Interest rate swaps are popular over-the-counter (OTC) financial instruments that allow an exchange of fixed payments for floating payments (often linked to LIBOR). Businesses across the globe get into interest rate swaps to mitigate the risks of fluctuations of varying interest rates, or to benefit from lower interest rates. (See related: Video explaining Interest Rate Swap and How to Value Interest Rate Swaps.) We explain how to read interest rate swap quotes.
Sourcing Your Information
Multiple websites offer quotes for interest rate swaps. Here are sample quotes for a 10-year interest rate swap from two sites:
Reading the Information
The details presented in the quote contain the standard open, high, low, and close values based on daily trading. Note that the unit for interest rate swap quotes is "percentage(%)," which indicates the annualized interest rate. Hence, a value of 1.96 actually means annual interest rate of 1.96%. While applying this on quarterly or semi-annual basis, this rate needs to be down-scaled to fit the duration.
Any values indicating percentage change figures (like %Change from Previous Close or %Change from 52 week high/low) need to be looked at carefully. For example, in the y-chart quote, the last field “Change from Previous” shows -1.51%. This is a percentage change = (last value/previous value -1)*100% = (1.96/1.99-1)*100% = -1.51%. This is not a simple subtraction. Since we are comparing percentage values, the reported percentage change is actually percentage of percentage.
Depending on the details covered by individual data providers, there can be additional fields like standard deviation and 100-day average of quoted values.
Understanding the Price Quotes for Interest Rate Swaps
To understand the price quotes for interest rate swaps, let’s assume a company CFO is in need of $500 million in capital for a 10-year term. She can either take a loan or issue securities like notes to acquire the required capital. She prefers a fixed-rate loan to guard against any intermittent increase in floating interest rates, but currently has the option of issuing only floating rate notes.
She decides to issue a floating interest rate note LIBOR plus 100 basis points), and enters into a pay fixed/receive floating interest rate swap contract to secure protection from varying interest rates.
She contacts a swap dealer who quotes the following for interest rate swaps:
Assume that the above rates are semi-annual rates, on actual/365 basis versus six-month LIBOR rates (as termed by the dealer).
- Any end-user (like the CFO) who wishes to pay fixed (and hence receive floating rate) will make semi-annual payments to the dealer based on a 2.20% annualized rate (ask rate) on the actual/365-day convention.
- Any end-user who wishes to pay floating (and hence receive fixed rate) will receive payments from the dealer based on the 2.05% annualized rate (bid rate)
- The dealer has a (2.20-2.05 = 0.15% = 15 basis point) spread, which is his commission. (See: Market Maker Definition.)
The CFO will enter into the first category of “pay fixed receive floating” swap for her requirements. She will receive the LIBOR rate from the dealer and pay 2.2% to the dealer on the notional amount of $500 million. The issued floating rate note will pay LIBOR+1% to the note holders. Effective net payable = +LIBOR – 2.2% - (LIBOR +1%) = - 3.2% (negative indicates payable).
Alternatively, interest rate swap quotes may also be available in terms of a swap spread. However, it should be noted that the swap spread in an interest rate swap quote is NOT the bid-ask spread of the swap quoted values. It is the differential amount that should be added to the yield of a risk-free Treasury instrument that has a similar tenure. For example, assume 10-year T-Bill offers a 4.6% yield. The last quote of a 10-year interest rate swap having a swap spread of 0.2% will actually mean 4.6%+0.2% = 4.8%. (See related: Introduction to Treasury Securities.)
The Bottom Line
Interest rate swap quotes vary from standard price quotes of commonly traded instruments. They can appear puzzling because the quotes are effectively interest rates, quotes may be provided as swap spreads, and the quotes may follow local OTC market conventions. Market participants should take due care in understanding the quotes before entering into swap contracts.