For other uses of the abbreviation OIS, see OIS (disambiguation).
The factual accuracy of parts of this article (those related to the LIBOR-OIS spread) may be compromised due to out-of-date information. The reason given is: LIBOR was discontinued in 2021 and was underreported during the 2008 credit-crunch. Please help update this article to reflect recent events or newly available information.(March 2023)
An overnight indexed swap (OIS) is an interest rate swap (IRS) over some given term, e.g. 10Y, where the periodic fixed payments are tied to a given fixed rate while the periodic floating payments are tied to a floating rate calculated from a daily compounded overnight rate over the floating coupon period. Note that the OIS term is not overnight; it is the underlying reference rate that is an overnight rate. The exact compounding formula depends on the type of such overnight rate.
The index rate is typically the rate for overnight lending between banks, either non-secured or secured, for example the Federal funds rate or SOFR for US dollar, €STR (formerly EONIA) for Euro or SONIA for sterling. The fixed rate of OIS is typically an interest rate considered less risky than the corresponding interbank rate (LIBOR) because there is limited counterparty risk.[1]
The LIBOR–OIS spread is the difference between IRS rates, based on the LIBOR, and OIS rates, based on overnight rates, for the same term. The spread between the two rates is considered to be a measure of health of the banking system.[2] It is an important measure of risk and liquidity in the money market,[3] considered by many, including former US Federal Reserve chairman Alan Greenspan, to be a strong indicator for the relative stress in the money markets.[4] A higher spread (high Libor) is typically interpreted as indication of a decreased willingness to lend by major banks, while a lower spread indicates higher liquidity in the market. As such, the spread can be viewed as indication of banks' perception of the creditworthiness of other financial institutions and the general availability of funds for lending purposes.[5]
The LIBOR–OIS spread has historically hovered around 10 basis points (bps). However, in the midst of the financial crisis of 2007–2010, the spread spiked to an all-time high of 364 basis points in October 2008, indicating a severe credit crunch. Since that time the spread has declined erratically but substantially, dropping below 100 basis points in mid-January 2009 and returning to 10–15 basis points by September 2009.[6]
^"CSFB Zurich note on OIS" (PDF). 2021-03-13. Archived (PDF) from the original on 2021-03-13. Retrieved 2021-03-13.
^Sengupta, Rajdeep and Yu Man Tam. (2008) The LIBOR–OIS Spread as a Summary Indicator. Economic Synopses, Number 25, 2008. Federal Reserve Bank of St. Louis
^Zeng, Min (September 20, 2008). "Money Flows Back to Commercial Paper". The Wall Street Journal.
^
Brown, Matthew; Finch, Gavin (January 12, 2009). "Libor for Dollars Slides Most Since Dec. 17 on Cash Injections". Bloomberg.com.
^
Capo McCormick, Liz (January 24, 2008). "Interest-Rate Derivatives Signal Banks Still Reluctant to Lend". Bloomberg.com.
^
"3 MO LIBOR – OIS SPREAD". Bloomberg.com. January 12, 2009.
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