As the fields of finances and economics get more and more popular, the Internet offers more and more information on the various tools used to trade on the Derivatives Market. However, there are some tools and derivatives that are very important and should be explained in such a way that every trader could understand them. Basically, these derivatives include interest rate swaps, vanilla swaps and currency swapping and can be found in the London clear houses.
Interest rate swaps vary as they can be done by more than two participants and can be customised to meet the needs of all the sides. Basically, in interest rate swaps one cash flow set is exchanged for another and they both are based on the Swap Rates. As interest rate swaps are used by companies that need to use the interest rate structures available to other companies, their main benefit is the lesser combined costs, which is an advantage for all the participants.
In comparison, the plain vanilla swaps are far simpler. They are again swaps offered by London clear houses, but only two companies can take part in the deal. There are different types of plain vanilla swaps, including the Interest Rate Swap, commodity swaps and foreign currency swaps. If we take the plain vanilla interest rate swaps, we have two companies exchanging a fixed and a floating interest rate on a principal amount of a single currency over a set period of time. The purpose – reducing the interest rate risk. It is that simple!
Last but not least, currency swapping is easy to understand because it is really logical. If there are two companies located in two different countries, and each one wants to trade in the other’s country, they take a loan from financial institutions in their native countries and send the money to the other company. Thus each company receives money in the currency of the other company but pays lower interest rate coming from its rights to get cheaper loans in its country.
To cut a long story short, interest rate swaps, plain vanilla swaps, Credit Default Swaps and currency swapping are three really important financial derivatives. Now that you know what they are all about, if you think they can help you develop your business, just visit some of the London clear houses and find out more about them!