What is Swap and what is it for?

The swap is one of the derivative instruments, and consists of the exchange of cash flows between two counterparties, determined in relation to an underlying financial instrument or asset

by Lorenzo Ciotti
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What is Swap and what is it for?

The swap is one of the derivative instruments, and consists of the exchange of cash flows between two counterparties, determined in relation to an underlying financial instrument or asset. It is one of the most modern risk hedging instruments used mainly by banks, businesses and also by public bodies.

The swap tool was invented in 1994 at the age of 25 by financier Blythe Masters of JP Morgan bank. It is presented as a nominated contract (but atypical in that it is not explicitly governed by civil law), fixed-term, consensual, onerous and uncertain.

The swap can therefore also be an exchange of credits (for example between banks) equivalent to the discount of bills having in exchange not cash, but another credit to be collected. Numerous swaps, and more generally requests for loans to financial companies, contain a clause (in a pre-printed form) which authorizes the financial company to act on its behalf and in its name with credit institutions or financial institutions in order to obtain the requested better conditions.

What is Swap and what is it for?

It allows the company to transfer the credit transaction to a second one, which will get in touch after a while asking for higher interest and another commission for the investigation of the new credit request.

In these cases the swap is endorsed as an old promissory note, a financial instrument that was considered superseded by the new more sophisticated contracts. Whoever assigns the credit collects the sum, while the assignee who takes over will pay the residual debt to whoever accepted the bill.

For the endorsement of the bills, however, it was not possible to change the loan scheme, which determines that is the principal to be repaid, interest and maturities. The swap with these wordings, on the other hand, provides for unilateral and unannounced changes to the conditions by the financial company.

The clause cannot be considered vexatious, but radically changes the nature of the contract because whoever thinks they are taking out a fixed-rate mortgage finds themselves paying a fixed-rate mortgage with a creditor and a rate n times different.

The counterparty risk is always borne by the customer; the asset management company performs a role of financial intermediation acting on behalf of third parties (not on its own account). The client does not sign a contract with the SGR, but with another client of the SGR; the other party remains anonymous and does not countersign the contract. That is, each customer has a copy of a contract with his signature without the counterparty's signature.

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