Posted in Finance, Accounting and Economics Terms, Total Reads: 349
Definition: Circus Swap
Circus (CIRCuS) Swap also popularly known as cross-currency swap or a currency coupon swap is a kind of a currency swap wherein loans of a particular currency on a fixed-rate, are swapped for loans in a different country, with a floating rate. This swap is against floating US dollar LIBOR payments. In fact, Circus stands for Combined Interest Rate and Currency Swap.
Organizations use CIRCuS these currency swaps in order to hedge the interest rate risk / currency risks, in order to match cash flows from their balance sheet – assets and liabilities. These are best used for hedging loan transactions given that the swap terms can be altered to perfectly meet the loan parameters that underlie the swap.
To better understand this, we will use an example. Say an Indian company ABC Ltd. has a USD100 million loan on its books. The company is obviously concerned with the appreciating dollar against the INR. This would result in a future difficulty in paying interests and principal. ABC Ltd. would therefore like to hedge its position against the currency movements and interest rate variations. What it can then do, is swap it into a fixed-rate loan into a currency such as the Japanese yen. This would make sense because the interest rates are low in Japan and because of the stagnation, there’s reason to believe that the Yen would depreciate against the INT. It therefore enters into such a swap with a party converting the USD debt into a fixed-rate debt in the Yen.