When trading on the Forex market, you do not have to close all your trades at the end of everyday. Instead your Forex broker will automatically roll over the open positions. This means that they will be exchanged or swapped for new positions. Thus, SWAP can be defined as an overnight or rollover interest rate that is earned or paid for holding positions overnight in foreign exchange trading. So when you hold a position overnight, the liquidity provider does the rollover process. However, the two currencies are not valued at an equal amount. The difference in the value of the two currencies is in the interest rate differential, which is the difference between the benchmark interest rates in two countries.

Carry Trades and Positive SWAP

The larger the interest rate differential is, the larger the effect from rollovers. Meanwhile, the narrower the interest rate differential is, the smaller the impact from rollovers. The net interest difference is known as the carry, while traders who are taking advantage of this are known as carry traders. Information on interest rate levels of the major currencies can be found on most financial-market websites.
Talking about interest rate, for instance, a long position in the AUD/USD currency pair have a benchmark interest rate of 2.5% for the Australian Dollar, as well as a corresponding 0.250% for the U.S. dollar.
This usually translates into a favorable SWAP for you, because you took a long position into a high yielding currency while being short on the lower yielding one. As a result, you will be credited in the form of a positive SWAP. This is basically what a standard SWAP operation consists of.
Positive carry results when you receive more in interest than you are required to pay, and is directly added to your account and this is exactly what some investors try to exploit via carry trades.

What Is a Negative SWAP?

If the carry is negative, however, it is deducted from your account. There are no interest implications if you open and close a trade within the same day.
In contrast to most strategies for the Foreign exchange market, carry trading does not hinge upon exploiting changes in value of a currency pair, but instead aims at exploiting the interest rate differentials in the currency pairs. To conclude, keep the following in mind:

  • If you are long and the base currency has a higher interest rate than the quote currency, you will profit from the swap effect.

  • If you are short and the base currency has a higher interest rate than the quote currency, the swap will result in a loss.

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