.
  4. Investing

    What's an Interest Rate Swap?

    An interest rate swap is an exchange of future interest receipts. Essentially, one stream of future interest payments is exchanged for another, based on a specified principal amount.
  5. Trading

    An Introduction To Swaps

    Learn how these derivatives work and how companies can benefit from them.
  6. Investing

    How To Read Interest Rate Swap Quotes

    Puzzled by interest rate swap quotes terminology? Investopedia explains how to read the interest rate swap quotes
  7. Trading

    Different Types of Swaps

    Investopedia explores the most common types of swap contracts.
  8. Trading

    Currency Swap Basics

    Find out what makes currency swaps unique and slightly more complicated than other types of swaps.
  9. Trading

    Hedging With Currency Swaps

    The wrong currency movement can crush positive portfolio returns. Find out how to hedge against it.
  10. Investing

    The Fast-Paced World of Libor & Fixed Income Arbitrage

    LIBOR is an essential part of implementing the swap spread arbitrage strategy for fixed income arbitrage. Here is a step-by-step explanation of how it works.
RELATED FAQS
  1. What are interest rate swaps on the OTC market?

    Learn about interest rate swaps and how they are traded over the counter, and understand the impact of Dodd-Frank on swaps ... Read Answer >>
  2. What is an absolute rate?

    An absolute rate is easy to understand once you know the basics of an interest rate swap. An absolute rate is the fixed rate ... Read Answer >>
  3. 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 >>
  4. Can individual investors profit from interest rate swaps?

    Find out how individual investors can speculate on interest rate movements through interest rate swaps by trading fixed rate ... Read Answer >>
  5. What would motivate an entity to enter into a swap agreement?

    Learn why parties enter into swap agreements to hedge their risks, and understand how the different legs of a swap agreement ... Read Answer >>
  6. Do interest rate swaps trade on the open market?

    Learn how interest rate swaps are traded on the OTC and interbank markets, and how these swaps can be used to arbitrage different ... Read Answer >>
Hot Definitions
  1. Magna Cum Laude

    An academic level of distinction used by educational institutions to signify an academic degree which was received "with ...
  2. Cover Letter

    A written document submitted with a job application explaining the applicant's credentials and interest in the open position. ...
  3. 403(b) Plan

    A retirement plan for certain employees of public schools, tax-exempt organizations and certain ministers. Generally, retirement ...
  4. Master Of Business Administration - MBA

    A graduate degree achieved at a university or college that provides theoretical and practical training to help graduates ...
  5. Liquidity Event

    An event that allows initial investors in a company to cash out some or all of their ownership shares and is considered an ...
  6. Job Market

    A market in which employers search for employees and employees search for jobs. The job market is not a physical place as ...
Trading Center