tag:blogger.com,1999:blog-61725200848981133272024-03-28T09:52:56.233+00:00Marc Henrard - Multi-curve frameworkSome personal views about the world. Information about my books: "Interest Rate Modelling in the Multi-curve Framework: Foundations, Evolution, and Implementation" (2014) and "Algorithmic Differentiation in Finance Explained" (2017).Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.comBlogger264125tag:blogger.com,1999:blog-6172520084898113327.post-72078069540737828002024-03-28T09:52:00.000+00:002024-03-28T09:52:13.302+00:00Pertes de la BNB: c’était prévu et nous payons!La BNB: 3 milliards de pertes et encore 6 milliards à venir. Voir par example l’article de l’Echo: <a href="https://www.lecho.be/les-marches/actu/general/la-perte-de-la-bnb-a-depasse-3-milliards-d-euros-en-2023/10536236.html" target="_blank">La perte de la BNB a dépassé 3 milliards d'euros en 2023</a>.
<h3>1) C’était le but! C’était prévu!</h3>
<h3>2) Quis custodiet ipsos custodes?</h3>
<h3>3) Quatrième pouvoir?</h3>
<hr />
<h3 style="text-align: left;">1) C’était le but!</h3>
<p>Les achats d’obligations gouvernementales avaient pour but de diminuer le coût des emprunts pour les États concernés. Il y a bien sur la fiction que ce n’est pas du financement des états parce que les obligations sont achetées dans le marché secondaire aux banques commerciales. Une fiction car les banques commerciales; achètent ces obligations sur le marché primaire à un prix surévalué uniquement parce qu’elles savent qu’elles peuvent les revendre à un prix encore plus surévalué aux banques centrales.</p>
<p>C’est d’une certaine façon un “pump and dump”. Si ce n’est que dans le “pump” le seul pompage est par les banque centrales et le reste sait que ce pump n’intervient que pour soutenir un actif de moindre qualité. Et quand arrive le temps du “dump”, il n’y a plus personne pour acheter, donc une perte.</p>
<p>Ces achats sont intervenus dans une période où ces banques centrales ont maintenu artificiellement les taux bas pour soutenir les états (et les chiffres économiques en général). Maintenir les taux artificiellement bas veut dire qu’ils seront relevés plus tard à un niveau “normal”, d’autant plus que ces taux bas vont créer naturellement une inflation supérieure. Phénomène accentué par des guerres dans des régions riches en énergie (pétrole, gaz). Ces guerres sont peut-être la seule part de ce post qui n’a pas été causé par les banques centrales. Mais revenons à nos investissements en obligations gouvernementales. Une hausse des taux veut dire baisse des prix, donc pertes pour les investisseurs. Ces pertes ne sont pas encore reconnues car la comptabilité ne se fait pas en valeur de marché. C’est les 6 “petits“ milliards des pertes supplémentaires “en cinq ans”. Dire que c’est une perte dans le futur est bien sûr un mensonge, la perte est déjà là économiquement, mais il est possible de la cacher dans le bilan comptable encore quelques années.</p>
<p>J’ai utilisé le terme “nos” investissements, car il s’agit réellement d’un investissement fait par nous, les contribuables. Les profits de la BNB sont versés au trésor belge et représentent d’une certaine façon la rente de transfert de la part de notre souveraineté qui concerne le droit de battre monnaie. Donc la perte de 9 milliards est bien la nôtre, non pas celle d’une entité isolée qui ne nous concerne pas. La BNB est incorporée comme une société anonyme, mais par ses statuts et les règles de distribution des bénéfices, elle fait partie de notre patrimoine commun. [Art. 49. - Les bénéfices annuels sont répartis de la manière suivante : ... 4. le solde est attribué à l'Etat].</p>
<p>Et avec un gouverneur qui ne comprend pas ce qu’est une gestion des risques de taux dans une banque (ou qui est malhonnête et prend des décisions politiques plutôt que économiques), ce n’est pas étonnant. Voir <a href="https://multi-curve-framework.blogspot.com/2024/01/le-gouverneur-de-la-bnb-est-il.html">https://multi-curve-framework.blogspot.com/2024/01/le-gouverneur-de-la-bnb-est-il.html</a></p>
<h3>2) Quis custodiet ipsos custodes?</h3>
<p>La BNB est à la fois une banque qui fait des investissements colossaux et un régulateur. Comme banque, elle agit d’une part comme un gestionnaire de fonds assez conservateur et d’autre part comme fond spéculatif. Le gestionnaire de fonds est pour l’investissement des réserves propres, les réserves de changes. Le fond spéculatif est pour les achat avec effet de levier d’obligations gouvernementales. Les fonds sont levés à court terme, les achats sont à moyen et long terme. Les risques sont des risques de liquidité et de taux. Le risque de liquidité est celui qui a entraîné la faillite de Dexia qui utilisait la même stratégie d’emprunter à court terme pour investir à moyen/long terme. Pour la BNB, on peut espérer, étant une banque centrale, qu’elle sera toujours en mesure d’emprunter à court terme à un taux “de marché”; ce risque ne c’est pas encore matérialisé. Le risque de taux provient de l’investissement à long terme à un taux fixe alors que les taux d’emprunt à court terme changent avec le marché; ces taux, donc le coût, ont fortement augmenté, d’où les pertes.</p>
<p>Ces pertes colossales ne sont pas une nouveauté dans l’histoire bancaire. On peut mentionner <a href="https://fr.wikipedia.org/wiki/Crise_des_Savings_and_loan" target="_blank">la crise des “saving and loans” aux Etats-Unis dans les années 80 et 90</a> et plus récemment la faillite de Silicon Valley Bank. Ce risque est bien connu et c’est pour cela que les banques commerciales sont contrôlées sur ce type de risques. Et les contrôleurs / régulateurs en Belgique sont … la BNB! Et oui, ce fond spéculatif est aussi le régulateur. Et qui contrôle ce que fait cette entité? La réponse est “personne”. Les institutions qui inventent les règles et contrôlent leur application ne sont soumises à aucune règle et aucun contrôle. Cette remarque vaut aussi pour les institutions financières internationales. En particulier la Banque des Règlement Internationaux (BRI-BIS) qui est l’institution qui à travers le Comité de Bâle propose les règles internationales mais qui n’est soumise à aucune d’elles. Faites ce que je dis, pas ce que je fais.</p>
<p>Si la BNB avait été soumise aux règles normales des banques, elle n’aurait pas passé les contrôles de risques depuis des années et serait en faillite aujourd’hui.</p>
<h3 style="text-align: left;">3) Quatrième pouvoir?</h3>
<p>Ce qui est plus étonnant c’est qu’il semble qu’aucun journaliste ne comprenne le fond du problème (ou qu’ils ont peur de jouer le rôle de quatrième pouvoir). Pas un commentaire explicatif dans les articles de presse, juste un copié/collé des annonces de la BNB.</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-44354166627803262902024-01-20T13:39:00.003+00:002024-01-20T13:39:52.605+00:00Le gouverneur de la BNB est-il imcompétent ou malhonnête?<p>Dans <a href="https://www.lecho.be/entreprises/banques/gouverneur-de-la-bnb-les-banques-ont-encore-une-marge-de-man-uvre-pour-augmenter-les-taux-d-epargne/10520881.html" target="_blank">un récent article de l’Echo</a> ont lit “S'exprimant dans l'émission "The Market" de la VRT, Pierre Wunsch, le gouverneur de la Banque nationale explique que les banques disposent encore d'une marge financière pour augmenter leurs taux d'épargne. Et d'ajouter: "Elles le feront, pas à grande vitesse. [...] "Emprunter de l'argent coûte aujourd'hui aux banques 4%. Nous ne cessons
de répéter qu'elles ont des prêts hypothécaires dans leur bilan et qu'elles ne peuvent donc pas offrir un taux d'épargne de 3 ou 4 % à tout le monde."<br /></p>
