What Is an Inflation Swap?

Interest rate swaps are based on the nominal amount of a principal exchange between the two parties to exchange interest rate payments of different natures, that is, the interest exchange of different interest rates for the same currency. Through this swap behavior, one side of the transaction can exchange a fixed-rate asset or liability for a floating-rate asset or liability, while the other side achieves the opposite result. The main purpose of interest rate swaps is to reduce the cost of capital (ie interest) of both parties and enable them to obtain their own interest payment methods (fixed or floating). ^[1]

Interest rate swap

Interest Rate Swap

The Commercial Press's "English-Chinese Dictionary of Securities Investment" explains: interest rate swap. Also made:

Interest rate swaps and currency swaps

Interest rate swaps occur because there are two prerequisites:

There is a difference in quality coding

There are opposite funding intentions

LIBOR (London Interbank Offered Rate)

The risk is small. Because interest rate swaps are not involved

The interest rate swap is a contractually agreed amount of money between the two parties within a certain period of time.

1.Quotation of interest rate swap transaction price

In a standardized swap market,

(1) Reduce

Interest rate swaps

In the environment of benchmark interest rate and market-based interest rate split supervision, the possibility of interest rate swap transactions may itself occur. For example, in the management of bank assets and liabilities, there will be a certain duration gap in assets and liabilities, and each institution will maintain a certain risk exposure. Duration), when the market interest rate rises, the net market value of assets and liabilities will fall more and market risks will increase; Bank B, on the other hand, maintains a large duration gap of liabilities. In order to effectively control the risk exposure, the two banks used interest rate swap tools to "complementary gaps". Within a certain period of time, Bank A had more floating interest rate liabilities. However, by paying a fixed interest rate to Bank B, the floating interest rate liabilities were converted into Fixed-rate liabilities, thereby increasing the duration of the liability. Similarly, Bank B has more fixed-rate liabilities. By paying floating interest to Bank A, it converts fixed-rate liabilities into floating-rate liabilities, thereby reducing the duration of liabilities. In this way, the two banks can effectively reduce the duration gap of assets and liabilities through interest rate swaps, thereby reducing risk exposure and operating pressure in the environment of interest rate changes.

(I) Interest rate swaps help commercial banks improve asset and liability management

When managing asset and liability positions, money markets and capital markets can be used for management, and interest rate swaps are even more advantageous. Because the interest rate swap is based on nominal principal, that is, it can directly perform off-balance sheet restructuring of the amount of assets and liabilities and the term structure of its interest rate without real capital movement. In the interest rate swap of a liability, paying a fixed interest rate is equivalent to borrowing a nominal fixed rate debt, which will extend the term of the debt interest rate; paying a floating interest rate is equivalent to borrowing a nominal floating rate debt, which will shorten the interest rate term of the liability. In the asset interest rate swap, receiving a fixed interest rate is equivalent to possessing a nominal fixed interest rate claim, which will prolong the interest rate term of the asset, while receiving a floating interest rate is equivalent to possessing a nominal floating interest rate claim, which will shorten the asset interest rate term. To this end, actively expanding the use of interest rate swap tools is conducive to improving the effectiveness of interest rate risk management and improving economic efficiency.

(II) Interest rate swaps are conducive to the advancement of interest rate marketization

Since the formulation of interest rates for a long time depends entirely on the People's Bank of China, the interest rates on deposits and loans in local currency are set by the People's Bank of China, and the interest rates on deposits and loans in foreign currencies are entrusted by the People's Bank of China to set the rates. Other banks have adopted a "hold-and-hold" method to fluctuate slightly above and below the benchmark interest rate. The complete fluctuation of interest rates will have an unpredictable impact on the business operations of commercial banks. Interest rate liberalization will intensify competition among peers, impact traditional businesses, reduce deposit and loan spreads, increase exposure to various interest rate risks, and reduce net interest income.

The marketization of interest rates will make interest rate risk management the key and focus of competition among commercial banks. The interest rate swap is an important means for commercial banks to avoid interest rate risk and achieve asset preservation and appreciation. If the interest rate is expected to rise, the transaction party of floating interest rate liabilities can avoid the increase in financing costs caused by rising interest rates. The same amount of fixed interest rate is exchanged with the trader, and the floating interest rate received is offset by the original debt, and only the fixed interest rate is paid, thereby avoiding the risk of increasing financing costs caused by rising interest rates. Similarly, for borrowers with fixed interest rates, if interest rates are expected to fall, in order to enjoy the benefits of reduced financing costs brought by falling interest rates, fixed rates can also be converted into floating rates.

(3) Interest rate swaps are conducive to promoting commercial banks' participation in international competition

The trend of economic globalization and financial integration will inevitably make China's economy and finance increasingly international. China s dependence on foreign trade has continued to increase and has now exceeded 80%; financial openness has continued to increase. In 1996, it realized convertibility under the RMB current account. In 2005, it implemented a floating exchange rate based on market supply and demand, with reference to a package of currencies system. Foreign financial institutions have entered the Chinese market in large numbers, and some have been allowed to operate RMB business. The scale of China's use of foreign investment has consistently ranked at the forefront of the world. With the continuous expansion of China's external debt, the risk of foreign debt interest rates has increased dramatically. Hanson, chairman of the National Futures Association of the United States, once pointed out: "The losses caused by China's non-hedging of its foreign exchange loans have far exceeded the losses China has suffered in futures trading."

(4) Conducive to preventing financial risks and maintaining financial stability

At present, the size of China's financial market continues to expand, and the number of trading products and instruments continues to increase. As of the end of 2007, the stock of China's bond market reached 12.3 trillion yuan, an increase of 33.2% over 2006; the total bond transaction volume reached 62.6 trillion yuan, an increase of 63% over 2006; the cumulative bond issuance amounted to 41 80.503 billion yuan, an increase of 40% over 2006. At the same time, China's commercial banks and policy banks have accumulated huge interest rate risks that need to be hedged. Based on the average holding period of fixed-rate bonds of 4.4 years, for every 1% increase in interest rates, the market value of commercial banks' fixed-rate bond investments will lose 120 billion yuan. As a strong need to avoid bond interest rate risk, interest rate swaps are the most effective tool to achieve this goal.