"Typically, Australian banks pay a small premium to swap foreign currency into Australian dollars. This premium is also referred to as the basis, which is the difference between the implied cost of obtaining Australian dollars in the FX swap market and the cost of obtaining Australian dollars onshore."


I understand, Australian banks issue USD bonds to finance their AUD assets. They then use FX swaps to convert USD into AUD. The author mentions they pay a premium which is the FX swap implied rate less OIS AUD rate. Given this premium is usually positive it means FX swap implied rate > AUD OIS rate. So what is the reason why banks pay a higher rate in the FX swap market instead of using cheaper onshore funding (AUD OIS)?

  • 1
    $\begingroup$ The problem is the liquidity mismatch... AUD OIS is OVERNIGHT, while their USD paper is commercial paper (weeks/months) or bonds (years). The last time I looked at this in any real detail (2018ish), Aussie lenders benefitted from the covered-interest-parity breakdown even more than USD! But Aussie rates have relatively fallen since then. $\endgroup$
    – demully
    Feb 28, 2021 at 0:59
  • $\begingroup$ I guess AUD OIS represents the fixed rate you pay on the fixed leg of the overnight indexed swap in exchange for the floating leg given by the avg of the ON rate over each accrual period. In the document the author compares the 3m FX swap implied rate vs AUD OIS (graph 1 on page 2). My question is, is then the author comparing a 3m rate with an overnight rate? Are these 2 rates really comparable? $\endgroup$
    – Student
    Feb 28, 2021 at 14:15

1 Answer 1


I don't think that article is correct in the explanation.

The FX basis means the difference between the rate you would get from trading a spot vs forward fx trade versus just outright borrowing money.

For example, as bank I could:

Scenario 1:

  • Borrow currency X (which I don't have but want)
  • Lend currency Y (which I have enough of)

Or, I could trade in the FX market and:

Scenario 2:

  • Exchange currency Y for X right now combined with trading a forward in X for Y.

So the transactions are the same, right? I give you currency Y now and you give me currency X. Then at some time in the future we pay each-other back.

When there is a "basis", that just means that the rates for these two transactions is different. Now, why are they different? The article gets into some of that. But one of the big reasons is the FX spot vs forward doesn't hit the balance sheet. That's just accounting rules, hate the game - not the player. So for banks who want to minimize the impact of this funding trade on their balance sheets they will preffer to do it in the FX market. That can make the rates drift a little bit from each-other.

If you look at the chart in the document that you shared you can see it spike at the end of the year. That is typical as the balance sheet impact is most highly valued by banks when you get into EOY reporting.

  • $\begingroup$ thanks for the explain. You are saying there is some basis between the 2 rates because FX swaps are off balance sheet trades. Given the basis has usually been positive before COVID crisis (FX swap implied rate > AUD OIS rate), can you explain why this has been the case? In theory what is the rate that should be cheaper FX implied or OIS given that FX implied does not have balance sheet costs while OIS has? thanks $\endgroup$
    – Student
    Feb 28, 2021 at 14:28
  • $\begingroup$ Don’t forget that the bank might find a lower overall cost of Funding in Aussie dollars if they start by using USD bonds to a deep, liquid market. (Compared to the onshore bond market which apparently is less liquid). This difference might make up for the positive basis. $\endgroup$
    – dm63
    Jul 28, 2021 at 10:39

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