Forex swap refers to the difference of interest that is valid in every country whose currency is being traded in the forex market. Traders will receive swap only if they leave their order open for more than one day. The swap amount is determined according to whether the position opened by the traders is a long or buy position or a short or sell position. For every pair being traded, traders have to pay the interest of the currency that they sell and to receive the interest of the currency that they buy.
The interest rate of a particular currency is set by the Central Bank of the respective country. Every country thus has set its own specific interest rate and the difference between the interest rates of different currencies can be quite significant. Swap rate as well as the profit that traders obtain from their transaction is calculated based on this difference.
Here is a practical way to explain how forex swap works. Suppose a trader trades AUD/GBP pair at the time when the interest rate set by Australia is at 2% and the interest rate set by Great Britain is at 0.5%. Because he will pay the interest of the currency that he sells and receive the interest of the currency that he buys, his position determines whether he will pay or get the swap from his trading session. If he opens a buy AUD/GBP position, he will buy AUD and sell GBP, which means he have to pay GBP’s interest rate at 0.5% and receive AUD’s interest rate at 2%. By calculating the difference between both interest rates, it can be concluded that he will receive a swap per lot at 1.5% (2%-0.5%). Conversely, if he opens a sell AUD/GBP position and he leaves the position open for more than one day, he will receive a swap per lot at -1.5%.
The most important thing that traders must mind when trading with swap is that they always update their knowledge about the current swap rates, which depend very much on the currently set interest rates. Because the interest rate set by every country is ever changing, traders’ keenness of the change is needed. They can acquire information about the current exchange rates of all countries from their brokers, which have provided a complete and regularly updated list of interest rates set by all countries. Another way to check the current swap rates is by observing the trading platform used by traders. In MetaTrader 4, currently the most popular trading platform, traders can check the current swap rates of every currency pair by monitoring the “Market Watch” interface of the program. By choosing Symbols – currency pair – Properties, they can see the current swap rates of both long (buy) and short (sell) positions in the form of pips.
It is possible to trade a pair without swap using swap-free account. There is thus no swap rate involved even if the position is left open for more than one day. However, brokers usually charge the traders to compensate for the swap cancellation.