forex basics

What is Swap Fee in Forex?

Ever wondered why you get charged with a swap fee while trading forex or got happy to receive a swap fee added to your account? Well, the swap fee is charged/paid when you keep your trade running overnight.

 

In this blogpost, we will explain everything you need to know about swap. So, continue reading this blogpost and we assure you, every doubt you have about swap will be gone until you finish reading this article.

Contents

What is swap?

The idea behind swap

How is swap fee calculated in forex?

How to view swap rates?

Can you make money using swaps?

Why do brokers charge a triple rate on wednesday?

How to avoid swap rates?

Summary

 

 

What is swap?

Generally, the meaning of the word swap is to exchange one thing for another and In the forex market, the swap is the difference between the different interest rates in a currency pair. In more technical terms, Swap is a charge or interest which your broker charges/pays you for holding trading positions overnight to the next forex trading day. The broker charges or pays you a specific amount of commission depending on the interest rate difference between the two currencies involved in the transaction, on its direction(long/short), and quantity (no. of units).

 

Whenever you hold a trade overnight, your broker charges you with a fee or pays you interest for that trade. If the broker will charge you with a fee or pay you the interest depends upon certain factors like,

1. The currency pair you are dealing with.

2. Your account's currency.

3. Interest rates between two countries' currency.

4. The direction of your trade. (whether you are buying or selling)

5. The number of units you buy/sell. 

6. The markup fee of your broker.

 

The idea behind swap

Every currency in the world has its own interest rates, these interest rates are managed by the central bank of the respective country to which the currency belongs and hence is used to manage the economy of the country. Like, you must have seen there are different interest rate news going on in the forex news section. These are the interest rates that are decided by the central banks of each country depending upon the economic situation of the country. So, whenever you hold a currency you get interested in it.

 

Now, when you buy/sell anything in the forex market, two different currencies are involved in it. These currencies will have their own interest rates. According to the rules, you can hold a currency for a day without any interest charge. But as the new trading day starts you will be charged with/get the difference in the interest rates of the two currencies you are involved with. And this is called a swap.

 

How is the swap fee calculated in forex?

The formula for calculating the swap is as follows. 

SWAP = (Contract × (InterestRateDifferential + Markup) / 100) × Рrice / DaysPerYear

Where,

Contract = No. of units (lot size, *brokers consider standard lot size 1.0)

Price = Current price of currency pair you are trading.

Interest rate differential = Difference in the interest rates of two currencies.

Markup fee = The brokers' commission(depends from broker to broker)

Days per year: 365 (number of days in a year)

 

For example, let us say, you are dealing with pair EURUSD and the interest of the European Central Bank (ECB) is 4% and the FED'S (US) interest rate is 3.5%. Now, you open a buy trade(long position) on EURUSD for 1 lot at a price of 1.08824. This means that you are buying 1,00,000 units of EUR. So, you are buying EUR whose interest rate is 4%, and selling USD in exchange for that whose interest rate is 3.5%.

Therefore,

interest rate difference = 4%-3.5%

= +0.5%

Note - When the interest rate of the country whose currency you are buying is more than the interest rate of the country whose currency you are selling, the money will be added to your trading account (but can change as the markup fee is added by the broker).

Now let's assume that the broker charges an extra 0.25% for the swap. So, we will have to subtract the markup fee from the interest rate difference

Markup fee = - 0.25%

lets put these values in the above formula and calculated the swap.

SWAP = (Contract × (InterestRateDifferential + Markup) / 100) × Рrice / DaysPerYear

= (1,00,000 X (0.5-0.25)/100) X 1.08824/365

= (1,00,000 X 0.0025) X 0.00299

= $ 0.74 will be credited to your account.

Now, you open a sell trade(short position) on EURUSD for 1 lot at price 1.08824. 

Which means you are now buying USD. 

Interest rate difference = 3.5%-4%

= -0.50%

Note - If the interest rate is higher in the country whose currency you are selling, the money will be deducted from your account.

Let's consider all the other values same and calculate the swap

SWAP = (Contract × (InterestRateDifferential + Markup) / 100) × Рrice / DaysPerYear

= (1,00,000 X (-0.50 -0.25)/ 100) X 1.08824/365

= (1,00,000 X (-0.0075) X 0.00299

= $2.24 will be debited from your account.

 

How to view swap rates?

You may be wondering, how does a trader calculate swap if he/she doesn't have all the values? Well, it's easy. You don't need to calculate the swap all the time. Most of the brokers have a list of the swap rates mentioned in their official website and even if your broker does not have it mentioned, There are ways to view the swap rate directly.

 

Below are the ways by which you can view the swap charges.

Using MT4/MT5

Here are the steps to view swap rates in MetaTrader 4 and 5 on your smartphone:

Load MetaTrader 4/5 and login to your account then go to the quotes section.

Click the currency pair whose swap rate you want to see, enter the details section, and in this, you will find the swap charges for both long and short positions.

Below is the link of the broker who lets you calculate the swap.

LINK - FX PRO SWAP CALCULATOR 

 

Can you make money using swaps?

No, you cannot make money through swaps but you can definitely save some money through it and also get a bonus from it. 

 

There are two types of currencies, high yielding, and low yielding currencies. High yielding currencies have higher interest rates and low yielding currencies have low-interest rates. Examples of high yielding currencies - USD, AUD, NZD, etc. Examples of low yielding currencies - JPY, CHF, EUR, TRY, etc.

 

Let's say you got a nice short opportunity for USDTRY and you entered with a lot size of 1.0. So, for USDTRY if you go short, you will get a swap of 86.86 plus the profit you make from the trade, you are indirectly getting a bonus of 86.86.

 

Why do brokers charge a triple rate on Wednesday?

You must have seen that when you keep your trade overnight on Wednesday, you are charged with a more swap rate than usual. You must have felt that the broker is doing something wrong. Well, your broker is not doing anything wrong. If you choose to keep a trade open overnight on a Wednesday, you will be charged with triple swap rates. This is because the forex market is closed on Saturdays and Sundays, but the banks still charge interest on those days. And as the trades take two days to complete, this triple fee covers your rates for the weekend. (so trades placed on Wednesday will complete on Friday) and so you are charged thrice.

 

How to avoid swap rates?

There are at least three ways you can avoid paying swap rates.

1. Trade in direction of positive interest

Wait for the opportunity in which you can trade in the direction where you get a positive interest rate. By doing this you can not only avoid swap charges but get benefited from it. But, you won't always get opportunities like this, and it's kind of tough to do it consistently.

 

2. Try day trading and close all positions before 17:00 EST

You can avoid the swap charges if you are a day trader or use a day trading strategy. If you are a day trader and close trades before the next trade starts, close it before 17:00 to avoid the swap charges.

 

3. Open up a swap free Islamic account

Many brokers offer a special option to Muslim customers in which there are no charges for swaps. These accounts basically run on the Muslim policies and beliefs, and hence are not charged with any interest.

 

Summary

1. Swaps are applied only when positions are kept open until the next forex trading day.

2. Some currency pairs may have negative swap rates on both sides, both ‘long’ and ‘short’.

3. Swap rates are calculated in points, MetaTrader 4 and 5 convert them automatically into the base currency of your account.

4. Each currency pair has its own swap charge and is measured on a standard size of 1.0 lots (100,000 base units).

5. On Wednesday night swaps are charged at the triple rate the usual

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