Cross currency swap

In finance, a currency swap (more typically termed a cross-currency swap (XCS)) is an interest rate derivative (IRD). In particular it is a linear IRD and one of the most liquid, benchmark products spanning multiple currencies simultaneously. It has pricing associations with interest rate swaps (IRSs), foreign exchange (FX) rates, and FX swaps (FXSs).

A cross-currency swap's (XCS's) effective description is a derivative contract, agreed between two counterparties, which specifies the nature of an exchange of payments benchmarked against two interest rate indexes denominated in two different currencies. It also specifies an initial exchange of notional currency in each different currency and the terms of that repayment of notional currency over the life of the swap.

The most common XCS, and that traded in interbank markets, is a mark-to-market (MTM) XCS, whereby notional exchanges are regularly made throughout the life of the swap according to FX rate fluctuations. This is done to maintain a swap whose MTM value remains neutral and does not become either a large asset or liability (due to FX rate fluctuations) throughout its life.

The more unconventional, but simpler to define, non-MTM XCS includes an upfront notional exchange of currencies with a re-exchange of that same notional at maturity of the XCS.

The floating index referenced in each currency is commonly the 3-month tenor interbank offered rate (IBOR) in the appropriate currency, for example LIBOR in USD, GBP, EURIBOR in EUR or STIBOR in SEK.

Each series of payments (either denominated in the first currency or the second) is termed a 'leg', so a typical XCS has two legs, composed separately of interest payments and notional exchanges. To completely determine any XCS a number of parameters must be specified for each leg; the notional principal amount (or varying notional schedule including exchanges), the start and end dates and date scheduling, the chosen floating interest rate indexes and tenors, and day count conventions for interest calculations.

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