<p>Les paroles du gouverneur mènent à une conclusion: il est incompétent comme banquier ou il est incompétent comme régulateur (ou logique, non-exclusif). Il reste aussi la possibilité qu’il soit malhonnête intellectuellement et qu’il mente, mais je ne peux personnellement envisager une telle hypothèse.</p>
<p>Il est possible qu’il soit incompétent comme banquier et il ne comprends pas la gestion ALM d’une banque où les risques de taux des crédits hypoithécaires ont du être couverts d’une façon ou d’une autre, pas des swap de taux par example; il est possible qu’il soit incompétent comme régulateur et qu’il n’ai pas vérifié les bilans des banques pour s’assuré que les risques de taux sont effectivement couverts de manière effective.</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-49797762371582328842023-12-01T10:59:00.000+00:002023-12-01T10:59:10.795+00:00 Rigged: part 1 - Will there be a part 2?<p></p><br />I have been reading book “Rigged: The Incredible True Story of the Whistleblowers Jailed after Exposing the Rotten Heart of the Financial” (Andy Verity, Flint, June 2023) for some time. It was published several month ago, but I just finished it. To my defence, I have to say that I don’t feel comfortable reading fiction where the “bad guys” are systematically winning by cheating.<p></p>
<p>The book is the story of the miscarriage of justice done in the LIBOR manipulation story. The book content did not surprise me. For anybody having worked on a (swap) trading desk, it is clear that what was described by the accusation was impossible. It is not possible for some middle level trader to create a multi-year, multi-desk, multi-bank international conspiracy over open lines, broker lines, on open offices etc. without all around them, including compliance and senior management to be fully aware of what is going on. Moreover the regulators cannot be ignorant of the situation, except pleading complete incompetence, including illiteracy.</p>
<p>I have presented different workshops related to LIBOR transition since 2017. Since 2019, those presentations indicate two types of manipulations: the daily trading and the lowballing. Regarding the second one the presentation indicates “<i>Investigation into the rigging of Libor, the benchmark interest rate that tracks the cost of borrowing cash, has been unexpectedly closed in October 2019.</i>” with reference to a BBC article indicating clearly (in 2019 already) "<i>The decision comes despite evidence that implicates the Bank of England</i>.”</p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgGPpD9hfGC-d6cgcJqqr5SfTeuTnkwCo7II1NYHwYlMMNs4nCZB_XUHbNHQFOT3D3wUWqECWD8CmeLjR93T-OP8YJbed0vTyfUSWlSmIAL71Y6Zgt5Vyd_a58BN4rj13b7n5DIEqnnZz1omANP2hDDv-jlWv8Iq1YkrKToy2GUzzXcgf-kfueyTdM7jYU/s1500/libor-2020-unexpectedly%20copy.jpeg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1125" data-original-width="1500" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgGPpD9hfGC-d6cgcJqqr5SfTeuTnkwCo7II1NYHwYlMMNs4nCZB_XUHbNHQFOT3D3wUWqECWD8CmeLjR93T-OP8YJbed0vTyfUSWlSmIAL71Y6Zgt5Vyd_a58BN4rj13b7n5DIEqnnZz1omANP2hDDv-jlWv8Iq1YkrKToy2GUzzXcgf-kfueyTdM7jYU/s640/libor-2020-unexpectedly%20copy.jpeg" width="640" /></a></div>
<p>The future will tell us if a similar miscarriage of justice was done related to the death sentence of LIBOR itself. Andrew Baily, the author of ``The future of LIBOR’’ infamous speech was himself highly conflicted in this process. The pre-2008 LIBOR was not perfect; you could improve it or kill it. Improving it meant an in-depth analysis of its features, history and fixing habits. That in-depth analysis would have revealed the inappropriate role played by regulators, central banks and governments in the LIBOR low-balling. That meant revealing the role played by A. Baily in that story. Killing LIBOR was the best way to try to keep his records ``clean’’. Maybe in a couple of years a journalist inquiry will reveal the nefarious game played by the same regulators, central banks and governments in the LIBOR transition.</p>
<p>IOSCO, a regulator organisation is in the same way conflicted by transition. Its members are represented at its board by the personally conflicted persons. When IOSCO is publishing an anonymous hit piece on LIBOR replacements as described in “<a href="https://multi-curve-framework.blogspot.com/2023/07/a-personal-statement-on-iosco-statement.html" target="_blank">A personal statement on the IOSCO Statement on Alternatives to USD Libor</a>”, is it for the general public good or to cover the nefarious actions of its representatives.</p>
<p>
The official question to which the LIBOR setters had to answer was ``<i>At what rate could you borrow funds, were you to do so by asking for and then accepting interbank offers in a reasonable market size just prior to 11 am?</i>’’</p>
<p>
To make my comment cleared, I will rephrase the question with a slightly different grammar. ``<i>What is the/a rate a which you could borrow funds, were you to do so by asking for and then accepting interbank offers in a reasonable market size just prior to 11 am?</i>’’</p>
<p>
The first sentence hides behind the grammar the fact that it is not clear if the article in front of the “rate” is an indefinite article (a) or a definite article (the). This makes all the difference in the world about the LIBOR ``scandal'’. Is there a unique well defined rate behind LIBOR or a range of acceptable rates? In all the (mis-)trials of LIBOR setters and traders, the prosecutors hide their accusations behind that ambiguity, securing ``guilty pleas'’ by blackmailing some middle-level bankers without any clear reference to actual laws and rules that were broken.</p>
<p>Then we continue the sentence with ``could’’ and ``were’’. There was no requirement of an actual transaction, only the opinion of the rate setter about what someone else would answer to a question that was not even asked. The issue with LIBOR was not the ``arrangements’’ for a tenth of a basis point of two by some bankers, it was the agreement by the banking industry in general and the regulators in particular that such an ambiguous figure would be the ``<i>most important number in the world</i>’’. Even if the LIBOR setting process was not officially regulated, the LIBOR name was often mentioned by central banks in relation to their monetary policies as a good indication of market rates. It implicitly gave credit to the process. And we come back to the indefinite article question. If the rate is hypothetical, as indicated by the ``could’’, how is it possible that the rate published has 7 decimals (5 when expressed in %)? The guess of 15 or so people leads to a rate with 7 decimals? This is a false sense of precision. Note that the original LIBOR in 1986 was up to a precision of 1/16 of a percent (6.25 basis points). That looked more reasonable in terms of precision.</p>
<p>
The sentence ends with ``<i>just prior to 11:00 am</i>”. Even if slightly imprecise with the ``prior’’ term there is at least a timing indication. The replacement rates that have been forced to the market by central banks and regulators, like SONIA, SOFR, ESTR or Term SOFR, do not even have that quality. SOFR for example is a ``<i>daily volume weighted median</i>’’. How do you hedge a ``<i>daily volume weighted</i>’’ number? How do you hedge a <i>median </i>number? The number is not representative of a market, it is representative of an accumulation of different markets. Moreover the market is manipulated by the same central bank, with hundreds of billions offered daily by the central bank in that same repo market. Also the regulation, like EU Benchmark Regulation (BMR), exempts the central bank of the registration and overview process to be allowed to publish a benchmark used in financial markets.</p>
