Swap Valuation And Use

Swap characteristics in general

Interest rate swaps

Counterparties exchange a payment determined by the differential between interest rates calculated by two different methods.

Currency swaps

Principal and interest payments are exchanged by counterparties periodically over the tenor (life) of the agreement.

Commodity swaps

Based upon an agreed quantity and price per unit one counterparty pays the other a fixed rate while the other pays a variable rate that is based upon the continuing market price of the commodity often expressed in some percentage form.

Equity swaps

Counterparties agree to exchange a fixed interest rate based upon some notional principal for the total returns earned by some market index. Thus fixed income streams and equity investment performance can be exchanged.

Credit default swaps

Agreement between counterparties wherein one pays a fixed rate to the other and in exchange receives a payment in the event of a default by a third reference party. It behaves similar to an insurance policy, but there is no requirement that the fixed rate payer have a vested interest in the third party's default.

Differential swap

An agreement similar to commodity swaps however the payment is based upon the difference between the prices of two commodities rather than one commodity vs a fixed rate.

Off market swaps

Generally swaps are initiated at no cost. However, when a counterparty to an existing swap wishes to eliminate the effect of that swap a reverse position may be entered to effectively offset the existing swap's characteristics. Typically these swaps require some initial exchange to compensate for the different values of the positions.

Volatility swap

An agreement whose value is dependent upon the volatility of an asset, typically stock.

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