Read Larry Connors' blog – Short Term Trading Strategies
Why Do Analysts Watch the LIBOR-OIS Spread?
Market analysts are always looking for indicators that can give them a glimpse into what is happening in the market so they can get an idea of what is going to happen in the future. The LIBOR-OIS spread gives analysts just such a glimpse into the health of the global credit markets.
LIBOR-OIS Spread
The LIBOR-OIS spread is a comparison between the London Interbank Offered Rate (LIBOR) and the overnight index swap (OIS) rate. You see, analysts aren't too concerned with the nominal value of each of these rates. What they are concerned with is the relationship between these two rates. Typically, LIBOR is higher than the overnight index swap rate, but knowing that alone isn't enough. You need to know what the spread is.
To calculate the LIBOR-OIS spread, you simply subtract the overnight index swap rate from the three-month LIBOR rate. For instance if the three-month LIBOR rate is at 3.25 percent and the overnight index swap rate is at 2.50 percent, the LIBOR-OIS spread is 0.75 percent, or 75 basis points (3.25 - 2.50 = 0.75).
What Does the LIBOR-OIS Spread Tell Us?
When the LIBOR-OIS Spread is increasing, it tells us that banks believe the other banks they are lending to have a higher risk of defaulting on the loans so they are charging a higher interest rate to offset this risk. It also tells us that the credit markets are not functioning as smoothly as they could be—which is sign of potential economic contraction.
When the LIBOR-OIS Spread is decreasing, it tells us that banks believe the other banks they are lending to have a lower risk of defaulting on the loans so they are charging a lower interest rate to offset this risk. It also tells us that the credit markets are functioning smoothly—which is sign of potential economic expansion.
S. Wade Hansen is a founder of LearningMarkets.com and PFXGlobal.com. He is also the co-author of Profiting With Forex, a popular currency investing book. His commentary is featured on financial sites across the web.
About TradingMarkets | Contact | Advertise | Careers | Link to Us | Site Map | Help | Terms & Conditions | Privacy Policy | Return Policy | Testimonials | Feedback
The Connors Group, Inc. ("Company") is not an investment advisory service, nor a registered investment advisor or broker-dealer and does not purport to tell or suggest which securities or currencies customers should buy or sell for themselves. The analysts and employees or affiliates of Company may hold positions in the stocks, currencies or industries discussed here. You understand and acknowledge that there is a very high degree of risk involved in trading securities and/or currencies. The Company, the authors, the publisher, and all affiliates of Company assume no responsibility or liability for your trading and investment results. Factual statements on the Company's website, or in its publications, are made as of the date stated and are subject to change without notice.
It should not be assumed that the methods, techniques, or indicators presented in these products will be profitable or that they will not result in losses. Past results of any individual trader or trading system published by Company are not indicative of future returns by that trader or system, and are not indicative of future returns which be realized by you. In addition, the indicators, strategies, columns, articles and all other features of Company's products (collectively, the "Information") are provided for informational and educational purposes only and should not be construed as investment advice. Examples presented on Company's website are for educational purposes only. Such set-ups are not solicitations of any order to buy or sell. Accordingly, you should not rely solely on the Information in making any investment. Rather, you should use the Information only as a starting point for doing additional independent research in order to allow you to form your own opinion regarding investments. You should always check with your licensed financial advisor and tax advisor to determine the suitability of any investment.
HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN INHERENT LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT REPRESENT ACTUAL TRADING AND MAY NOT BE IMPACTED BY BROKERAGE AND OTHER SLIPPAGE FEES. ALSO, SINCE THE TRADES HAVE NOT ACTUALLY BEEN EXECUTED, THE RESULTS MAY HAVE UNDER- OR OVER-COMPENSATED FOR THE IMPACT, IF ANY, OF CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN.
The Connors Group, Inc.
10 Exchange Place, Suite 1800
Jersey City, NJ 07302
© Copyright 2009 The Connors Group, Inc.
