What is a currency swap (SWAP) on Forex in simple words?

14.06.2017
Posted by: Ganesa

Swap

Author Ganesa K.
A professional investor with 5 years of experience with various financial instruments, maintains his blog and advises depositors. Own effective methods and information support for investments.

Many novice traders at the beginning of their trading activities very often encounter numerous market concepts, including a swap.

For successful trading, it is important not only to stop on time, make informed decisions, or use selected strategies, but also be able to use some tools such as stop loss and take profit or swap right. The last look at a little more detail, to know the code it is better to use, and for what it may be required.

Currency swap

In order to succeed in the foreign exchange market, it is important not only to control your emotions or follow the chosen strategy, but also to learn how to use the tools and operate with basic terms. One of them is a swap deal. Traders often have to deal with this concept. However, all newcomers treat him differently. For some, this is another way to get even more income. For others, this is a waste of time and a source of unnecessary losses.

A swap is a term used to refer to a transaction involving the exchange of financial assets in a trade or financial area. And no matter what will be used as such an asset: a currency or an option.

The essence of this concept lies in the fact that a deal is initially concluded on the sale or purchase of a financial instrument, and then the conclusion of the so-called counter transaction occurs. This type of contract provides for the sale or purchase of the same asset after a specified period of time. It is worth noting that when using Swap many newbies are frightened by the fact that some forex brokers charge a fee for such an operation.

Positive and negative swap

To date, the swap is divided into the following main types:

  • positive
  • negative

Now we will analyze each of them in more detail. A positive swap takes place when the discount rate of the currencies selected for the transaction at the World Bank rate until nine pm GMT was lower than before the time specified earlier.

Positive and negative swap

A negative swap is observed when there is a reverse situation. If the rate of the World Bank on the selected currency pairs has become higher by nine in the evening GMT, then the swap will be of this type. It should be noted that in either case a commission fee is charged for a position transfer in a day.

Types of swaps

Swap operations are widely used by experienced traders who seek higher levels of earnings. However, in order to properly use not only spread, but also this tool, it is important to get acquainted not only with how it works, but also with what types are presented.

Swap Types

The following types of swaps:

  • Interest swap
  • Currency swap
  • Share Swap
  • Credit Default Swap

Interest Rate Swap

The interest rate swap is a derivative financial instrument. It is used when both parties to the transaction intend to exchange interest payments for a predetermined amount. This means that at the time specified in the agreement, one of the parties to the transaction must pay the other the percentage specified in the contract for the amount received.

One of the parties to such an agreement may be hedge fund or hedger. Such a measure is required to manage assets and liabilities. Also, swaps of this type are often used by speculators who want to receive income from changes in interest rates.

Currency Swap

A currency swap is the use of two opposite conversion contracts for the same amount at once. Only in this case the value dates are different from each other. It should be noted that such a concept as the value date refers to the time when the period of execution of a closer contract comes.

The end date of the swap is fixed when the time comes for the end of fulfillment of obligations for the last transaction. If the one with which the currency is purchased goes ahead by date and then the contract for the sale occurs, then the swap is called “bought-sold”. If the opposite situation, the swap will be called "sold-bought."

Stock Swap

When trading Forex, traders can use various financial instruments, including futures or any other. Securities in the form of shares, too, often become a means of making a profit by buying and selling. In some transactions, one has to use a stock swap.

This type of swap is the type in which exchangeable payment flows depend on the yield at a certain stock exchange index and at a certain interest rate.

Credit Default Swap (CDS)

A swap contract of this type consists in concluding an agreement between the buyer on the transaction and the issuer, in which the first makes regular installments, and the second undertakes, when the buyer has debt obligations to a third party, to pay her the amount capable of repaying all the debts.

In this case, a kind of security is transferred to the buyer, which serves as insurance for the loan provided. After the default occurs, the paper is transferred to the issuer, who provides him with money in the amount of the debt with interest.

Now let's take a closer look at the advantages, insurance and disadvantages of this type of swap, which traders most often use to make money on forex.

Advantages

Using CDS has one very important advantage, which is that there is no need to create a reserve. The buyer of a financial asset has the risk that the issuer of this asset will go bankrupt, and therefore the purchase of CDS at a certain cost will compensate for the losses. The buyer gives the issuer debt securities, and he gives him the amount of the loan.

