What Is an Interest-Rate Derivative. An interest-rate derivative is a financial instrument with a value that increases and decreases based on movements in interest rates. Interest-rate derivatives are often used as hedges by institutional investors, banks, companies, and individuals to protect themselves against changes in market interest rates, An interest rate swap is a forward contract in which one stream of future interest payments is exchanged for another based on a specified principal amount. Interest rate swaps usually involve the exchange of a fixed interest rate for a floating rate, or vice versa, to reduce or increase exposure to fluctuations in Interest rate swaps (IRS): It is an agreement to exchange series of fixed cash flows with floating cash flows. Each participating party agrees to pay a fixed or floating rate in a particular currency. These are used to convert liability or investment from fixed to floating and vice versa.