<p>
Was the previous LIBOR benchmark centric market perfect? Certainly not! Is the new central bank manipulated overnight benchmark centric market better? That needs to be seen in the long term!</p>
<p>
That was part 1 of the “Rigged”. What would be part 2? The part 1 had a consequence of a very expensive and unfair transition to anticipatively remove LIBOR. I have described why I used “<i>unfair</i>” in numerous posts in this blog and on <a href="https://murisq.blogspot.com/" target="_blank">my professional blog</a>. The part 2 would have a similar rigged process for the transition. The central banks and regulators have played an important role in the transition. From the (in-)famous “the future of LIBOR” speech through the ARRC and similar committees to the synthetic LIBOR. Non-transparent decisions have been taken, creating billions of value transfers between market participants, from the smallest retail customers to the largest market makers. As one example of this unfair and non-transparent decision, we can look at the LIBOR conversion. ISDA ran a consultation process, itself not transparent and biassed, for a new definition to be applied to new trade. In a weak sense that was fair as the new definition is published before the participants trade on that new definition. But then regulators threaten participants with “difficult questions” if they don’t sign the protocol; the protocol which applies a new definition to old trades is by construction unfair. The CCP decided to apply the new definition also to the old trades, again unfair. But because the new definition are unmanageable from a risk perspective, as I have cautioned for a long time (see for example <a href="https://murisq.blogspot.com/2020/01/signing-libor-fallback-protocol.html" target="_blank">Signing the LIBOR fallback protocol: a cautionary tale</a>), the CCP did not actually used the new definition but a variation of it that I advised for several years (see <a href="https://murisq.blogspot.com/2021/01/cme-steers-away-from-isda-fallback.html" target="_blank">CME steers away from ISDA fallback</a>). And finally (really finally?) because all those threats and manipulations were not enough, the regulators invented the synthetic LIBOR to force those unfair changes to those who have resisted. This was done through a dictatorial power given to the regulators by the UK BMR as described in <a href="https://multi-curve-framework.blogspot.com/2022/12/synthetic-libor-genuine-manipulation.html" target="_blank">Synthetic LIBOR, genuine manipulation</a>.</p>
<p>
That was a long rant, but it sounds to me that there are enough question marks in this process that could lead to a “Rigged: part 2 - the manipulation of the transition” after “Rigged: part 1 - the manipulation of the manipulation”.</p>
<p>
But as a warning, I have been very bad at forecasting over the last years, always expecting that common sense would prevail. Clearly I’m not adapted to the real world. I should go back to <a href="https://multi-curve-framework.blogspot.com/2023/10/conspiracy-theorist.html" target="_blank">theory</a>!</p>
Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-29090744520481388212023-11-13T11:00:00.030+00:002023-12-01T09:18:08.711+00:00Convention!<p>The most boring, but the most read, document I ever wrote was the <a href="https://ssrn.com/abstract=2128257" target="_blank">Interest Rate Instruments and Market Conventions Guide</a>. The document is more than 10 years old and requires a serious update.</p>
<p>One thing that does not require an update is the convention for money market deposit in EUR. The convention is as always ACT/360 simple interest. The official ECB rates are at 4.00%, which means that if you invest today for one year a notional of 100,000 EUR, you get an interest from 15 November 2023 (T+2) to 15 November 2024 equal to 4,066.67 EUR (2024 is a leap year).</p><p>
</p><p>If a bank wants to trick a retail customer, he can claim that you can get an interest of 4.0556% without telling you that he is using an ACT/365F convention. The amount is the same (up to the rounding) but it sounds a lot better. You will naturally tell me that this is too much of a misleading trick and that consumer protection agencies will see that immediately and remind the bank about transparency and fair advertisement. A difference of 5.6 basis points may not look at a lot, but remember the LIBOR “<i>scandal</i>” — which actually is only a scandal in the way the justice departments, governments, central banks and regulatory bodies conspired against the truth as described in <a href="https://www.amazon.com/Rigged-Incredible-Whistleblowers-Exposing-Financial-ebook/dp/B0BV9G73M9" target="_blank">Rigged</a> — was in relation to “<i>manipulation</i>” of the order of magnitude of 0.1 basis point at best. </p>
<p>Apparently, this is not the case in Belgium. Belfius is quoting its term deposits in ACT/365 rates. Moreover it does not even indicate the convention, only the “<i>rate</i>” — without any indication on what it means — and the tenor.</p>
<p>As usual, I wrote to the FSMA (Financial Services Market Authority, in charge of consumer protection). I’m expecting their answer. Or more exactly, like in the previous cases I contacted them for financial “<i>errors</i>” in advertisement, I don’t expect any answer — beyond the “we forwarded your message to the relevant department" — and don’t expect any action from them.</p>
<hr />
<p>Added 2023-11-27: After 13 days, I did receive an answer from the FSMA. It says</p>
<p style="margin-left: 40px; margin-right: 40px; text-align: left;"><i>La FSMA a pour mission d’exercer certaines tâches de contrôle des banques, mais pas de jouer un rôle d’intermédiation si un consommateur formule une plainte au sujet d’une banque.</i></p>
<p>Not exactly what I would call an answer to the issue. I tell them there is a general transparency problem for consumers which is under their regulatory responsability and they answer that I should contact the bank responsible for the problem, not the regulator!</p>
<hr />
Added 2024-12-01: For information, here is how the term "interest rate" is defined in the Belfius "product information"
<p style="margin-left: 40px; margin-right: 40px; text-align: left;"><i>Taux d'intérêt: Le taux dépend de la durée déterminée choisie. Le taux est fixe pendant la durée du placement.</i></p>
<p>Not the most detailed definition in term of convention in my opinion.</p>
<p>This is not a Belfius specific issue. ING "defines" the rate as
<p style="margin-left: 40px; margin-right: 40px; text-align: left;"><i>Taux d'intérêt: Le taux s’exprime toujours sur une base annuelle et est fixe pour toute la durée du placement.</i></p>
<p>At least they indicate it is an annualized rate!</p>
<hr />
<p>Added 2024-12-01: I explored the tools that the FSMA has created to help consumers to understand financial products. <a href="https://www.wikifin.be">https://www.wikifin.be</a>. There is a page related to term deposits: <a href="https://www.wikifin.be/fr/epargner-et-investir/produits-dinvestissement/produits-long-terme/quest-ce-quun-compte-terme">https://www.wikifin.be/fr/epargner-et-investir/produits-dinvestissement/produits-long-terme/quest-ce-quun-compte-terme</a></p><p>On that page, the term "rate" is not defined. But there is an example on how to compute the interest amount from the rate:</p>
