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Chapter 5, Part II. Intermediate Checkpoint. Page 5

Discussion in 'Complete Trading Education- Forex Military School' started by Sive Morten, Dec 14, 2013.

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  1. Sive Morten

    Sive Morten Special Consultant to the FPA

    Aug 28, 2009
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    So, here is what “Swap” means:

    Swap or Rollover value.

    Here we will talk not about Swap trades and Swap markets, but about swap value that is applicable to spot FOREX. Don’t confuse these two absolutely different terms!

    Sometimes, this swap also called as Rollover value. Swap can appear only when you rollover your position, that you’ve previously opened through trading day close time. That’s why it is called Rollover. For example, suppose that your FX broker uses 00:00 time as a daily closing time (or 5:00 PM EST that is common). If, for example you have opened a position during today’s trading session and decided not to close it and hold at least till the next day – in other words rolling it over to the next day through close time. Now your position has not been closed before 00:00 time. In this case you will get a Swap value that could be negative or positive. The value of the swap (as a rule, but not always) will depend from overnight interest rates on currencies that you have traded as a pair. Let’s look at our table with EUR/USD. This swap depends on EUR rate and USD rate.

    Pipruit: But why does swap appears at all?​

    Commander in Pips: Swap appears, because the major part of participants in the forex market do not intend to take a real delivery of foreign currency. When, for example, you Buy 10 000 EUR/USD at 1.35 – you do not have 13 500 USD to deliver. So, it turns out that your counterparty on this trade has to credit you with this amount of USD until you will close your trade, and you have to pay interest due to this credit. But the counterparty, in turn, does not have 10 000 EUR, or even if he/she does, he/she does not intend to deliver it also. This turns out that now you lend him with 10 000 EUR and he/she, in turn, has to pay interest due to this credit. As you understand, interest rates on USD and on EUR are different, and amount of EUR and USD is different also (10 000 EUR vs. 13 500USD), and it leads to the fact that those who have to pay more will have a negative swap, and the counterparty will have the same positive swap. But the general rule here as follows:

    If you Buy (i.e. Lend to counterparty) currency with higher interest rate and Sell (i.e. borrow from counterparty) currency with lower interest rate, then the interest rate differential will be positive and you will get positive swap.

    And vice versa –If you Buy (i.e. Lend to counterparty) currency with lower interest rate and Sell (i.e. borrow from counterparty) currency with higher interest rate, then the interest rate differential will be negative and you will get negative swap.

    Pipruit: And what kind of interest rates usually used in swap calculation?​

    Commander in Pips: Hah, this is the most tricky moment son. Well, most part of brokers use overnight Central Banks rates. For USD this is Fed Fund rate, for EUR – ECB overnight rate, etc. In other words, the rate was set by a National Central Bank. Also the broker could be using such rates as overnight LIBOR, EURIBOR and some others. Here are some benchmark interest rates – set by National Central Banks (As of January 2011):

    CountryInterest Rate
    United States0.25%
    Euro zone1.00%
    United Kingdom0.50%
    New Zealand3.00%
    But, some FX Brokers, especially those who offer to trade on micro accounts can apply fixed swap value for position rollover. And it could not depend on whether it Long or Short, and whether it EUR/JPY or AUD/GBP… Just fixed swap value – usually it will be negative for any rollover of any position and, in fact, this is a hidden commission for position rollover. Other brokers tilt the balance. If positive swap on one lot of a pair is $0.10, then negative swap could be $0.15 or much more.

    Pipruit: What then should I do?​

    Commander in Pips: The answer is simple – you should investigate a Brokers swap procedure with careful scrutiny. Ask them about rollover procedure, interest rates that are used for swap calculation etc. The second way - is just do not rollover your positions, close them during the current trading session. But don’t be afraid too much. In fact, the value of swap is usually very small relatively to profit/loss on your position. If you do not intend to hold it 10 years of course.

    Later we will return to this topic, because you can use the rate differential in your favor.

    P.S. This lesson was written by Sive Morten, who has been working for a large European Bank since April of 2000, and is currently a supervisor of the bank's risk assessment department. Sive's knowledge of forex market and banking industry is vast and quite complete. If you have any specific questions about forex, banking industry, or any other financial instruments, please post them on the next page and Sive should answer soon.

    Note: FPA ranks are earned in the battles against scam, not in the classroom.
    Paul Destro, fajrss, Nachoga and 2 others like this.
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