How do swaps work in trading markets?

Swaps are financial agreements between two parties to exchange cash flows or other financial instruments over a specified period. In trading, most commonly in the forex market, a swap occurs when positions are held overnight. Specifically, it involves the interest differential between the two currencies in a currency pair. If a trader holds a long position in a currency pair with a higher interest rate compared to the short position, they may earn a swap fee. Conversely, if the short position has a higher interest rate, the trader may incur a swap fee. Swaps can be positive or negative depending on the interest rates involved and the direction of the trade. It is important for traders to be aware of how these fees may impact their overall trading costs, particularly for longer holding periods.