<p style="margin-left: 40px; margin-right: 40px; text-align: left;"><i>Exemple: Vous versez 5000 euros sur un compte à terme d’une durée de quatre mois, avec un intérêt annuel brut de 1,20% (taux d’intérêt fictif). À la fin des quatre mois, (1/3 d’année), vous ne toucherez que 0,40% (1/3 des 1,20% d’intérêt), moins 30% de précompte mobilier = 0,28% d’intérêt. Sur vos 5000 euros, cela donne 14 euros d'intérêt net.</i></p>
<p>It sounds like the FSMA thinks that interests on money market term deposits in EUR are paid with a ACT/ACT ICMA convention or something like that. Not a good start to regulate the money market! Remember that during the so-called EURIBOR manipulation, the FSMA was in charge of its supervision!</p>
Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-42094271334690191232023-10-29T12:23:00.001+00:002023-10-29T12:23:50.966+00:00Indexation des salaires<p>La question de l'indexation des salaires en Belgique provoque bien des débats. Certains soutenant qu'elle nuit à la compétitivité belge et d'autres qu'elle est partie intégrante de paysage belge et que sa disparition causerait plus de troubles que de bénéfices.</p>
<p>La première remarque à faire est que la spécificité belge n'est pas l'indexation des salaires proprement dite mais son indexation automatique et réglementée. Partout les salaires augmentent plus ou moins avec l'inflation, les grandes questions sont: "<i>Quand?</i>" et "<i>Comment?</i>"</p>
<p>Pour le "<i>Quand?</i>", les salaires sont-ils augmentés avant – une protection –, avec – une indexation automatique – ou après – un rattrapage – l'inflation. Pour la Belgique, la réponse aujourd'hui est simple et nous était déjà donnée par le grand Jacques: "avec". Pour le reste du monde (qui n'utilise pas l'indexation automatique), la réponse est plus vague et est: "Cela dépend"! Ce qui est certain c'est qu'il y a une augmentation globale des salaires avec les prix. C'est presque la définition de l'inflation; l'inflation c'est le changement de coût nominal d'un panier fixe de biens. Une personne qui offre une quantité constante de biens ou services à la société recevra en échange une quantité constante de biens ou services, c'est-à-dire un revenu indexé. Il n'y a pas de doute que l'indexation a lieu.</p>
<p>Pour le "<i>Comment?</i>", les salaires changent-ils après des négociations individuelles, des négociations collectives ou lors du changement d'employeur – ou toute combinaison des trois?</p>
<p>Les employés (ou indépendants) qui ont la chance d'avoir des connaissances et des compétences qui intéressent les employeurs et qui ne semblent pas devenir obsolètes, peuvent, jusqu'à un certain point, décider de leur salaire. Pour eux, la réponse au "Quand?" est sans doute "avant" et le "Comment?" est par négociation individuelle. Le salaire reflète le coût de la vie aujourd'hui et l'augmentation prévue jusqu'à la prochaine discussion sérieuse de salaire (disons deux ans). Personne ne veut rentrer dans un cercle de discussions permanentes, une pour chaque saison. Pour ce type d'employés, la non-indexation automatique a comme effet un paiement de l'inflation par l'employeur avant qu'elle n'ait lieu et une nouvelle négociation individuelle du salaire après quelques années.</p>
<p>Pour la plupart des employés, si l'indexation automatique disparaissait, les "<i>rattrapages</i>" se feraient par des discussions collectives annuelles ou bi-annuelles. L'effet général ne serait pas très différent de l'indexation automatique que nous connaissons, les discussions en plus.</p>
<p>Ce que l'absence d'indexation automatique des salaires permet, c'est une flexibilité (en termes réels, pas nominaux) des salaires. Si une activité ou une profession est moins productive pour la société, en n'indexant pas les salaires dans ce domaine, on incite les employés à changer de domaine. L'absence d'indexation automatique des salaires peut être vue comme similaire aux bonus distribués pour certaines fonctions. Le bonus n'est pas un salaire supplémentaire – je ne parle pas ici des abus et fraudes que nous avons connus – , c'est un salaire faisant partie intégrante de la compensation mais qui peut être retiré, par exemple en cas de mauvaise conjecture ou si l'activité en question est moins intéressante. Le centre de la question sur l'indexation me semble être, faut-il imposer à tous et chaque année une négociation dont le résultat général est connu à l'avance à peu de chose près – augmentation du salaire en ligne avec l’inflation – pour résoudre les déséquilibres qui existent pour une minorité de domaines et cela peu fréquemment? Le plus simple n'est-il pas d'avoir une indexation automatique pour tous et la possibilité quand la situation le nécessite d'avoir une négociation pour certains travailleurs à certains moments?</p>
<p>En tant qu'employé et gestionnaire, mon choix est assez vite fait; je suis pour une indexation automatique, tout en introduisant plus de flexibilité et certains changements. Cette indexation ne devrait pas concerner l'entièreté du salaire, mais jusqu'à un plafond – lui-même indexé. Le salaire au-delà d'un certain niveau correspond à des compétences pointues et spécifiques et celui-ci doit de toute façon être revu régulièrement – à la baisse ou à la hausse.</p>
<p>Un effet souvent décrié de l'indexation automatique est de créer un "effet boule de neige"; l'inflation augmente les salaires qui augmentent l'inflation. Il y a un peu de vrai dans cette affirmation mais beaucoup de sous-entendus incorrects. L'effet boule de neige est infini dans le temps mais pas dans les valeurs. Le facteur multiplicatif de l'index entraîne que les prix forment une série géométrique, donc finie – même si l'effet total n'apparaît qu'après un temps infini. Prenons l'exemple d'un objet dont le coût relatif est 50% en matières premières et 50% en salaire. Si les matières premières augmentent de 20%, le coût relatif de l'objet passe de 1 à 1,1 – 10% d'augmentation. Après une certaine période, l'inflation est reportée sur les salaires qui augmentent de 10% et le coût passe à 1.15. L'effet continue et après deux périodes le coût est de 1.175 et il continue d'augmenter. Après un temps infini – si on vit jusque là –, le coût de l'objet atteint 1.20 avec 0.60 – 50% – en matière première et 0.60 – 50% – en salaire, exactement comme au début! Est-ce là l'effet "dévastateur" que les détracteurs du système mettent en avant: après un temps infini, les coûts relatifs des matières premières et des salaires sont les mêmes qu'au début et l'augmentation du prix des matières premières est incorporée dans les biens. Cela ressemble plus à de la neige fondante qu'à une avalanche! De plus, si le prix des matières premières diminuent par après pour revenir au prix de départ, les salaires reviennent aussi au niveau de départ – sauf si un cliquet de type “floor” est mis en place.</p>
<p>Les salaires à Bruxelles ne sont en général pas plus élevés qu'au Luxembourg, Paris, Londres ou Francfort, les capitales économiques autour de Bruxelles. Il ne semble pas que l'indexation automatique des salaires ait créé une augmentation générale et incontrôlée des salaires belges. Si "Les salaires des travailleurs belges ont à nouveau augmenté davantage que dans les pays voisins" (comme on peut le lire régulièrement), c'est peut-être simplement parce qu'ils sont plus bas.</p>
