Currency swaps in Forex trading?
What is currency swaps in forex trading?
Currency swaps is the practice of exchanging fixed amounts of one currency for fixed amounts of another currency at an agreed rate. The fixed amounts are known as legs, and the approved rates are known as spreads. The swap is executed simultaneously with each buy or sell trade, so it's not what you would call a confirmed swap, more like additional trading costs. The idea behind this is to exchange fixed amounts of one currency for fixed amounts of another at an agreed rate in order to speculate on the differences between interest rates or anticipated fluctuations in exchange rates.
Quoted swap prices are typically used by banks, corporations, financial institutions that have sizable forex transactions and need to hedge against major changes in currencies they are trading.
The reason for the name is that when you buy one currency and sell another at the same time, in most cases, your return is not what you thought it would be due to fluctuations in exchange rates. This is because you are swapping two currencies against each other, hoping to get a better return than just buying or selling one alone.
How's it different from Margin trading?
Margin trading is the practice of borrowing funds in order to speculate on the forex market. The primary difference between margin trading and swapping is that you borrow funds when you swap currencies, but not with margin trading. This is because you are selling one currency against another, so you must use your funds to do so.
What is the example of Forex Swaps?
For example, you decide to purchase $10,000 worth of Japanese yen against $10,000 worth of Indian rupee. Let's say the current rate for this transaction is 1.1647 (it can be quoted in either direction depending on your position).
You agree on a swap price with your broker, which in this case is a 0.9000/1.1647 swap, meaning if you buy the yen at 1.1647 and simultaneously sell rupees at 0.9000, you make a profit of $743 before any fees or commissions are deducted from your account (on a standard lot it would be around 30 bucks). From this, you can see that when you sell the yen against the rupee, the return is far less than you would get buying or selling just one currency.
We hope this article will help you find out the basic answer of currency swaps in forex trading; keep an eye on the website to get more articles about currency swaps.