IDEAS home Printed from
MyIDEAS: Login to save this article or follow this journal

Decomposing swap spreads

  • Feldhütter, Peter
  • Lando, David

We analyze a six-factor model for Treasury bonds, corporate bonds, and swap rates and decompose swap spreads into three components: a convenience yield from holding Treasuries, a credit risk element from the underlying LIBOR rate, and a factor specific to the swap market. The convenience yield is by far the largest component of spreads. There is a discernible contribution from credit risk as well as from a swap-specific factor with higher variability which in certain periods is related to hedging activity in the mortgage-backed security market. The model also sheds light on the relation between AA hazard rates and the spread between LIBOR rates and General Collateral repo rates and on the level of the riskless rate compared to swap and Treasury rates.

If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL:
Download Restriction: Full text for ScienceDirect subscribers only

As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.

Article provided by Elsevier in its journal Journal of Financial Economics.

Volume (Year): 88 (2008)
Issue (Month): 2 (May)
Pages: 375-405

in new window

Handle: RePEc:eee:jfinec:v:88:y:2008:i:2:p:375-405
Contact details of provider: Web page:

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:

as in new window
  1. Lando, David & Skodeberg, Torben M., 2002. "Analyzing rating transitions and rating drift with continuous observations," Journal of Banking & Finance, Elsevier, vol. 26(2-3), pages 423-444, March.
  2. Jin-Chuan Duan & Jean-Guy Simonato, 1995. "Estimating and Testing Exponential Affine Term Structure Models by Kalman Filter," CIRANO Working Papers 95s-44, CIRANO.
  3. Robert A. Jarrow & David Lando & Fan Yu, 2005. "Default Risk And Diversification: Theory And Empirical Implications," Mathematical Finance, Wiley Blackwell, vol. 15(1), pages 1-26.
  4. Francis A. Longstaff, 2004. "The Flight-to-Liquidity Premium in U.S. Treasury Bond Prices," The Journal of Business, University of Chicago Press, vol. 77(3), pages 511-526, July.
  5. Duffie, Darrell & Huang, Ming, 1996. " Swap Rates and Credit Quality," Journal of Finance, American Finance Association, vol. 51(3), pages 921-49, July.
  6. repec:cup:cbooks:9780521405737 is not listed on IDEAS
  7. White, Halbert, 1982. "Maximum Likelihood Estimation of Misspecified Models," Econometrica, Econometric Society, vol. 50(1), pages 1-25, January.
  8. Jarrow, Robert A & Lando, David & Turnbull, Stuart M, 1997. "A Markov Model for the Term Structure of Credit Risk Spreads," Review of Financial Studies, Society for Financial Studies, vol. 10(2), pages 481-523.
  9. Francis A. Longstaff & Sanjay Mithal & Eric Neis, 2004. "Corporate Yield Spreads: Default Risk or Liquidity? New Evidence from the Credit-Default Swap Market," NBER Working Papers 10418, National Bureau of Economic Research, Inc.
  10. Suresh Sundaresan & Zhenyu Wang, 2006. "Y2K options and the liquidity premium in Treasury bond markets," Staff Reports 266, Federal Reserve Bank of New York.
  11. Duffee, Gregory R, 1999. "Estimating the Price of Default Risk," Review of Financial Studies, Society for Financial Studies, vol. 12(1), pages 197-226.
  12. Duffie, Darrell & Singleton, Kenneth J, 1999. "Modeling Term Structures of Defaultable Bonds," Review of Financial Studies, Society for Financial Studies, vol. 12(4), pages 687-720.
  13. Pierre Collin-Dufresne, 2001. "On the Term Structure of Default Premia in the Swap and LIBOR Markets," Journal of Finance, American Finance Association, vol. 56(3), pages 1095-1115, 06.
  14. Duffie, Darrell & Singleton, Kenneth J, 1997. " An Econometric Model of the Term Structure of Interest-Rate Swap Yields," Journal of Finance, American Finance Association, vol. 52(4), pages 1287-1321, September.
