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| Type | Master's Thesis |
| Scope | Discipline-based scholarship |
| Title | What drives the swap spreads: the negative spread paradox |
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| Institution | University of Zurich |
| Faculty | Faculty of Business, Economics and Informatics |
| Number of Pages | 53 |
| Date | 2020 |
| Abstract Text | This work aims to uncover effects, and assess their magnitude, of macroeconomic factors and financial indicators which determined the U.S. swap spreads from 2004 to 2018. The variation of the drivers is incorporated into the dynamics of the swap spreads under the form of credit spread and liquidity risk premium variations. Taking this into consideration, this work is also comprehensive of a qualitative analysis of factors which determined and kept swap spreads in negative territory, and subsequently what consequences this had on risk management considerations for the actors of the after-crisis financial environment. To achieve that, the swap spread curve dynamics across all tenors, which constitute the dimension of the term structure itself, is collapsed in three main components (level, slope and curvature movements) via the Principal Components Analysis. This dimensionality reduction allows to operate in a more comfortable 3-dimensional space. The macroeconomic factors candidates are then regressed over each of these main components and the result show a significant influence of credit spread component (mainly determined by 3-months LIBOR rate) over the parallel shifts and at the same time evidence of liquidity factors (Volatility Index, TED spread and 3-months LIBOR-GC repo spread) influencing the slope of the swap spreads over the same period. The results are compared with previous studies and the main contribution to the financial literature is a solid and new analytical approach to the modelling of the swap spread term structure together with the uncover of new drivers for each isolated dynamic of the curve. This is coupled with considerations regarding the regulatory requirements for leverage ratios of banks which disincentivized banks from exploiting the arbitrage opportunity arising from negative swap spreads environment. |
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