Currency swaps involve an exchange of cash flows in two
different currencies. It is generally used to raise funds in a
market where the corporate has a comparative advantage and to
achieve a portfolio in a different currency of his choice, at a
cost lower than if he accessed the market of the second currency
directly. However, since these types of swaps involve an
exchange of two currencies, an exchange rate, generally the
prevailing spot rate is used to calculate the amount of cash
flows, apart from interest rates relevant to these two
currencies. By its special nature, these instruments are used
for hedging risk arising out of interest rates and exchange
rates. Definition: A currency swap is a contract which commits
two counter parties to an exchange, over an agreed period, two
streams of payments in different currencies, each calculated
using a different interest rate, and an exchange, at the end of
the period, of the corresponding principal amounts, at an
exchange rate agreed at the start of the contract.