Interest Rate, Currency and Commodity Derivatives
As mentioned before, derivatives are one of the most important financial innovations of recent decades. Derivative transactions include an array of different types of futures, forwards, options and swaps. However, for purposes of this book we exclusively refer to the derivatives that are most commonly used in project financing, i.e., interest rate swaps, currency swaps and commodity swaps. Interest rate swaps are mainly used to convert a floating-rate obligation into a fixed-rate one, or vice versa. Specifically, interest rate swaps are designed to hedge against interest rate volatility, especially for borrowers who prefer to convert their interest rate risk stemming from floating-rate syndicated loans or FRNs into a fixed-rate commitment. Currency swaps involve swapping not only interest streams but also the principal of two liabilities denominated in different currencies, and are typically used as long-term hedges against foreign exchange risks inherent in any long-term foreign currency financing. Finally, commodity swaps are used to hedge the exposure to commodity price volatility on a long-term basis.
KeywordsInterest Rate Arbitrage Opportunity International Financial Market Foreign Exchange Risk Interest Rate Swap
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