New swap market launched to create reliable interest rate benchmark
The Bangko Sentral ng Pilipinas (BSP) and Bankers Association of the Philippines (BAP) on Monday launched an “enhanced” peso interest rate swap (IRS) market in hopes of creating a new benchmark yield curve that is good enough in pricing short-term loans and bonds.
Under the plan, BAP will create the local IRS overnight reference rate (ORR) based on the BSP’s variable overnight reverse repurchase rate, which is set daily and changes depending on the needs of the banks.
IRS allows a borrower to sell bonds using the most attractive rates that can be offered to creditors at the time of the sale, then repay the principal amount and borrowing costs via a financing schedule they desire. This typically involves the exchange of a fixed interest rate for a floating rate—which changes periodically based on market conditions—or vice versa.
BAP wants the upcoming ORR to be acknowledged by the International Swaps and Derivatives Association (ISDA) by November.
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Meanwhile, the BSP will publish the daily variable reverse repurchase rate benchmark, while Bloomberg will serve as the trading platform for the enhanced peso IRS.
Article continues after this advertisementSo far, 15 banks have committed to be market makers, quoting two-way prices for one-, three- and six-month swaps against the ORR.
Article continues after this advertisementBAP and the BSP said these “market-based quotes from a large number of banks will form
reliable benchmarks that banks and borrowers can use for pricing loans.” It will also have longer tenors of one, two, three, four, five, seven and 10 years.
As it is, the creation of a new and good benchmark yield curve is one of BSP Governor Eli Remolona Jr.’s three wishes for a deep and liquid capital market.
For his part, Paul Raymond Favila, chair of BAP Open Market Committee, said the new yield curve that would emerge from the IRS would not replace the Philippine Bloomberg Valuation (BVAL), which Remolona had repeatedly called a “choppy yield curve” that is not good in pricing debt instruments.
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BVAL is the current benchmark being used following the 2023 phaseout of the London Interbank Offered Rate due to scandals involving alleged yield manipulation by rate-setting banks.
”We are not anticipating necessarily a replacement. In any jurisdiction, the determination of the benchmark is actually determined by the users themselves,” Favila said.
”So what we are trying to do is to provide options, hopefully deeper, better options and let the market evolve accordingly,” he added.
Separately, Remolona said the improved IRS market could help deepen the local capital market and reduce the lag in transmission of monetary policy to six months.
“Right now, the lag is one to one and a half years. So that’s pretty long,” he said. “A benchmark yield curve will help in the pricing of bank loans and corporate bonds, and thus strengthen the transmission mechanism for monetary policy.”
