What Are Swaps003

8/9/2019 What Are Swaps003

1/27

SWAPS


2/27


3/27


4/27

Reason for the growth of swap market

Interest rate swap create a link between distinct markets

with differential access to fund sources creating

globalization of finance markets.

Interest rate swaps provide a way to reduce the totalfunding cost for debt.

Interest rate swap is flexible and convenient way for

companies to manage balance sheet and reduce the

mismatch between the maturities of asses and liabilities. Swaps are desirable because they minimize the costs of

regulations and tax loans.


5/27

Size and growth of the market

(Interest swap)Year Total new business Total outstanding

1987 3,87,856 6,82,888

1988 5,68,113 1,010,2031989 8,33,535 1,539,320

1990 1,229,241 2,311,544

1991 1,621,779 3,065,065

1992 2,822,635 6,177,352


6/27

Size and growth of the market

(currency swaps)Year Total new business Total outstanding

1987 85,823 182,807

1988 122,661 316,8211989 169,631 434,849

1990 212,763 577,535

1991 328,394 807,167

1992 301,858 860,387


7/27

Basic types of swaps

Interest rate swaps

Currency swaps


8/27

Interest Rate Swaps

Contractual agreement

Between two counterparties

Each agrees to make periodic payment to theother for an agreed period of time

Based upon a notional amount of principal.

Principal amount in a single currency.

To Manage the fluctuations in interest rates.


9/27

Plain Vanilla Interest Rate Swaps

Exchange of a fixed rate loan to a floating

rate loan or vice-versa.

Life of the swap can range from 2 years toover 15 years.

The reason for this exchange is to take

benefit from comparative advantage.


10/27

Key features of this swap

The notional principal

The fixed rate

Floating rate


11/27

Types of interest rate swap

Basis swaps

Forward swaps

Putable swaps


12/27

Cont..

Deferred rate swaps

Callable swaps

Extendible swaps


13/27

The key advantage of

interest rate swap


14/27

Other types of interest rate

swap

Liability based interest rate swap

Asset based interest rate swap


15/27

Liability based interest rate

swaps

Floating rate liabilities


16/27

Asset based interest rate

swaps

Floating rate asset


17/27

Practical examples ofinterest

rate swaps

1. IBM and NALCO

IBM NALCO INTEREST

DIFFRENTIAL

FLOATING

RATE FIXEDRATE

LIBOR + 3/8 %

11%

LIBOR +

11/8% 13%(IF

AVAILABLE)

% 1%


18/27

2. Interest rate cap (ceiling)

Interest paid

Air India

No of days in

period

Interest rate (%) Interest rate

differential to be

paid

Dollar amount

payable by

Citibank to Air

India

01.04.89-30.09.89

30.09.89-31.03.90

31.03.90-30.09.90

30.09.90-31.03.91

31.03.91-30.09.91

30.09.91-31.03.92

183

183

183

183

183

183

08.50

09.00

10.50

11.75

10.25

09.75

_

_

0.50

1.75

0.25

_

_

_

1,25,342

4,38,873

62,675

_


19/27

3. Floating-floating swaps


20/27

Interest rate swap- The

Indian scenario


21/27

The examples from Indian

market

SBI-HUDCO enter into Yen-swap deal

Nalco contains loss on yen-swap deal


22/27

Currency

swaps


23/27

Various reasons whya company

use currencyswaps

Currency swaps may be used to hedge against

foreign exchange risk.

It increases the total amount that a firm can borrow.

A firm may be able to use their surplus funds more

effectively in blocked currencies.

Swaps may be used as a way of circumventing

exchange control regulation.

Currency swap can be used as a mean of exploiting

arbitrage opportunities.


24/27

Various forms ofcurrencyswaps

Cross-currency fixed-to-fixed swaps

Cross-currency floating-to-fixed swaps

Cross-currency floating-to-floating swaps

Basis swaps

Amortizing swaps


25/27

Cont.

Roller-coaster swaps

Zero-coupon swaps

Commodity swaps


26/27

Limitation of swap market

The swap deal cannot be terminated without the

agreement of the parties involved in the

transaction.

Swaps are not easily tradable as a result of very

slow development of standardized documentation.

It is difficult to identify a counter-party to take the

opposite side of the transaction.


27/27

Thank you

What Are Swaps003

Documents