  15. Dwight Jaffee, 2003. "The Interest Rate Risk of Fannie Mae and Freddie Mac," Journal of Financial Services Research, Springer, vol. 24(1), pages 5-29, August.
  16. Brent W. Ambrose & Tao-Hsien Dolly King, 2002. "GSE debt and the decline in the Treasury debt market," Proceedings, Federal Reserve Bank of Cleveland, pages 812-847.
  17. Jun Liu & Francis A. Longstaff & Ravit E. Mandell, 2006. "The Market Price of Risk in Interest Rate Swaps: The Roles of Default and Liquidity Risks," The Journal of Business, University of Chicago Press, vol. 79(5), pages 2337-2360, September.
  18. Darrell Duffie & Jun Pan & Kenneth Singleton, 2000. "Transform Analysis and Asset Pricing for Affine Jump-Diffusions," Econometrica, Econometric Society, vol. 68(6), pages 1343-1376, November.
  19. Robert Jarrow, 2010. "Convenience yields," Review of Derivatives Research, Springer, vol. 13(1), pages 25-43, April.
  20. Long Chen & David A. Lesmond & Jason Wei, 2007. "Corporate Yield Spreads and Bond Liquidity," Journal of Finance, American Finance Association, vol. 62(1), pages 119-149, 02.
  21. Joost Driessen, 2005. "Is Default Event Risk Priced in Corporate Bonds?," Review of Financial Studies, Society for Financial Studies, vol. 18(1), pages 165-195.
  22. Sun, Tong-sheng & Sundaresan, Suresh & Wang, Ching, 1993. "Interest rate swaps: An empirical investigation," Journal of Financial Economics, Elsevier, vol. 34(1), pages 77-99, August.
  23. repec:cup:cbooks:9780521321969 is not listed on IDEAS
  24. Michael Johannes & Suresh Sundaresan, 2007. "The Impact of Collateralization on Swap Rates," Journal of Finance, American Finance Association, vol. 62(1), pages 383-410, 02.
  25. Duffie, Darrell, 1996. " Special Repo Rates," Journal of Finance, American Finance Association, vol. 51(2), pages 493-526, June.
  26. Roberto Perli & Brian Sack, 2003. "Does mortgage hedging amplify movements in long-term interest rates?," Finance and Economics Discussion Series 2003-49, Board of Governors of the Federal Reserve System (U.S.).
  27. Jordan, Bradford D & Jordan, Susan D, 1997. " Special Repo Rates: An Empirical Analysis," Journal of Finance, American Finance Association, vol. 52(5), pages 2051-72, December.
  28. Lang, Larry H. P. & Litzenberger, Robert H. & Luchuan Liu, Andy, 1998. "Determinants of interest rate swap spreads," Journal of Banking & Finance, Elsevier, vol. 22(12), pages 1507-1532, December.
  29. Edwin J. Elton, 2001. "Explaining the Rate Spread on Corporate Bonds," Journal of Finance, American Finance Association, vol. 56(1), pages 247-277, 02.
  30. Vincent Reinhart & Brian Sack, 2002. "The changing information content of market interest rates," BIS Papers chapters, in: Bank for International Settlements (ed.), Market functioning and central bank policy, volume 12, pages 340-357 Bank for International Settlements.
  31. Qiang Dai & Kenneth J. Singleton, 2000. "Specification Analysis of Affine Term Structure Models," Journal of Finance, American Finance Association, vol. 55(5), pages 1943-1978, October.
  32. Hua He, 2000. "Modeling Term Structures of Swap Spreads," Yale School of Management Working Papers ysm150, Yale School of Management, revised 01 Mar 2001.
Full references (including those not matched with items on IDEAS)

This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

When requesting a correction, please mention this item's handle: RePEc:eee:jfinec:v:88:y:2008:i:2:p:375-405. See general information about how to correct material in RePEc.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei)

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

If references are entirely missing, you can add them using this form.

If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.