<p>Les journaux ont rapporté que les organisations patronales et la Banque nationale de Belgique (BNB) considéraient l'indexation automatique des salaires comme une "aberration". Je n'ai trouvé sur le site de la BNB (<a href="http://www.nbb.be">www.nbb.be</a>) aucun document avec une analyse de cette approche, ni une description de cette "aberration" (peut-être qu'un tel document existe et est caché quelque part). Si une discussion devait avoir lieu, il serait intéressant d'avoir de tels documents. Il ne suffit pas de regarder les choses à court terme ou à travers des slogans; il faut une analyse à long terme et les effets indirects doivent aussi être pris en compte. L'analyse des équilibres possibles ne suffit pas, la dynamique à partir de la situation actuelle doit aussi être étudiée. Ce blog ne prétend en aucun cas contenir de telles analyses; il présente quelques idées pour la réflexion.</p>
<p>
On peut aussi remarquer que les fonctionnaires européens et ceux de la <a href="https://www.bis.org/" target="_blank">Banque des Règlements Internationaux</a> (banque des banques centrales - BRI/BIS) bénéficient de l'indexation automatique des salaires. De plus, dans le cas de la BRI les salaires sont ajustés tous les trois ans pour être en ligne avec la "moitié supérieure" des salaires de fonctions comparables [1]. Comme tout le monde ne peut être dans la moitié supérieure, cette méthode créerait un vrai effet boule de neige si elle était appliquée par tous. La BNB étant un actionnaire historique de la BRI, libre à elle de proposer la non-indexation automatique des salaires pour les fonctionnaires de la BRI et de nous rapporter les résultats de l'expérience dans quelques années.</p>
<p>
En résumé, ma proposition serait: indexation automatique des salaires et plus de flexibilité par négociations.</p>
<p>[1] Source: 81st Annual Report of the BIS, Bank remuneration policy, p.138.</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-30721869858502760312023-10-25T10:56:00.001+01:002024-01-20T19:43:06.820+00:00A 6 sigma event every 2 months!<p>“<i>So much or so much sigma, that is a mathematical impossibility.</i>” I have seen this sentence many times on LinkedIn or similar places.</p>
<p>The supposed meaning of this sentence is that the probability of an event corresponding to <i>x</i> — with <i>x</i> being 3 or 6 or similar — standard deviations has a probability so small that it can be consider for all practical matter as impossible.</p>
<p>These comments are based on a misunderstanding of what “<i>sigma</i>” represents together with a confusion between “normal distribution” and “any distribution”.</p>
<p>I write this post with a discrete distribution notation but it can be extended easily — with a little bit of extra notations — to continuous distribution.</p>
<p>Suppose that my distribution has <i>n</i> points with values <i>a<sub>i</sub></i> and probabilities <i>p<sub>i</sub> = 1/n</i> (<i>i = 1, … , n</i>). The mean is</p>
<p>m = sum<sub>i=1</sub><sup>n</sup> a<sub>i</sub> p<sub>i</sub> = 1/n sum<sub>i=1</sub><sup>n</sup> a<sub>i</sub><br /></p>
<p>To simplify further my notations, I suppose that the mean is 0. </p>
<p>The standard deviation is the square root of variance, with variance </p>
<p>V = 1/n sum<sub>i=1</sub><sup>n</sup> (a<sub>i</sub>)<sup>2</sup></p>
<p>Let me take a very simple distribution with <i>n>2</i> and where all the values are 0, except the first 2 that are <i>b</i> and <i>-b</i>. The mean is indeed 0. The variance is</p>
<p>V = 1/n * 2 * b<sup>2</sup></p>
<p>and the volatility (sigma) is</p>
<p>s = sqrt(2/n) * b</p>
<p>What is the probability of an event with value larger or equal (in absolute value) to <i>x>0</i> standard deviation? We have</p>
<p>|a<sub>i</sub>| ≥ x * s = x * √(2/n) * b</p>
<p>if and only if</p>
<p>i = 1 or 2 and b ≥ x * √(2/n) * b.</p>
<p>The latter is equivalent to</p>
<p>n ≥ 2 * x^2.</p>
<p>Take <i>x = 3</i>. As soon as <i>n≥18</i>, there are results above 3 standard deviations. The probability of that happening is <i>2 * 1/n</i>. For the lowest number of points, <i>n=18</i>, the probability is <i>1/9</i>, more that 10%.</p>
<p>What that shows is that for at least one distribution, the probability of a 3 sigma event is more than 10%, i.e. one day every two weeks, if we consider only business days.</p>
<p>We can do the same with different x. The second column report the number of point and the third the probability that the distribution above (denoted <i>B</i>) is in absolute value above <i>x</i>.</p>
<table style="text-align: center; width: 100%;">
<tbody><tr>
<th>x</th>
<th>n</th>
<th>P (|B| ≥ x)</th>
<th>P (|N| ≥ x)</th>
</tr>
<tr>
<td>3</td>
<td>18</td>
<td>11.1111111%</td>
<td>0.2699796%</td>
</tr>
<tr>
<td>4</td>
<td>32</td>
<td>6.2500000%</td>
<td>0.0063342%</td>
</tr>
<tr>
<td>5</td>
<td>50</td>
<td>4.0000000%</td>
<td>0.0000573%</td>
</tr>
<tr>
<td>6</td>
<td>72</td>
<td>2.7777778%</td>
<td>0.0000002%</td>
</tr>
</tbody></table>
<p>This is compared in the last column with the probability of the normal distribution (denoted N) is in absolute value above x.</p>
<p>A 6 sigma event, it is only a one in 40 events, i.e. once every 2 months for daily measures. Nothing impossible there!</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-75107986296904045542023-10-21T13:09:00.001+01:002023-10-21T18:32:06.910+01:00Conspiracy theorist<p>I was told recently that I was a "<i>conspiracy theorist</i>". I was surprised, as this was delivered as an accusation while I took those words as a compliment and agree with them.</p>
<ul style="text-align: left;"><li><i>Theorist</i>: To define this term I need the comfort of a superior authority in definition: the Oxford dictionary. </li><li><i>Theorist</i>: "A person concerned with the theoretical aspects of a subject" </li><li><i>Theory</i>: "A set of principles on which the practice of an activity is based.</li></ul>
<p>
I would certainly not deny that I'm a theorist, I embrace it. I do theories as a permanent activity: how to price a FRA? How to transition benchmarks? How to hit a draw? How to hole puts? (Those two last items, with limited success) When to buy biscuits? As a mathematician, an (honorary) academic, quant, how can any one think that I'm not a theorist or I would deny it? I cannot imagine a theory that would explain such thinking! </p>
<p>
Also I'm principled based (not rules based) and a practitioner, so a set of principles on which the practice is based is certainly spot on. </p>
<p>
A theory is not something unique, one can have different theories at the same time. Theory goes with free speech, theory need to be validated, for that you need as many opinion and data as possible. Even a wrong theory can help you to understand why your theory is better (or worst) than you initially imagined. And certainly I'm in favor of free speech, even for false theory, and there must be an equal free speech to debunk the false theory; no "<i>safe space</i>" is allowed for theories.</p>
<ul style="text-align: left;"><li>
<i>Conspiracy</i>: A secret plan by a group to do something unlawful or harmful.</li></ul>
<p>
Of course some people do unlawful or harmful things, that is why we have police and courts. If you pay taxes and fund police and justice it is because you believe that some people (not you of course) may at some stage do "<i>unlawful or harmful things</i>". The people that do so, usually do it in secret and often plan it in advance. We are left only with the group issue. Human beings are social animals, so they often "<i>do things</i>" in group. </p>
<p>
Lobby groups, trade unions, trade associations, political parties are example of groups that could be associated to those secret plans. The groups are not illegal in their existence, but their raison d'être is to push for things that are positive for themselves, often by being negative or harmful to others in a relative way. Trade unions want better wages for workers and thus lower revenues for employers; lobby groups want less constraints on their group, reporting the impacts on others; trade associations push forward advantages for their members, at the cost of their clients or providers. </p>
