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I am looking into into AUD rates and I am a little confused. I tried to summarise below my doubts.

  1. FX swap basis (difference between AUD FX swap implied rate and AUD OIS rate). Before covid-19 it has been mostly positive. Meaning it was more expensive to borrow in FX swap market than onshore?

times series here: page 4, Graph 3 https://www.bis.org/review/r210219a.pdf


  1. What is the difference between AUD cross currency basis and AUD FX swap-OIS basis? Does xccy basis refer to longer tenors while FX swap-OIS basis to short term funding?
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  1. In FX swaps and FX forwards, the following formula holds:

$$S_{AUD/USD}(1+r_{USD})=(1+r_{AUD}+r_{basis})F_{AUD/USD}$$

The Spot $S_{AUD/USD}$ and the Forward $F_{AUD/USD}$ are traded and their prices are observed in the market. If you take the USD OIS rate for $r_{USD}$ and also the AUD OIS rate for $r_{AUD}$, you will be able to extract the term $r_{basis}$ (which is not quoted or directly observed for FX Swaps up to ~2 year maturity. From 2-year maturity onwards, you can trade the Xccy Basis directly via AUD/USD Xccy Basis Swaps).

What does the basis represent? The relative demand for funding in AUD vs. the relative demand for funding in USD (i.e. are more people trying to swap AUD into USD, or the other way around, for a fixed period of time).

I assume that the Xccy basis is quoted as a spread on the AUD leg (I don't have a direct experience with AUD basis, but I do have experience with other currency basis, and usually the spread is always quoted on the non-USD leg): so if the Xccy basis is positive, it means there is more demand for AUD relative to USD (so the market would demand a positive spread to be paid on the interest rate implied on the AUD leg of the swap).

If the spread is negative, it means that there is more demand for USD relative to AUD (i.e. the guys who lend out USD and receive AUD for the duration of the swap would only be willing to pay the AUD rate $r_{AUD}$ but with a negative spread, whilst receiving $r_{USD}$ for the duration of the swap).

  1. Yes, you are correct: the Currency basis implied from FX Swaps is usually up to ~2-years of maturity. From the 2-year mark onwards, the Xccy basis (cross-currency basis) Swaps become liquid and these Xccy Basis swaps become the primary instrument for cross-currency funding, because the FX Swaps (and FX Forwards) tend to loose liquidity after the 2-year mark.

PS: you don't necessarily need to substitute OIS rates for $r_{AUD}$ or $r_{USD}$: you could substitute Libor rates for both. Essentially, if you are interested in the implied funding cost, you should use whatever rates best represent the funding cost of the institution (and this could be Libor in some cases, although OIS is much more common).

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