TERM RATES, MULTICURVE TERM STRUCTURES AND OVERNIGHT RATE BENCHMARKS: A ROLL–OVER RISK APPROACH
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TERM RATES, MULTICURVE TERM STRUCTURES AND OVERNIGHT RATE BENCHMARKS : A ROLL–OVER RISK APPROACH. / Backwell, Alex; Macrina, Andrea; Schlögl, Erik; Skovmand, David.
In: Frontiers of Mathematical Finance, Vol. 2, No. 3, 2023, p. 340-384.Research output: Contribution to journal › Journal article › Research › peer-review
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TY - JOUR
T1 - TERM RATES, MULTICURVE TERM STRUCTURES AND OVERNIGHT RATE BENCHMARKS
T2 - A ROLL–OVER RISK APPROACH
AU - Backwell, Alex
AU - Macrina, Andrea
AU - Schlögl, Erik
AU - Skovmand, David
N1 - Publisher Copyright: © 2023, American Institute of Mathematical Sciences. All rights reserved.
PY - 2023
Y1 - 2023
N2 - In the current LIBOR transition to overnight–rate benchmarks, it is important to understand theoretically and empirically what distinguishes actual term rates from overnight benchmarks or “synthetic” term rates based on such benchmarks. The well–known “multi–curve” phenomenon of tenor basis spreads between term structures associated with different payment frequencies provides key information on this distinction. This information can be extracted using a modelling framework based on the concept of “roll–over risk”, i.e., the risk a borrower faces of not being able to refinance a loan at (or at a known spread to) a market benchmark rate. Separating the roll–over risk priced by tenor basis spreads into a credit–downgrade and a funding–liquidity component, the theoretical modelling and the empirical evidence show that proper term rates based on the new benchmarks remain elusive and that a multi–curve environment will persist even for rates secured by repurchase agreements.
AB - In the current LIBOR transition to overnight–rate benchmarks, it is important to understand theoretically and empirically what distinguishes actual term rates from overnight benchmarks or “synthetic” term rates based on such benchmarks. The well–known “multi–curve” phenomenon of tenor basis spreads between term structures associated with different payment frequencies provides key information on this distinction. This information can be extracted using a modelling framework based on the concept of “roll–over risk”, i.e., the risk a borrower faces of not being able to refinance a loan at (or at a known spread to) a market benchmark rate. Separating the roll–over risk priced by tenor basis spreads into a credit–downgrade and a funding–liquidity component, the theoretical modelling and the empirical evidence show that proper term rates based on the new benchmarks remain elusive and that a multi–curve environment will persist even for rates secured by repurchase agreements.
KW - affine term structure models
KW - basis swaps
KW - calibration and estimation
KW - IBOR
KW - interest rate benchmark reform
KW - LIBOR transition
KW - multi–curve interest rate term structure
KW - OIS
KW - risk–free rates
KW - Roll–over risk
U2 - 10.3934/fmf.2023009
DO - 10.3934/fmf.2023009
M3 - Journal article
AN - SCOPUS:85153779641
VL - 2
SP - 340
EP - 384
JO - Frontiers of Mathematical Finance
JF - Frontiers of Mathematical Finance
SN - 2769-6715
IS - 3
ER -
ID: 391119151