<p>
Of course the world is full of conspiracies, small and large. Yes I try to understand them and create theories about them. Yes, I believe that some of those theories are true in part.</p>
<p>
If you want to insult me, don't call me a "<i>conspiracy theorist</i>", in theory, I can’t see any way this could be an insult. The worst insult would probably be "<i>useful idiot</i>". I certainly don't want to be useful in this context!</p>
<hr />
<p>
With those explanations, you understand that I agree that</p>
<blockquote>Open discourse is the central pillar of a free society</blockquote>
<p>As a logical consequence of this I agree in (very) large part with</p>
<blockquote><a href="https://westminsterdeclaration.org/" target="_blank">The Westminster Declaration</a></blockquote>
<p>Note that the web-site of the declaration is (at the time of writing) blocked by some network providers. A technical issue or the censorship of anti-censorship?</p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEg2uOAYCSmumpGgi2sE3fWPX69Cgnhm22ibP5oveAftz2-b43NuH8GWm_1RmSdvqLC565EfbTPV3d8hcplxkEi1tYqcsw5Lf-wC28hs3Ia5X-TIgJwAziJ8_CEW05mS_j1Zmj2UkDTXbDveQJHmvnQNm-qokGM01hVNCvRfR5WJbiJ-UPb6cb0G4ulQrO4/s1230/westminsterdeclaration-blocked.png" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="540" data-original-width="1230" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEg2uOAYCSmumpGgi2sE3fWPX69Cgnhm22ibP5oveAftz2-b43NuH8GWm_1RmSdvqLC565EfbTPV3d8hcplxkEi1tYqcsw5Lf-wC28hs3Ia5X-TIgJwAziJ8_CEW05mS_j1Zmj2UkDTXbDveQJHmvnQNm-qokGM01hVNCvRfR5WJbiJ-UPb6cb0G4ulQrO4/s640/westminsterdeclaration-blocked.png" width="640" /></a></div>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-74635016719540442622023-09-21T17:38:00.003+01:002024-01-20T19:39:49.869+00:00Le Parlement en discute ... entre incompétents.<p>Constant Maturity Swaps (CMS), nom d'apparence barbare et qui semblait réservé aux temps des excès d'avant la crise financière ... mais que certains au parlement voudraient imposer à tous les petits épargnants et aux banques.</p>
<p>Pour m'expliquer, je fais d'abord un petit détour de plus de 10 ans en arrière, au temps de la "commission Dexia". Le détour semble un peu audacieux, mais ces deux évènements sont liés, par l'incompétence financière de certains. J'ai toujours des textes que j'avais écrits alors et qui me servent d’inspiration pour ce post.</p>
<p>En 2011, Dexia S.A. a fait faillite, pas légalement faillite, mais c'est parce que nous, les contribuables Belges y avons injecté quelques milliards. Cette entité, distincte de Belfius (anciennement Dexia banque Belgique), continue à exister et à perdre de l'argent. Cette entité étant historiquement liée à l'état Belge, le parlement a créé une commission Dexia. Les conclusions de cette commission, bourrées de fautes financières, comme je l’avais décrit à l’époque, parlaient des produits grand public et la nécessité d’un agrément spécifique pour les produits complexes.</p>
<p>Peu de temps après, un parlementaire (Christianne Vienne pour ne pas la nommer), avait proposé de lier les taux des carnets d'épargne réglementée aux taux OLO 10 ans. Plus de 10 ans plus tard, je lis dans la presse (L’Echo, 20 septembre 2023, “Imposer un taux minimum sur l'épargne: le Parlement en discute”) que “Une autre proposition vise à fixer un taux minimum pour les 10.000 premiers euros d'épargne. Ce taux minimum serait équivalent à la moyenne du taux OLO à dix ans de l'État belge.” Je ne sais pas qui a fait cette proposition délirante.</p>
<p>Pourquoi cette proposition est-elle délirante? Cela revient à offrir aux épargnants un taux long terme sur une période court terme (l’intérêt du compte d’épargne est changé régulièrement et payé chaque année). Ce type de produit s’appelle en jargon financier un Constant Maturity Swaps (CMS), le terme barbare avec lequel je commençais ce blog. Recevoir un taux pour une “mauvaise” période (taux long sur une période courte) a un coût, connu sous le jargon, toujours aussi barbare, de “convexity” adjustment. De plus, comme l’argent peut être retiré à tout moment, il y a une option pour l'épargnant, l’équivalent d’une swaption sur CMS (toujours ces termes barbares, mais ce sont les parlementaires qui me forcent à en parler). Cette swaption est double, on peut augmenter ou diminuer le montant sur le compte et ce sans limite. </p>
<p>Il va sans dire qu’un tel compte serait ingérable pour les banques, sauf à mettre un marge gigantesque sur les comptes d'épargne. Une autre proposition dans la même discussion au parlement est d’instaurer une marge maximale entre le taux BCE et le taux sur l’épargne de maximum 2%. Une marge pour un compte lié à un taux OLO 10 ans serait probablement plus proche de 5% que de 2%. </p>
<p>En 2012, à l’époque de la proposition précédente, les réactions du monde bancaire étaient: “déconnecté de la réalité” (Febelfin) et “on va tous fermer” (CEO de Keytrade Bank). On va pouvoir ressortir ces expressions.</p>
<blockquote>
<div style="text-align: left;"><i>La folie, c’est se comporter de la même manière et s’attendre à un résultat différent.</i></div><br />
<div style="text-align: right;"><i>Albert Einstein</i></div>
</blockquote>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-78439405058179825842023-07-26T12:50:00.000+01:002023-07-26T12:50:34.419+01:00X dominates the world<p>For more than a decade, collateral discounting as been the de facto standard for derivative valuation. The central technical concept of this approach is the expectation under a currency — but not collateral mechanism — dependent measure.</p>
<p>That measure is denoted </p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEi0nYsi9gWVHBnrvSh1swd0a5SvGQVpQn83VUKpl7ES_B5-C7RBHu6CqxAj8o6fhqvL_r_qy5mJS_MFMK84a8EWBJeKV8hZKRumh2kqiixh05StHmRm_vly8hqUq8W9B5KV4qklyd59xgcVisGYqJILGYwrvhfLP6QIgkP3MIO4CaAoDCDyzFN7iFWW_Mw/s383/collateral-measure-X.png" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="368" data-original-width="383" height="307" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEi0nYsi9gWVHBnrvSh1swd0a5SvGQVpQn83VUKpl7ES_B5-C7RBHu6CqxAj8o6fhqvL_r_qy5mJS_MFMK84a8EWBJeKV8hZKRumh2kqiixh05StHmRm_vly8hqUq8W9B5KV4qklyd59xgcVisGYqJILGYwrvhfLP6QIgkP3MIO4CaAoDCDyzFN7iFWW_Mw/s320/collateral-measure-X.png" width="320" /></a></div>
<p>in part of the literature. This is the notation I used in my Multi-Curve Framework with Collateral paper in 2023. This is the paper that developed the details of the “collateral square” valuation, when the collateral is is an asset that can itself be used into a repo to obtain cash. The generic formula in that latter case is (originally described in formula 13 in the above paper).</p>
<p>The measure X appears in the expectation and is central to the approach, based on replication.</p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEguYCKXD3SHF8D3WbwP6DueX6q-7r46JO6SrliOmX2VPCVGBqkt7-IWPKaZber6vSycG25w0YmVu9KwZvMPPBbVQQ4GsXjlKuUbQkkUKFZbGWdCNqWoNDWiRmVEGf2HQlaagkFjzlS-Ae9nMYtMl0ng05f6dg7AAz3Vr40UJk6cmKUAHCog5gYg6Ev1iqY/s808/2023-07-collateral-discounting-theorem.png" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="182" data-original-width="808" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEguYCKXD3SHF8D3WbwP6DueX6q-7r46JO6SrliOmX2VPCVGBqkt7-IWPKaZber6vSycG25w0YmVu9KwZvMPPBbVQQ4GsXjlKuUbQkkUKFZbGWdCNqWoNDWiRmVEGf2HQlaagkFjzlS-Ae9nMYtMl0ng05f6dg7AAz3Vr40UJk6cmKUAHCog5gYg6Ev1iqY/s640/2023-07-collateral-discounting-theorem.png" width="640" /></a></div>
