Question about swaps... | Forex Factory

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Question about swaps...

  • #1
  • First Post: Oct 3, 2007 6:28pm Oct 3, 2007 6:28pm
I am not a newbie at trading, but i would say i am very new to technical trading. I have been mostly a "fundie"(dont hate lol) but trying to work on technical now. Anyways my question is about swaps. I guess i dont understand why a trading holding a pair has to pay swap, or what exactly is the swap? Is this a charge by the broker, the LP, or the bank itself? I would just like to know what exactly it is and why we have to pay it.

Thanks for your help in advance
--d3

PS: i am not in any way complaining about swaps , just curious about them
  • #2
  • Oct 4, 2007 12:03am Oct 4, 2007 12:03am
Long story short, it's charged by your counterparty. In a bucketshop that is your broker, on the interbank it's the guy on the other side of your trade.

Basically it exists because money has a time value associated with it. Its easier to think of in terms of a futures contract. If you buy a futures contract for oil (as an example) you are giving the seller of that oil your cash today for oil you'll receive at contract expiration. Conceptually, the oil dealer could take that money and invest it in a riskless asset that pays interest. He gets to earn interest on your money while you earn nothing. Your not going to do that, so he has to offer you the riskless interest rate on your funds minus his holding costs for the oil. I think it's easier to conceptualize with oil because its a hard product, but money itself operates on the same principles.

That probably isn't the best explination, but should get you pretty close to understanding.
  • #3
  • Oct 4, 2007 5:40am Oct 4, 2007 5:40am
Yes, It is a charge/credit by your counter party. The amount paid or earned is directly related to the difference in interest rates in a currency pair. For example.. A long USD/JPY position would earn interest because the fed has rates at 4.75% and Japan 0.5%. In theory if you held a long position a year, you would earn 4.25. In practice brokers take a slice of this. Some brokers pay better swap rates than others. It may be worth looking into brokers that pay good swaps if you are holding positions long term as it can make quite a difference..
  • #4
  • Oct 4, 2007 9:31am Oct 4, 2007 9:31am
Quoting Darkstar
Long story short, it's charged by your counterparty. In a bucketshop that is your broker, on the interbank it's the guy on the other side of your trade.

Basically it exists because money has a time value associated with it. Its easier to think of in terms of a futures contract. If you buy a futures contract for oil (as an example) you are giving the seller of that oil your cash today for oil you'll receive at contract expiration. Conceptually, the oil dealer could take that money and invest it in a riskless asset that pays interest. He gets to earn interest on your money while you earn nothing. Your not going to do that, so he has to offer you the riskless interest rate on your funds minus his holding costs for the oil. I think it's easier to conceptualize with oil because its a hard product, but money itself operates on the same principles.

That probably isn't the best explination, but should get you pretty close to understanding.

So in a bucketshop, the swap i pay goes in my brokers pocket if he is on the other side of my trade (as most bucket shops do that)? As for an institutional account, the guy on the other side is getting my swap? I hope my question make sense... Not only am i trying to understand the concept of swap, but also understand where it ends up...
Thanks for the input in advance.

--d3
  • #5
  • Oct 4, 2007 9:49am Oct 4, 2007 9:49am
Quoting d3m0nz3y3
So in a bucketshop, the swap i pay goes in my brokers pocket if he is on the other side of my trade (as most bucket shops do that)? As for an institutional account, the guy on the other side is getting my swap? I hope my question make sense... Not only am i trying to understand the concept of swap, but also understand where it ends up...
Thanks for the input in advance.

--d3
A swap, or rollover, is the interest you pay or recieve as a result of the difference in interest rates to which you are exposed. While forex seems paperless and involves a simple, innocent click of the mouse, you are playing with real money and in most cases, lots of it. A standard contract involves you borrowing $100,000 of real money. You have to pay interest on the money you borrow and you recieve a portion of the interest that you are owed on the remaining currency. The type of broker you use don't have a damn thing to do with your swap and shouldn't be allowed to confuse your question.

Here's the forumla:

(contract notional value x (base currency interest rate - quote currency interest rate) / (365 days per year)) x current base currency rate

Nowhere in that equation does it say anything about the type of broker you have. Hope this helps.
  • #6
  • Oct 4, 2007 12:09pm Oct 4, 2007 12:09pm
This made alot clear, i was completely missing the fact that when we trade its leveraged... borrowing that money and paying swap on that makes it clear. I will try to read more into this and try to learn, hopefully if i have more questions, you guys can help like always :>...

Thanks
--d3
  • #7
  • Oct 4, 2007 9:19pm Oct 4, 2007 9:19pm
Quoting d3m0nz3y3
This made alot clear, i was completely missing the fact that when we trade its leveraged... borrowing that money and paying swap on that makes it clear. I will try to read more into this and try to learn, hopefully if i have more questions, you guys can help like always :>...

Thanks
--d3
This may make sense, but it isn't necessarily true. Your not really borrowing the money, your committing to transact it. Subtle yet profound difference.

Retail makes it hard to grasp because there are no real contracts. On the interbank each contract you buy has a scheduled delivery date between 1 and 3 days in the future. If you make a trade on the spot market and hold it until delivery, there is no swap even though you "borrowed" the money for up to 3 days. It's only when your position gets rolled over that the swap comes into play. So no roll, no swap.

I wish I could give you a better explination for why it is required, but the oil thing was the best I coudl come up with.
  • #8
  • Oct 4, 2007 9:25pm Oct 4, 2007 9:25pm
Quoting d3m0nz3y3
So in a bucketshop, the swap i pay goes in my brokers pocket if he is on the other side of my trade (as most bucket shops do that)? As for an institutional account, the guy on the other side is getting my swap? I hope my question make sense... Not only am i trying to understand the concept of swap, but also understand where it ends up...
Thanks for the input in advance.

--d3
Exactly. Just don't forget that a true bucket shop is a rare thing. Most of the retail shops are hedging and offsetting orders so in general they only get a small slice of your interest payment. Most of the money is getting paid out to other retail traders who are opposite your position and the upstream liquidity providers the retail broker is using to hedge.

Don't want you thinking its just some scam concocted by your broker to take more of your money...
  • #9
  • Oct 4, 2007 9:28pm Oct 4, 2007 9:28pm
Quoting philmcgrew

Nowhere in that equation does it say anything about the type of broker you have. Hope this helps.
I think there was some confusion here. It is true that the calculation doesn't differ - but some brokers won't charge swap at all, some if you can somehow (I don't know how) prove you are Islamic, as swap violates the religious belief of earning interest on loans.

I've heard there are brokers who will charge negative swap only.. but I have no information to backup or validate this claim.
To be one with the market, you must first be one with yourself.
  • #10
  • Last Post: Oct 4, 2007 10:41pm Oct 4, 2007 10:41pm
Quoting Unforeseen
I think there was some confusion here. It is true that the calculation doesn't differ - but some brokers won't charge swap at all, some if you can somehow (I don't know how) prove you are Islamic, as swap violates the religious belief of earning interest on loans.

I've heard there are brokers who will charge negative swap only.. but I have no information to backup or validate this claim.
True. Every broker decides how much to credit you. I don't think they have any problem taking money when it's owed to them. And, at least one broker doesn't do swaps at all.
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