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Quanto Swap

What is 'Quanto Swap'

A swap with varying combinations of interest rate, currency and equity swap features, where payments are based on the movement of two different countries' interest rates.

This is also referred to as a differential or "diff" swap.

Explaining 'Quanto Swap'

Though they deal with two different currencies, payments are settled in the same currency. For example, a typical quanto swap would involve a U.S. investor paying six-month LIBOR in U.S. dollars (for a US$1 million loan), and receive payments in U.S. dollars at the six-month EURIBOR + 75 basis points.

Fixed-for-floating quanto swaps allow an investor to minimize foreign exchange risk. This is achieved by fixing both the exchange rate and interest rate at the same time. Floating-for-floating swaps have slightly higher risk, since each party is exposed to the spread between each country's currency interest rate.


Further Reading


Multi currency credit default swaps: Quanto effects and FX devaluation jumps
papers.ssrn.com [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

Pricing quanto equity swaps in a stochastic interest rate economyPricing quanto equity swaps in a stochastic interest rate economy
www.tandfonline.com [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

Sovereign credit risk and exchange rates: Evidence from CDS quanto spreadsSovereign credit risk and exchange rates: Evidence from CDS quanto spreads
www.nber.org [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

The “end of geography” in financial services? Local embeddedness and territorialization in the interest rate swaps industryThe “end of geography” in financial services? Local embeddedness and territorialization in the interest rate swaps industry
www.tandfonline.com [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

Pricing equity swaps in an economy with jumpsPricing equity swaps in an economy with jumps
www.tandfonline.com [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

Credit Default Swaps: A Primer and Some Recent TrendsCredit Default Swaps: A Primer and Some Recent Trends
www.annualreviews.org [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …

Hedging quantos, differential swaps and ratiosHedging quantos, differential swaps and ratios
www.tandfonline.com [PDF]
… replaced by a quanto swap rate, the correction term depending on the covariance of the pvbp-weighted foreign exchange rate with the foreign swap rate. The approach presented … 127–155. Doust,P. (1995). “Relative Pricing Techniques in the Swaps and Options Markets.” …



Q&A About Quanto Swap


What is a Quanto Swap?

A Quanto Swap is a swap with varying combinations of interest rate, currency and equity swap features, where payments are based on the movement of two different countries' interest rates.

When would you use fixed for floating swaps?

Fixed for floating swaps allow investors to minimize foreign exchange risk by fixing both the exchange rate and interest rate at the same time. Floating for floating swaps have slightly higher risk since each party is exposed to spread between each country's currency interest rate; however this can be beneficial if one expects that spread to widen over time as opposed to narrows which would happen if one were using fixed for floating swaps instead of fixed-for-floating ones..

Why might someone want to use fixed for floating swaps instead of fixed-for-floating ones?

If they expect that spread will widen over time rather than narrows which happens when using fixed for floating ones instead of fixed-for answer 5 above .

What does it mean to have differential or "diff" swaps?

Differential swaps deal with two different currencies but settle in the same currency. For example, a typical quanto swap would involve an U.S. investor paying six-month LIBOR in U.S. dollars (for a US1 million loan) and receive payments in U.S. dollars at the six-month EURIBOR + 75 basis points (or vice versa).