<p>It mathematics, it is traditional to add some marker (like a tilde or a bar) on some symbols to indicate another object similar or generated from the first one. One symbol that I like is the "check", which I called when I was lecturing in french "<i>oiseau</i>" for it resemblance to a flying bird. I will try in one of my forthcoming papers to use the following symbol for a measure:<br /></p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgQOVpmU6T56pcFnAUeIo2ZQkAtBQRW1PghBpAZOGg9YoSoZkTh1oXKnTK1rU5kLQGTlFCM0qkmrl156GZr_Zy707TeadMx4E-mJG8smqpM6QR4eQYOmpx3l7cZEzNYnB9B9TYm4IGfFpLv1XilJLk_NJ1YammADlVCKwaq7wQ8Mcqqc9ZO7Jtl2HAnwY4/s189/2023-07-collateral-measure-X-bluebird.jpg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="189" data-original-width="149" height="189" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgQOVpmU6T56pcFnAUeIo2ZQkAtBQRW1PghBpAZOGg9YoSoZkTh1oXKnTK1rU5kLQGTlFCM0qkmrl156GZr_Zy707TeadMx4E-mJG8smqpM6QR4eQYOmpx3l7cZEzNYnB9B9TYm4IGfFpLv1XilJLk_NJ1YammADlVCKwaq7wQ8Mcqqc9ZO7Jtl2HAnwY4/s1600/2023-07-collateral-measure-X-bluebird.jpg" width="149" /></a></div>
<p>This is a measure that will be called X-blue-bird. Obviously this is not related in any way to the recent social media related news!<br /></p>
<hr />
<p><b>Reference:</b></p>
<p>Henrard, Marc. <i>Multi-Curve Framework with Collateral</i><b> </b>(July 21, 2013). OpenGamma Quantitative Research, n.13, July 2013, Available at SSRN: <a href="https://ssrn.com/abstract=2302278" target="_blank">https://ssrn.com/abstract=2302278</a>.</p>
Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-17386630800498146062023-07-04T10:18:00.009+01:002023-08-19T14:52:14.990+01:00A personal statement on the IOSCO Statement on Alternatives to USD Libor<p>IOSCO has issued a document called “Principles for Financial Benchmarks” in 2013. As such it acted as an (unofficial/unelected) lawmaker.</p>
<p>On 3 July 2023, the same IOSCO issued a “<a href="https://www.iosco.org/library/pubdocs/pdf/IOSCOPD738.pdf" target="_blank">Statement on Alternatives to USD Libor</a>”.</p>
<p>The Statement looks like a tribunal judgement from a trial with no public hearing, no witness, and no defense right from a tribunal with no mandate to judge. And publish on the day before Independence Day!<br /></p><p>Some personal comments on the document.</p>
<h3 style="text-align: left;">Transparency </h3>
<p>The statement indicated “Administrators should consider whether to improve the transparency of their rates".</p>
<p>The IOSCO document lack minimum transparency. It does not indicate in any way the “varying degrees of vulnerability of concern“ of the analysed benchmarks. The name of the benchmark are not even indicated. This creates a culpability by association to all non-SOFR benchmarks.</p>
<p>The statement refers to a <i>Review of Alternatives to USD Libor</i>; to my knowledge, the review itself is not available. The statement is not signed. There is no way to discuss transparently with its authors.</p>
<h3 style="text-align: left;">Inverted pyramid</h3>
<p>SOFR is based on a market with around 1,000 to 1,500 billions of daily underlying repos. The SOFR-OIS outstanding amount at LCH only is around 100,000 billions with daily fixings. This is a ratio 100 fixing for each underlying. This is not an inverted pyramid according to IOSCO.</p>
<p>The daily underlying for the CME SOFR Term rate (1 quarterly 3-month + 3 monthly 1-month) is around 250 billions futures (plus short-term OIS with also a large volumes) to determine the 3-month fixing. To reach the 100 ratio, we need 250 * 100 * 60 = 1,500,000 billions of CME Term notional. The last 60 factor is due to quarterly reset of the instruments linked to 3-month term rates; which corresponds roughly to 60 business days. </p>
<p>The monthly volume of Term SOFR swaps is below 100 billions (see <a href="https://www.clarusft.com/term-sofr-and-bsby-volumes-may-2023/" target="_blank">Clarus blog</a>). With such a low volume, it impossible to reach anything close to the amounts from the previous paragraph, which are, according to IOSCO statement, an indication of absence of inverted pyramid.</p>
<p>For BSBY, the Clarus blog reference above indicates a volume below 1 billion a month. Each million a day of the underlying instruments used for the fixing would lead, using the same methodology as for Term SOFR, to 1M * 100 * 60 = 6 billion availability in outstanding derivatives without reaching the inverted pyramid.</p>
<p>According to <a href="https://www.bloomberg.com/professional/blog/the-bloomberg-short-term-bank-yield-index-bsby-a-year-in-the-life/" target="_blank">Bloomberg site related to BSBY</a>, the rates are "<i>based on the activity of a transparent list of 34 eligible banks and capturing typically over $200bn of trades and executable quotes daily across the maturity spectrum</i>". This is for all tenors (not only 3 months). Very conservatively, that would mean a minimum of 10 bn related the 3-month tenor. A 60,000 billions of outstanding notional would stay under the IOSCO review "non-inverted" pyramid level. <br /></p>
<p>In both cases it is very difficult to see a potential inverted pyramid with more “inversion” than the SOFR pyramid.</p>
<h3 style="text-align: left;">Terminology</h3>
<p>The statement indicated that “refrain from any representation that the CSRs reviewed are “<i>IOSCO-compliant</i>”.”. I fully agree with this statement, from a terminology point of view it should be “<i>IOSCO-benchmarks-principles-compliant</i>”. A benchmark should be compliant to principles (on a voluntary basis), not compliant to an (unrepresentative, non-elected, uncontrolled) organization.</p>
<h3 style="text-align: left;">Licensing restriction</h3>
<p>In <a href="https://multi-curve-framework.blogspot.com/2017/08/game-of-benchmarks-season-1-episode-3.html" target="_blank">one of the episode of my Season 1 of “Game of Benchmark” in 2017</a>, I discussed transparency of benchmarks. From my point of view, what should be part of transparency is (I quote from the previous post):</p>
<div style="margin-left: 40px; margin-right: 40px; text-align: justify;"><i>The benchmark itself should be public information; the numbers should be made public as soon as known, no license or fee should be required to obtain the number. Any analysis, of current data or historical data can be run by all interested parties, including any party in a trade, academics, regulators, etc. All the data used for the computation of the benchmark should be fully public as soon as known, no delay in the publication is allowed. Allowing a license/patent/fee on benchmarks used by retail (I’m not speaking here of the interbank market, where professionals are on an equal footing and free to chose their weapons), is creating an undue legal protection to block the fair assessment of the situation.</i></div>
<p>This exactly the opposite of what IOSCO wants. They want to impose “<i>Licensing restriction</i>” “<i>within certain products or by certain user groups</i>”. In practice, that means higher cost (see the CME Term rate basis), restriction on risk management and no independent analysis of the benchmark content.</p>
<hr />
<p>Note on 2023-07-08: <i>The paragraph related to the volume of trades used to determine BSBY has been added.</i></p>
<hr />
<p>Note on 2023-07-09: <i>With the FCA imposed synthetic LIBOR based on CME term rate, from my above transparency requirement, no licensing restriction should exists on SOFR CME Term Rate. </i></p>
<hr />
<p>Note on 2023-07-09: <i>Now that I have written on this issue, I'm expecting other journalists to follow suit. I will try to list below the relevant articles I find.</i></p>
<hr />
<p>Note on 2023-08-19: Some recent articles related to the IOSCO comments:</p>