Such hedging is used by many market participants. When the borrower defaults, the bank creates a reserve. By insuring their risks, the buyer will not need to raise funds from circulation.

Insurance

By using this type of swap, it is possible to obtain insurance from a variety of types of transactions. And it does not matter if the market participant uses it for trading. binary options or other tools. Today there is an opportunity to insure the most different types of contracts. An example would be insurance in the event of a lack of supply under the contract.

The buyer sends the supplier of equipment as an advance 80 percent of its value. It under the contract should be unloaded at the destination in two months. However, this period is not small and there is a risk that the buyer will simply lose his money. In such a situation, usually the output is the use of CDS.

CDS in financial crisis

Swap on Forex This is one of the most sought after tools. And one of the most used ones is the CDS swap. It is relatively new in the market, and this is attracting more and more attention from speculators who hoped to take advantage of making profit without making unnecessary investments. However, the situation began to change dramatically during the crisis time of 2008.

In America at this time, banks that entered into an agreement to fulfill their debt obligations began to suffer losses and went bankrupt. The government decided to save the largest enterprises. In particular, the insurance company AIG was rescued by public funds. At this time, 400 billions of swaps were issued. And this company alone needed to transfer over 22 billions of dollars. The government tried to save the largest JP Morgan bank by cooperating with corporations that had powerful bought up financial instruments in their hands.

Swap trades

Many novice traders consider swap contracts to be a common instrument, with the use of which there is a high probability of receiving losses. However, many look at it from the point of view of profit. Each modern currency broker has its own swaps table. And traders themselves can decide whether to use this type of instrument or not. They have the opportunity for each selected currency to find a suitable swap.

All operations on swaps in the Forex market are made by complying with certain conditions, which are called Spot. For each currency pair at the terminals there are volumes of swaps for which you can enter into transactions.

Market overview on MT4

The MT4 platform shows swap volumes for each currency pair. To find out the long and short size of the swap, open the "Market Watch" - then right-click on the currency instrument of interest and "Specification":

MT4 Swap

After you click "Specification", a window will open with detailed information regarding the contract of the selected currency pair. As you can see in the screenshot, you have a floating spread, contract size and more. A frame highlighted that interests you at the moment, and this is the "Swap long positions" and "Swap short positions."

  1. Long positions (long) - purchase positions
  2. Short positions (short) - selling positions

View swap in the terminal

In contracts, swap posts may look like this:

Tool (pair) Swap long Swap short
EURUSD -0.17 -0.19
GBRUSD -0.15 -0.37
AUDUSD 0.53 -1.03

Or swap columns may look like this:

Tool (pair) Swap purchase Swap sale
EURUSD -0.340 pips -0.183 pips
GBRUSD -0.215 pips -0.415 pips
AUDUSD 0.6 pips -1.099 pips

Swap in simple terms

I will explain on a simple example that such a swap. For example, one person goes to Europe, and the second to Russia. The first person has rubles, and the second has the euro. In order to provide themselves financially for the trip, people agreed to exchange two currencies between themselves. Trips took place. The money was not spent. People meet again and produce a reverse exchange - one person returns the ruble to another, and the second returns the euro. If during this time currency rates have changed or someone has spent part of the money, then one of the two people won, and someone lost in the financial sense, i.e. Got a benefit or disadvantage. This technique is often used in the professional financial market.

A swap is one of the most important instruments on the Forex market that any trader must operate with. In order to make money in the foreign exchange market, you need not only to know the rules, features and decide on the choice of strategy, but also to choose the type of swap that the broker offers. After all, it is an integral element of trade.

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Add your comment
Comments (3) (Comments)
MasterIod (01.11.2017 to 12: 19)
Only on positive swaps) nerves are more expensive!
Sasha (25.08.2017 to 21: 30)
Now I actively study Forex, and I try to do something a little bit. It is quite difficult to understand and understand everything, but it is real! I think Swap is quite risky, especially for people who are just starting, you need to get to know about it better.
Mika (16.07.2017 to 16: 42)
In general, a lot of newbies went bankrupt at Swap, given the misinterpretation of the types offered by the broker.
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