Check out my other articles regarding financial derivatives.

Interest rate swaps or Vanilla swaps are non-standardized, un-regulated, over the counter deal between 2 entities. Let’s say a corporation C has taken a loan from bank B with a floating interest rate (which is the normal case). These interest rates are based on the London Inter-Bank Offered Rate (LIBOR) which keeps varying. So, there is a factor of volatility in terms of money C has to pay to bank B in the form of interest. What C can do is, it can buy fixed interest rate swap with financial institution FI with the same notional capital (loan capital with bank B). What it means is that?, C now will pay a fixed interest rate decided in the beginning to FI, and FI will pay C the variable interest rate money (Again based on LIBOR). So essentially what it means is that C will pay a fixed amount to FI and FI will cover C’s volatility risk from variable interest rates of loan from bank B. That way C will know exactly how much money it will have to pay in total.

In Interest rate swaps, both could be the winners.

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Categories: Derivatives

Tushar

Hi, I'm Tushar, an aspiring blogger with an obsession with financial markets. This blog is dedicated to helping people invest in the market. For your article and blog needs, check out my Fiverr gig, https://www.fiverr.com/share/3eapZA Let's connect...

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