A currency swap involves exchanging interest payments on loans denominated in different currencies. Party A borrows in one currency like INR and pays interest in another currency like USD, while Party B does the opposite. Currency risk can arise if a company's cash flows don't match the currency of its swap payments. Currency swaps are used to hedge currency risk and reduce funding costs. An interest rate swap exchanges a fixed rate loan for a floating rate loan. The interest payments are swapped periodically to allow parties to borrow at lower rates. Interest rate swaps are used for hedging, reducing costs, and speculating on interest rate movements.

3. Currency Swap
 A currency swap is one in which one party
agrees to exchange payments based on one
currency with another party based on another
currency
 Party A borrows in one currency, e.g. INR,
and party B borrows in another currency, e.g.
USD: the loan is swapped so that party A
pays the interest in USD, and party B pays the
interest in INR
 In a currency swap, cash flows are exchanged
in two different currencies
 Notional principals are the same based on
current exchange rate, which are also
exchanged

4. Currency Risk in Currency Swap
 As periodic coupon and final exchange
of notional principal are in different
currencies, currency risk can arise
from this
 If a company has cash inflow in the
swap currency, the periodic payments
can be paid without converting local
currency—currency risk is thus
avoided
 If a company has no cash inflow in the
swap currency, currency risk exists

5. The Uses of a Currency Swap
1. To hedge currency risk; and
2. To reduce funding costs

6. Interest Rate Swap
 A fixed interest rate loan is exchanged for
a floating interest rate loan.
 Party A will borrow in the market at a fixed
rate; Party B will borrow in the market at a
floating rate; interest payments will be
swapped at every reset period of the
floating-rate loan.
 The rate at which party A will pay interest
to party B and vice versa are known as
swap rates, which are determined in the
market.
 Principal will not be exchanged, and
interest amount will be calculated on
notional principal.

7. Uses of the Interest Rate Swap
• Hedging interest rate
• Reduce funding costs
• Manage the duration gap by banks
• Speculating on interest rate
movements

8. Interest Rate Swaps: An Example
 A can borrow at either LIBOR + 70 points,
or at a fixed rate of 9%
 B can borrow at either LIBOR + 20 points,
or at a fixed rate of 8.2%
 Both can have a lower cost of funding if A
borrows at LIBOR + 70, and B borrows at
a fixed rate of 8.2%, and they swap
 Swap rates are fixed at 8.2%, and the
floating rate at LIBOR + 5
 Net cost for A will be 8.85% fixed, and for
B will be LIBOR + 5 points
 Both save an interest rate of 0.15%

9. Interest Rate Futures in India
 IRF will expand the scope of the financial
markets & exchange traded IRF are more
transparent in terms of price discovery
,margining ,risk management &
settlement.
 IRF will enable corporate to hedge
interest rate risk.
 Settlement date is the last day of the
month.
 In India Future Contract available 10-year
7% coupon (compounded semi-annually)
GOI bonds