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Can the choice of interpolation method explain the difference between swap prices and futures prices?

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  • Rob Brown
  • Victor Fang

Abstract

The standard model linking the swap rate to the rates in a contemporaneous strip of futures interest rate contracts typically produces biased estimates of the swap rate. Institutional differences usually require some form of interpolation to be employed and may in principle explain this empirical result. Using Australian data, we find evidence consistent with this explanation and show that model performance is greatly improved if an alternative interpolation method is used. In doing so, we also provide the first published Australian evidence on the accuracy of the futures‐based approach to pricing interest rate swaps.

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  • Rob Brown & Victor Fang, 2005. "Can the choice of interpolation method explain the difference between swap prices and futures prices?," Accounting and Finance, Accounting and Finance Association of Australia and New Zealand, vol. 45(2), pages 199-216, July.
    • Handle: RePEc:bla:acctfi:v:45:y:2005:i:2:p:199-216
    DOI: 10.1111/j.1467-629x.2004.00127.x
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