Swap | Practical Law

Swap | Practical Law

Swap

Swap

Practical Law Glossary Item 0-382-3858 (Approx. 6 pages)

Glossary

Swap

A derivatives contract that is entered into bilaterally between two parties (known as counterparties) that agree to exchange specified cash flows based on:
  • The value of an equity security or index of securities.
  • The value of a commodity or index of commodities.
  • Fluctuations in interest rates.
  • Relative currency values.
  • Certain other asset values.
The most common types of swaps include:
Swaps are often entered into for the purpose of hedging against risk, such as the risk that an obligor on a debt obligation will be unable to make a payment (CDS), or that the value of an asset referenced in the contract (referred to as the "underlying" asset), such as a commodity or an equity security or index of commodities or securities, will rise or decline in value. However, swaps are often used as speculative investments, as well, as there is no requirement to hold the underlying asset.
Swaps were traditionally entered into by parties bilaterally, over the counter (OTC). However, most swaps that were historically traded OTC are now required to be cleared through clearinghouses and traded on exchanges called swap execution facilities (SEFs) under Title VII of the Dodd-Frank Act (see Practice Note, US Derivatives Regulation: Swap Clearing and Trade Execution).