Photo: Jill Burrow

Why are spreads negative?

modelcapital.com - Why Swap Spreads Turned Negative | Model Capital Management LLC

How to make $1,000 in a day?

How to Make 1,000 a Day Get Paid to Do Market Research. One of the fastest ways you can begin making money is by giving your opinion. ... Get Paid...

Last updated Aug 12, 2022

What is the problem with round robin scheduling?

Disadvantages- It leads to starvation for processes with larger burst time as they have to repeat the cycle many times. Its performance heavily...

Last updated Mar 25, 2019

Make Your Bookie Cry And Pull The Hair By Generating $23,187

Promotion

Swap spreads turning negative have been subject of talk among institutional investors who are struggling to figure out why it happened and what it means – see Bloomberg.com articles here and here. Varying theories are offered, but neither seem to be plausible.

What happened

Swap spread turned negative, meaning that swap rates have dipped below yields on corresponding U.S. Treasuries. Swap rates are fixed rates charged as part of interest rate swaps – derivative contracts to exchange fixed interest payments for floating (typically Libor). While “swaps” may mean little to an average retail investor, they are very common among institutional fixed-income investment managers (think Pimco, BlackRock, life insurance companies). Swaps are executed “over-the-counter,” in direct contracts between an asset manager and a dealer (typically a major investment bank). Historically, at least since 1980’s, swap rates have always been higher than the corresponding Treasury yields, meaning that swap spreads have been positive (below, I show 10-year history for 5-year swaps). This is because Treasuries are obligations of the U.S. government – as close to a risk-free rate as we can get, while swaps are contracts with investment banks and involve “counterparty” risk. One theory that’s been offered as explanation is that the risk of dealing with banks (swap counterparty risk) is now lower than with the U.S. government. This, the argument goes, is because now “swaps [are] run through central clearing houses,” while “funding costs for U.S. Treasuries have gone up” due to [some vague reasons]. This doesn’t seem to be a plausible explanation, here’s why. First, Treasury “funding costs” are represented by Treasury yields. And while 5-year (1.75%) and 10-year (2.33%) T-note yields right now are at the higher end of their 2015 range, they are still much lower than they had ever been prior to 2011. Secondly, despite the improvements in the process, swaps are still private contracts between the investor and the dealer – so there is non-zero counterparty credit risk.

Why swap spreads went negative

We should note that swap rates don’t represent an “investment” market in a typical sense, such as that for U.S. Treasuries. In the Treasury market (and in corporate bond market, and so on), yields balance the demand for government bond investments with supply of those bonds. Not so for the swap market – this is the key to understanding the recent inversion in swap spreads. Swaps are used by institutional investors who want to swap a stream of fixed interest payments for floating (shorten portfolio duration), or vice versa. So, demand balance for pay-fixed and receive-fixed swap contracts determines (fixed) swap rates, while dealers typically keep a neutral stance and hedge their own exposure to a minimum. If, for instance, most institutions want to pay fixed and receive Libor, dealers would raise swap rates (remember, the dealer is on the other side of the swap, receiving the higher fixed swap rate).

How much did Drake bet on the Bengals?

From a Super Bowl showdown with the Bengals, to an expected new born and of course Drake's $1 million bet. Feb 12, 2022

Last updated May 15, 2020

What placing in horse racing wins most often?

The most successful post position in history is the number five, which has produced four winners since 2000 and 11 percent of all winners.

Last updated Nov 4, 2021

Promotion

After the Fed made it very clear that they are ready to hike rates, most fixed income institutions (and I hope, most retail investors) have been preparing for this by shortening their portfolio durations. But investment banks (swap dealers) needed to do so too! This is evidenced by dealers having reduced their bond inventory used for trading to the extent that it turned negative (see chart), and corresponding actions were taken in their wealth management portfolios. So, with expectations of rising interest rates, not only institutions created large demand to pay fixed rates (which would imply higher swap rates as I explained above), but dealers also wanted to be on the same side of the trade. Would dealers want to pay higher or lower fixed swap rates? Obviously, they want to maximize their profits by minimizing the rates they pay. And they can. Model Capital Management LLC is a tactical investment manager. Please review the following pages for more information on Model Capital’s approach to tactical investment management and our tactical management strategies.

modelcapital.com - Why Swap Spreads Turned Negative | Model Capital Management LLC

Why C# is used in gaming?

Today, C# is widely regarded as a top choice for video game creation, thanks to its compatibility with Unity—arguably the most robust, flexible and...

Last updated Apr 28, 2021