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Interest Rate Swaps

Definition

An interest rate swap refers to an agreement between two counterparties in which one stream of future interest payments is exchanged for another based on a specified principal amount. Interest rate swaps usually involve the exchange of a fixed interest rate for a floating rate, or vice versa. The counterparties do not exchange the principal, the principal is only the basis for the calculation.

Functions

In order to hedge against possible loss rises from interest rate volatility or to reduce borrowing costs and securing the marginal profits, the company can convert floating rate debt into fixed-rate debt, or fixed-rate debt into floating-rate debt.

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