An Interest Rate Swap is the exchange of a stream of cash flows based on a fixed interest rate in exchange for a stream of cash flows based on a floating interest rate.
For example, Party A is currently paying a floating rate of interest but wishes to convert that to a fixed rate of interest. Party B is currently paying a fixed rate of interest but wishes to pay a floating rate. The two parties can enter into an interest rate swap whereby Party A pays a fixed rate to B in exchange for a floating rate of interest. The net result (as shown in the example below) is that Party A ends up paying a floating rate of interest and Party B ends up with a fixed rate of interest.
Interest Rate Swap Example
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