Re: More on Inverted Yield Curves: point of clarification

[Warren Mosler <mosler@xxxxxxxx>]

'Swaps' are not actually secities.
In this case I was refering to 'libor swaps' which
are contracts to pay a fixed rate and receive a floating
rate for the term of the swap.

For example, if a 10 year libor swap trades at 7.5%, every three
months one counterparty will pay the other an annual rate of 7.5% (of
the
notional amount of the contract) and receive the 3 month libor
rate (currently about 6%).  The 7.5% stays 'fixed' for the 10 year term
while the 3 mos libor rate can fluctuate.

It is pretty much the same as buying a 10 year fixed rate security and
agreeing to
borrow the money to pay for it with the borrowing rate reset every three
months.

With a callable swap, the payer of the fixed rate, for example, might
have the right
to terminate the agreement without penalty at any time.  In return the
fixed
rate would be higher than otherwise, as market forces find the
indifference level
for the 'call' feature.

Since the home owner can refinance his mortage at anytime, there is a
similarity
to a callable swap.  And since agency backed mortgages can be used as
collateral
to borrow $ at a little below 3 month libor, libor swaps are a robust
offset to
the cash flows of mortgage paper.

Probably all the major broker dealers and banks make markets in libor
swaps.
The bid offer spread is generally about a basis point.

Warren

>Warren:  Second request...Why do you think mortgages track the swap
>market?  Are those securities good substitutes for mortgage backed
>securities?

>Chris



Christopher Niggle wrote:
>
> Warren:
>
> What is the "callable swap market" you refer to?  What securities are
> traded?  Sounds familiar, but I'm fuzzy about swaps.  Thanks for the
> clarification.
>
> Chris
>
> On Sat, 5 Feb 2000, Warren Mosler wrote:
>
> >
> >
> > "J. Barkley Rosser, Jr." wrote:
> >
> > > Sean,
> > >       Actually mortgage rates have been much more
> > > closely tracking the 10-year securities than the 30-year
> > > ones for some time.  No big deal there.
> > > Barkley Rosser
> >
> > To be even more precise, mortgages have been tracking the
> > callable swap market within a few cents for years.
> >
> > Warren