Identifier: C3T7L2 · Revision: 2026-10-26 · Classification: restricted

Decision and objectives

Trace initial and final principal exchanges without netting different currencies. The decision record must connect the exposure, cash dates and implementable contract, rather than stop at a favorable price forecast.

By the end, you can trace initial and final principal exchanges without netting different currencies; reconcile cross-currency coupons with the original debt; stress principal, settlement and counterparty exposure.

Prerequisite: C3T7L1; completed Classes 1 and 2 and the Stock Market School foundation or Forex School foundation. All cases below are hypothetical; their prices, costs, rates, dates, contractual assumptions and collateral amounts are teaching inputs, not current offers.

Mechanics

In a cross-currency transformation, principal exchanges provide one currency in return for another, and coupons service those notionals. Final principal re-exchange can offset a matching foreign-currency debt repayment, but only if amounts, dates, amortization and counterparty performance align. Paying one currency before receiving the other creates settlement principal risk; legal netting of amounts in the same currency does not automatically net different currencies.

Price and return drivers

Each coupon = currency notional × leg rate × leg year fraction under the supplied simple conventions. Keep a USD ledger and a TRY ledger. Convert for reporting only with an explicitly stated exchange rate; do not add USD 10,000 to TRY 200,000. Matching principal at inception does not guarantee matching a debt that amortizes or resets differently.

Worked case

Hypothetical firm has USD 100,000 debt. Under a fictional cross-currency swap it pays USD 100,000 and receives TRY 4,000,000 initially, then receives USD interest at 4% and pays TRY interest at 30%, both quarterly actual/360 with exactly 90 days. Quarter cash: receive USD 1,000, pay TRY 300,000. The received USD 1,000 offsets the debt's supplied matching USD coupon. At final maturity the firm pays TRY 4,000,000 and receives USD 100,000, which can repay the matched debt principal. Origination fee TRY 5,000 and collateral funding TRY 8,000 are additional costs before tax, excluded from coupon arithmetic.

Adverse case

If the debt coupon resets to 6% while the swap receives only 4%, the firm owes USD 1,500 but receives USD 1,000: residual USD 500 that quarter. If TRY principal funding is only TRY 3,500,000 at maturity, shortage TRY 500,000 remains even though dollars are due from the swap. Provider default before receiving USD 100,000 can require replacement dollars at the current spot price; an initial exchange at 40 does not protect an unsecured claim.

Practical use

Read notional schedules, currency holidays, coupon reset and payment dates, day counts, exchange rates, collateral and payment-versus-payment arrangements. Verify access and actual provider approval for the domestic firm. Include principal funding, bid/ask, coupons, credit-line fees, collateral interest, transfer cost, termination and tax in the full schedule. An FX swap with only near/far exchanges is not the same coupon contract.

Reconcile the confirmation, position register and cash statement separately. Costs include the quoted bid/ask spread, brokerage and clearing charges, collateral or principal financing, currency conversion, custody where relevant, and exit or termination charges. A mark is not a fill. Any amount explicitly excluded below remains outside the reported result. Tax is excluded from these teaching cases: an actual comparison requires income year, investor residence and individual/corporate status, contract and acquisition dates, settlement form and effective law. The GIB guide, checked 2026-10-26, covers 2025 individual investment income, so its publication date alone does not settle a 2026 derivative liability.

Decision boundaries

Use a swap to transform a defined funding exposure, retaining the original debt in the analysis. A swap cannot eliminate the debt's credit spread, covenants or refinancing need unless its terms explicitly do so. Decline when final principal is unfunded or amounts cannot be reconciled by currency and date.

Practice and references

Exercise: hypothetical EUR 50,000 and TRY 2,000,000 notionals, quarterly 90/360; receive EUR 3%, pay TRY 24%. Solution: receive EUR 375, pay TRY 120,000. If the debt requires EUR 500, residual payment EUR 125. Do not subtract the two coupons without an explicit currency conversion rate.

Takeaway: Stress principal, settlement and counterparty exposure using the actual cash schedule, with every excluded cost and remaining exposure stated.

Reference card: cross-currency-swap. Formula: Cross-currency leg coupon. Glossary: Principal exchange, Settlement principal risk. Next lesson: C3T7L3. Topic test.

Sources and verification date (2026-10-26):

Shared reference guide