Trading Basics

Learn the fundamental concepts of trading interest rate swaps on the Rate Swap Protocol.

Interest Rate Swap Fundamentals

An Interest Rate Swap (IRS) is a derivative contract where two parties exchange interest rate cash flows. In the Rate Swap Protocol:

• One side pays a fixed rate
• The other side pays a floating rate (based on an oracle index)
• Notional amount determines the size of payments
• Positions are margined and mark-to-market

Position Types

Pay Fixed / Receive Floating (Long Rates)

• Notional: Positive (notional > 0)
• Profit: When rates rise above your entry rate
• Loss: When rates fall below your entry rate
• Use Case: You expect rates to increase

Receive Fixed / Pay Floating (Short Rates)

• Notional: Negative (notional < 0)
• Profit: When rates fall below your entry rate
• Loss: When rates rise above your entry rate
• Use Case: You expect rates to decrease

Market Structure

Each market is defined by three parameters:

1. Rate Index: The underlying rate (e.g., perp funding rate, borrow APR)
2. Quote Token: The collateral and settlement currency (e.g., USDC)
3. Maturity: When the swap expires

Multi-Market Pools

A single pool can support up to 16 markets, all using the same quote token. This enables:

• Multiple maturities for the same rate index
• Different rate indices sharing liquidity
• Efficient capital utilization for LPs

Pricing & AMM

The protocol uses an Automated Market Maker (AMM) to price swaps:

• Rates adjust based on net pool exposure
• Larger trades have greater price impact
• Liquidity depth determines available notional

DV01-Based Liquidity

For risk-increasing trades (trades that increase the market's DV01):

• Available liquidity is reduced by a DV01 reserve
• The reserve protects the pool from rate movements
• A utilization-based scalar may further reduce depth at high utilization

For risk-reducing trades:

• Full allocated liquidity is available
• No DV01 gating applies

Cash Flow Settlement

The protocol uses accounting-only settlement:

Rate_Settlement = notional × (Current_Index - Last_Index)

• No token transfers during settlement
• Settlement updates position.realized_pnl
• Pool counterparty updates market.pool_rate_accumulator
• Tokens only move on explicit deposit/withdraw

This is different from traditional systems where funding flows directly to/from collateral balances.

Mark-to-Market (MTM)

Your unrealized P&L is calculated as:

MTM = (Current_Rate - Entry_Rate) × Notional × Time_to_Maturity / Seconds_Per_Year

This MTM is used for:

• Position health calculation
• Liquidation risk assessment
• Real-time P&L tracking

Execution Flow

1. Select Market: Choose rate index, maturity
2. Deposit Collateral: Add quote tokens (e.g., USDC) to your margin account
3. Specify Trade: Direction and notional size
4. Check Margin: Ensure sufficient initial margin
5. Execute: AMM quotes rate and executes swap
6. Monitor: Track funding settlements in realized_pnl and MTM

Circuit Breaker Awareness

Before trading, check market status:

• Normal: All trades allowed
• Closing-Only: Can only reduce positions
• Halted: No trading (only liquidations)

Fees & Costs

Swap Fees

Swap_Fee = |notional_delta| × swap_fee_bps / 10000

• Fee is deducted from your position.realized_pnl (accounting-only)
• Fee is split between LPs and protocol based on protocol_fee_share_bps

Funding Payments

• Based on rate oracle index changes
• Accumulated in position.realized_pnl
• Can be positive or negative depending on direction

Transaction Costs

• Solana transaction fees (minimal)
• No gas fees for settlement (accounting-only)

Position Management

Opening a Position

1. Ensure margin account exists (or create one)
2. Deposit sufficient quote tokens
3. Call swap with positive notional_delta for pay-fixed
4. Call swap with negative notional_delta for receive-fixed

Increasing Position

• Same direction as existing: increases notional
• Entry rate becomes weighted average
• Must meet initial margin requirement

Reducing Position

• Opposite direction from existing: reduces notional
• Realized PnL includes closed portion
• Risk-reducing trades have full liquidity access

Closing Position

• Swap with opposite notional to net to zero
• realized_pnl includes final settlement
• Position slot freed for reuse

Realized vs Unrealized PnL

Realized PnL

Stored in position.realized_pnl_wad:

• Funding settlements accumulate here
• Closed position gains/losses added here
• Swap fees deducted here
• Can be withdrawn when position is closed

Unrealized PnL (MTM)

Computed on-the-fly:

• Based on current rate vs entry rate
• Changes with market movements
• Contributes to equity for health calculation
• Becomes realized when position is closed

Best Practices

• Start with small positions to learn mechanics
• Monitor health factor regularly
• Understand margin requirements before trading
• Keep extra collateral for market volatility
• Watch market status for circuit breaker changes
• Track realized_pnl for funding accumulation
• Close positions before maturity to avoid settlement complexity

Example Trade

Opening a 100,000 USDC notional pay-fixed position:

1. Deposit Margin: 10,000 USDC (10% for 5% initial margin + buffer)
2. Execute Swap: swap(notional_delta = +100,000 × WAD)
3. Position State:
   • notional_wad: +100,000 × WAD
   • entry_fixed_rate_wad: AMM execution rate
   • realized_pnl_wad: -swap_fee (accounting-only)
4. Monitor: Watch health, MTM, and funding accumulation
5. Close: swap(notional_delta = -100,000 × WAD) to exit

Next Steps

• Understanding Swaps - Detailed swap mechanics
• Risk Management - Protect your capital
• Engineering API - Programmatic trading