A financial swap is a derivative contract where two parties agree to exchange cash flows or other financial instruments over a specified period. Common types include interest rate swaps (exchanging fixed for floating rate payments), currency swaps (exchanging cash flows in different currencies), and credit default swaps (transferring credit risk). Swaps allow participants to modify risk exposure without changing underlying positions.

Financial swaps are primarily traded over-the-counter (OTC) between sophisticated institutional participants, though regulatory changes have increased central clearing requirements. These instruments provide efficient tools for hedging interest rate risk, currency exposure, and credit risk while enabling speculation on various market factors. The global swap market represents trillions of dollars in notional value.

Real-world example: A corporation with floating rate debt enters an interest rate swap to pay fixed rates and receive floating rates, effectively converting variable debt to fixed-rate financing and eliminating interest rate risk.