Managing your risk: how to make a swap contract work for you and your business.

Fuel Oil News, April, 2005 by Burr, James M.

Last month we discussed the basics of futures contracts. This month, we are going to discuss the basics of swaps.

For the purposes of this article, we will assume that the terms "swaps contract," "derivatives" and "over-the-counter contracts (OTCs)" are all interchangeable.

A swap contract is a privately negotiated contract in which the terms and conditions are agreed to by both parties.

If "Your Company" contacted "Acme Oil" and said, "Gulf Heating Oil is trading at $1.30 per gallon. How about we strike a deal, at the end of the month, if Gulf Heating Oil is above $1.30 per gallon, you pay me the amount it is above $1.30. If at the end of the month Gulf Heating Oil is below $1.30 per gallon, I will pay you that amount?" This is a swap;...

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