What is the difference between a futures contract and a swap?

In both cases, whether you're betting on the price of a commodity or on future interest rates, or opting for a stable price or a continuous interest rate to mitigate risk, it really seems like swaps %26amp; futures are functionally the same. What are the differences and why are they regulated so differently? Apparently, swaps are highly deregulated. Thanks a lot|||Tons of differences:

a) Futures contracts are traded on exchanges so there is no counterparty risk (unless you believe the clearinghouse could fail). Swaps have a counterparty so there is counterparty risk.

b) Swaps are individualized contracts and you can do a swap on anything. Futures contracts can only be traded by Americans directly if they are approved by the CFTC (all domestic ones, most big foreign ones).

c) Futures contracts are marked to market daily with margin requirements that can change whenever the exchange or CFTC decides it ought to change. Miss a margin call and you are closed out. Swaps are rarely marked to market (although you can write whatever you want in the contract).

d) Swaps are often longer term than futures contracts. For example, interest rates swaps can easily last 10 years. There is usually not much liquidity in futures contracts beyond the front couple of contracts. When there is liquidity in distant contracts (as with Eurodollars), it's because they are used as hedges to long term swaps (as with Eurodollars and interest rate swaps).

e) Interest rate and currency swaps (which means most swaps) have a series of payments. Each of these payments essentially corresponds to one futures contract. That means that swaps are "packages" of futures contracts.

f) Futures contracts are highly regulated (at least they appear to be) but swaps are unregulated.

g) Joe Bag O'Donuts can trade futures contracts by opening an online account. When I have traded interest rate swaps, there needed to be $50M in an account as the swaps are supposed to be AA credits. (The $50M didn't belong to me, alas)

h) Taxation may be different (but speak to your tax advisor).

i) There is settlement risk with swaps. In FX swaps it's called Herstatt risk. In a swap currencies are exchanged at the beginning of the swap. Many banks delivered currency to Herstatt which was closed in the middle of the day by German regulators prior to Herstatt delivering currency. The delivering banks were just screwed. As FX futures are not deliverable, there is no settlement risk.

j) Swaps on commodities would not usually be deliverable but futures contracts almost always (maybe always) are deliverable. Commodity swaps are largely oil swaps.



The reason they are regulated so much differently is essentially g). There is some limit to how much the gov't wants to regulate AA credits, although after bailing them out for 100's of billions of dollars a reasonable person might think this is ridiculous.



Swaps are used all the time to get around govt regulation. For example, if the futures exchange says that you can only hold 6000 corn futures contracts but you want exposure to 10000 contracts, you can call up someone friendly and work out a swap on the other 4000 contracts. As long as nobody thinks that you are trying to manipulate or corner the market, you're probably fine. The economic reality is that you are just asking someone friendly to buy 4000 futures contracts and hold them for you. In stocks, that would be called "stock parking" and you would go to jail for it. In futures trading it's done all the time. Go figure.|||This is a complicated answer. I posted your question in an investing forum i use. you should get good answers there, check out them out here: http://www.stockniche.com/showthread.php/1272-What-is-the-difference-between-a-futures-contract-and-a-swap?p=1491#post1491





Hope this helps