The LIBOR-OIS spread consists of LIBOR, which represents the interest rate at which banks may borrow unsecured funds within the interbank market, and the Overnight Index Swap Rate (OIS). The OIS is the fair, fixed coupon for an interest rate swap in which the floating leg is linked to the Fed Funds Effective Rate. LIBOR-OIS spread is referenced when gaging cash scarcity among banks, as well as bank credit risk.
Until a few years ago, most traders didn’t pay much attention to the difference between two important interest rates, the London Interbank Offered Rate (LIBOR) and the OVERNIGHT INDEX SWAP (OIS) rate. That’s because, until 2008, the gap, or “spread,” between the two was minimal.
But when LIBOR briefly skyrocketed in relation to OIS during the financial crisis beginning in 2007, the financial sector took note. Today, the LIBOR-OIS spread is considered a key measure of credit risk within the banking sector.
All photography by Jared Chambers