Chapter 20 - Interest rate swaps and currency swaps. In this chapter, students will be able to understand how interest rate and currency swaps operate, outline the various risks associated with swaps. | Chapter 20 Interest Rate Swaps and Currency swaps Websites: Learning Objectives Understand how interest rate and currency swaps operate Outline the various risks associated with swaps Chapter Organisation Introduction Interest Rate Swaps Currency Swaps Credit and Settlements Risks Associated with Swaps Summary Introduction Turnover in the Australian swap market in 2000/01 was trillion Swaps may be used to hedge interest risk and exchange rate risk Swaps also enable investors and borrowers to obtain a lower cost of funds or a higher yield Chapter Organisation Introduction Interest Rate Swaps Currency Swaps Credit and Settlements Risks Associated with Swaps Summary Interest Rate Swaps Organised between borrowing parties The two parties swap their interest payment obligations No transfer of the principal amount Both parties benefit from the swap Example: Table outlines the current cost of funds for two borrowers Firm A has a credit advantage in both markets Interest Rate Swaps (cont.) Interest Rate Swaps (cont.) Strategy Firm A borrows in fixed market, where it has comparative advantage (. 12%) Firm B borrows in other market (. floating) at BBSW + . One possible swap arrangement B pays A a fixed rate of A pays B a floating rate of BBSW + Figure illustrates the flow of funds and benefits of this interest rate swap Interest Rate Swaps (cont.) Interest Rate Swaps (cont.) The majority of swaps require the involvement of an intermediary . merchant bank, that often seeks an offsetting ‘matched swap’ . It enters into opposite swap transactions to offset its net swap exposure, making a profit through a spread between the rates Figures and in the textbook illustrate an intermediated interest rate swap Interest Rate Swaps (cont.) Interest Rate Swaps (cont.) Rationale for the existence of . | Chapter 20 Interest Rate Swaps and Currency swaps Websites: Learning Objectives Understand how interest rate and currency swaps operate Outline the various risks associated with swaps Chapter Organisation Introduction Interest Rate Swaps Currency Swaps Credit and Settlements Risks Associated with Swaps Summary Introduction Turnover in the Australian swap market in 2000/01 was trillion Swaps may be used to hedge interest risk and exchange rate risk Swaps also enable investors and borrowers to obtain a lower cost of funds or a higher yield Chapter Organisation Introduction Interest Rate Swaps Currency Swaps Credit and Settlements Risks Associated with Swaps Summary Interest Rate Swaps Organised between borrowing parties The two parties swap their interest payment obligations No transfer of the principal amount Both parties benefit from the swap Example: Table outlines the .
