It refers to a financial contract in which both parties agree to exchange interest amount according to the agreed nominal principal amount of the same currency in a certain period of time in the future. Only the interest with different characteristics is exchanged, and there is no exchange of substantial principal.

Expected annualized interest rate swap

The expected annualized interest rate swap can take many forms. The most common expected annualized interest rate swap is to convert between fixed expected annualized interest rate and floating expected annualized interest rate.

At present, the simplest exchange of fixed expected annualized interest rate and floating expected annualized interest rate is used in China.

There are many similarities between the expected annualized interest rate swap and treasury bond futures trading. For example, the expected annualized interest rate swap is also used by institutions to manage the expected annualized interest rate risk.

Specifically, an institution can lock in the financing cost by buying a swap agreement based on Shibor0/N before financing in the inter-bank market, or trade a swap agreement based on FR007 to offset its short-term debt position.

It is expected that the hedging function of the annualized interest rate swap market is similar to that of treasury bonds futures, but in comparison, the target of of TF treasury bonds futures itself is 4-7 years of treasury bonds.

Fictitious 5-year treasury bond futures are highly correlated with the expected annualized interest rate of the underlying bonds, so it has the best protection effect on bond positions such as treasury bonds.

Case analysis

For example, the expected annualized interest rate swap is also used by institutions to manage the expected annualized interest rate risk. Specifically, institutions can lock in financing costs by purchasing Shiboru/n-based swap agreements or trading FR007-based swap agreements in the interbank market to offset short-term liabilities before Shiboru/n financing.

The hedging function of annualized interest rate swap market is similar to that of treasury bond futures, but in comparison, TF treasury bond futures itself target 4-7 years of treasury bonds, and the virtual 5-year treasury bond futures are highly correlated with the expected annualized interest rate of the underlying bonds, so it has the best protection effect on bond positions such as treasury bonds.

The expected annualized interest rate swap covers the period from the money market to the medium-term bond market. In the short-term expected annualized interest rate range, its own reference expected annualized interest rate is based on FR007 and Shibor in the money market.

Therefore, it is very effective in hedging risks such as expected annualized interest rate fluctuation of financing transactions such as repurchase and lending, and mismatch of expected annualized interest rate of assets and liabilities (for banks, risks mainly come from short-term expected annualized interest rate fluctuation).

In particular, hedging with expected annualized interest rate swaps can be matched with fixed or floating interest rate risks as needed.

In the medium and long-term expected annualized interest rate range, on the one hand, because FR007 and Shibor are based on the short-term expected annualized interest rate, the fluctuation range of the expected annualized interest rate does not correspond to that of the medium and long-term expected annualized interest rate, and the transmission mechanism of the expected annualized interest rate is not very smooth, which leads to the lack of stable correlation between the long-term and short-term expected annualized interest rates.

For example, once the abnormal structure of the expected annualized interest rate curve appears, the position risk is exposed, so they cannot accurately complete the expected annualized interest rate in the medium and long term. On the other hand, in recent years, the correlation of expected annualized interest rates of repurchase, interbank lending and deposits has decreased year by year.