New Trade Strategies

The Blue Rose team has been educating and assisting clients with the consideration and execution of derivatives for more than 20 years. With an expert like Blue Rose by your side, you can be confident that you are being fairly represented and adequately informed before entering into complicated financial transactions such as derivatives.

Interest Rate Swaps

An interest rate swap is a derivative financial instrument in which two counterparties contractually agree to exchange interest rate cash flows, based on a specified notional amount, from a fixed rate to a floating rate (a “vanilla swap”) or from one floating rate to another floating rate (a “basis swap”). In the most common vanilla swap, one counterparty agrees to make predetermined fixed payments to the other counterparty and receives floating rate payments based upon an index (such as LIBOR) in return. Interest rate swaps are often used when one party is currently paying a floating rate but wants to pay a fixed rate and the other party wants to do the opposite. Interest rate swaps are used to hedge against potential changes in interest rates or the relationships between them.

Blue Rose provides a full range of swap advisory services to clients that are considering the use of interest rate swaps as part of their overall debt management strategy.

Inflation Swaps

An inflation swap is an over-the-counter or exchange-traded derivative that is similar in structure to a vanilla swap but instead of being indexed to LIBOR or some other interest rate index, it is indexed to the Consumer Price Index (“CPI”) or some other inflation indicator. Inflation swaps are used because certain entities suffer from inflation (insurance companies, pension funds, etc.) and others benefit from inflation (retail, real estate, utilities, etc.). An inflation swap is one way to transfer inflation risk or benefit from one party to another.

Basis Swaps or “Floating/Floating” Swaps

Instead of exchanging a fixed for a floating rate index as used in a “vanilla” interest rate swap, a basis swap exchanges one variable rate index for another variable rate index. For example, a LIBOR/LIBOR basis swap exchanges the netted cash flows of two different LIBOR indices such as 1-month LIBOR for 3-month LIBOR. A credit premium exists for term lending versus rolling funding in shorter intervals and the basis is the value of this optionality. Additional combinations of floating indices exist for basis swap pairings to convert exposure or capitalize on mean reversion expectations. Using basis swaps as a hedging tool allows entities to switch from one index to another when their needs change without having to renegotiate or terminate the underlying hedges.

Call a Blue Rose Advisor if you are interested in understanding how a basis swap might fit into your overall hedging strategy.


Total Return Swaps

Total Return Swap applications exist in many markets. Today, most Total Return Swaps are done in primary market transactions. These transactions often involve long-term bonds and a short-term Total Return Swap. In such deals, a borrower privately places long-term bonds with a bank, and then enters into a much shorter term Total Return Swap with the bank. Thus the bank becomes the holder of the bonds as well as the swap counterparty. The bank holding both the bonds and the swap can change the economics and credit exposure favorably for the bank and allow for more favorable overall pricing. From a borrower’s perspective a Total Return Swap can achieve short-term funding costs with long-term committed capital characteristics and eliminate the renewal risk often associated with revolving debt.

Constant Maturity Swaps ("CMS")

The yield curve is generally upward sloping. At times, however, the curve is far from its mean, and taking a position with an expectation of mean reversion is an acceptable risk/reward proposition. All tenors (maturities) of the curve can be evaluated for risk/reward opportunities. A CMS rate is re-set every period to equal the most recent swap rate of the specified tenor (or the spread between the most recent swap rates of different specified tenors). For example, a CMS swap might obligate one party to pay the most recent 30-year swap rate to a counterparty, whose obligation is to pay 3-month LIBOR.