<ul style="text-align: left;">
<li>BSBY/AMERIBOR - Not a Great July 4th: <a href="https://swapsandmarkets.substack.com/p/bsbyameribor-not-a-great-july-4th" target="_blank">https://swapsandmarkets.substack.com/p/bsbyameribor-not-a-great-july-4th</a></li>
<li>Bloomberg Short-Term Bank Yield Index. Underlying Volumes, Resiliency in Periods of Stress and Current Landscape
July 2023. <a href="https://assets.bbhub.io/professional/sites/10/Bloomberg-BSBY-Bulletin_July-2023.pdf" target="_blank">https://assets.bbhub.io/professional/sites/10/Bloomberg-BSBY-Bulletin_July-2023.pdf</a></li>
<li>CSRs fight for survival after ‘damning’ Iosco verdict <a href="https://www.risk.net/derivatives/7957353/csrs-fight-for-survival-after-damning-iosco-verdict" target="_blank">https://www.risk.net/derivatives/7957353/csrs-fight-for-survival-after-damning-iosco-verdict</a></li>
</ul>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-53178833882854281932023-07-01T08:35:00.000+01:002023-07-01T08:35:35.795+01:00Not the end of the world!<p>If you read this, it means that the world has not ended!</p>
<p>Good to know the world can exist without LIBOR.</p>
<p>Actually some GBP-LIBOR fixing will still be published to the end of March 2024 and some USD-LIBOR will still be published to the end of September 2024 due to FCA use of “Article 23A benchmarks”. Maybe I penciled the wrong “end of the world date” in my calendar!</p>
<p>New “real” LIBOR (by opposition to the one invented by FCA) fixings are not published anymore, but old fixings still exists. We can see almost 10 trillions of it in the LCH data of Outstanding IRS.</p>
<p>In number for 30 June 2023 on USD 3-month tenor:</p>
<ul style="text-align: left;">
<li>LIBOR fixing 5.54543</li>
<li>CME SOFR Term Rate: 5.26936</li>
<li>ISDA Spread: 0.26161</li>
<li>“Synthetic” LIBOR: 5.54543</li>
</ul>
<p>There is a 1.546 bps gap somewhere! Where would that be? According to market rumours, both LIBOR and CME SOFR Term Rate are representative market rate as of 30 June 2023. We can only conclude that ISDA Spread is not a representative market rate. Why it will be used from Monday onward for many tens of trillions of LIBOR products for which it was not designed is beyond me.</p>
<p>I would have expected that the FCA, in charge of protecting consumers, would have forbidden the use of such a rate. But the fact that the same FCA has made the synthetic rate mandatory through Article 29A has maybe created a conflict of interest at the consumers’s expense.</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-86982854273910251442023-04-27T13:47:00.001+01:002023-04-27T13:47:46.060+01:00Inflation des prix ou deflation des connaissances. <div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjKBRj20INoBW3A2yFQSsdyWe2tiVdp8AXdT-34dr6A_kB8QnhZVCVHLEluk_SyXFZSlKMfTXEk4n2HPNy6_iYiqFQcQLXAi-UmmrV-EIgjkO55WdGQS3QIHVJTjzrmzWOwiGrdElTi-LgMBLiZpYMnwoXcrFrzSJLJj4_QoGM-qdUORqIqycT3qXLv/s2047/IMG20230424181653%20copy.jpeg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1128" data-original-width="2047" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjKBRj20INoBW3A2yFQSsdyWe2tiVdp8AXdT-34dr6A_kB8QnhZVCVHLEluk_SyXFZSlKMfTXEk4n2HPNy6_iYiqFQcQLXAi-UmmrV-EIgjkO55WdGQS3QIHVJTjzrmzWOwiGrdElTi-LgMBLiZpYMnwoXcrFrzSJLJj4_QoGM-qdUORqIqycT3qXLv/s640/IMG20230424181653%20copy.jpeg" width="640" /></a></div>
<p>L’inflation des prix de l’alimentation fait des ravages. Maintenant 1,09 EUR est moins de 1,00 EUR. A ce prix là plus moyen de nourrir les cerveaux.</p>
<p>Faut-il envoyer le responsable en prison pour publicité mensongère ou à l’école primaire pour une petite révision?</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-5306309202913225932022-12-22T09:19:00.008+00:002022-12-26T14:22:20.522+00:00Synthetic LIBOR, genuine manipulationThe FCA, one of the UK regulators, is <a href="https://www.fca.org.uk/publications/consultation-papers/cp22-21-synthetic-us-dollar-libor" target="_blank">consulting on synthetic USD LIBOR</a>.<p>
</p><p>I have expressed my opinion about synthetic LIBOR on many occasions in the last couple of years, in conferences, seminars, informal discussions, etc., but I have not directly posted anything substantial on this blog. This post uses as an example the USD LIBOR to be created next June but applies in similar manners to GBP and JPY LIBOR created at the beginning of this year. I already mentioned synthetic LIBOR in my first blog after the official announcement of LIBOR discontinuation: “<a href="https://multi-curve-framework.blogspot.com/2021/03/ale-jacta-est-libor-non-est.html" target="_blank"><i>Alea iacta est: LIBOR non est</i></a>”.</p><p>
</p><p>For a transition that was announced by the same FCA in its ill-titled <a href="https://multi-curve-framework.blogspot.com/2017/07/libor-is-dead-game-of-thrones-can-start.html" target="_blank">“the future of LIBOR” speech</a> more than 5 years ago and that was described as at a date that ``<i>is far enough away</i>”, if the need for a synthetic LIBOR sounds like a failure it is because it is.</p><p>
</p><p>What is synthetic LIBOR? It means continuing to publish a rate, still call LIBOR, in the way and with the mechanism used for LIBOR, but not with an actual meaningfully economical number but with a number generated in a formulaic way using a formula decided by regulators without financial justification.<br /><br />From a legal perspective, one can understand what they are trying to achieve. The last 5 years have not been enough to ensure that all the existing contracts referring to LIBOR do it in a way that can endure the discontinuation of the publication of the number. By imposing the synthetic LIBOR, regulators ensure that the “tough legacy” contracts are not frustrated.</p><p>
</p><p>But those who are naturally frustrated by this manoeuvre are the good faith LIBOR users.</p><p>
</p><p>Remember that in July 2017 Andrew Bailey said "<i>It would therefore no longer be necessary for us to sustain the benchmark through our influence or legal powers.</i>" Any discussion for synthetic LIBOR or non-representativeness is thus a failure by FCA in general and A. Bailey in particular to truly understand what LIBOR represents to the market. The least we can say is that they have been economical with truth. I have not seen an official FCA’s document saying “<i>we were wrong in 2017, we did not understand the LIBOR market, we have to change our approach to the transition</i>” or a similar comment by Mr. Bailey.</p><p>
</p><p>The formula used in the synthetic LIBOR is based on a floating rate generated from some overnight-indexed market and a fixed spread. This spread is supposed to represent the credit and liquidity risk difference between the LIBOR mechanism and this new overnight-indexed mechanism.</p><p>
</p><p>The history of this spread is worth mentioning.</p><p>
</p><p>The spread was decided in an ISDA consultation by a simple majority of strongly conflicted respondents – I was one of them. The spread was designed to be used in new trades for which a new LIBOR definition would be created with ample time for users to review the new definition implication.</p><p>
</p><p>The ISDA decided spreads are fair in a very restricted sense. For a new trade, if you know the rules, you can price them - if you don’t know how to price them, you can always get advice from highly qualified independent advisors – like myself ;) – and incorporate them in your risk management strategies. The spreads are fair because they are known before the trades are entered into.</p><p>
</p><p>In no way they can be considered as fair for existing trades. ISDA explicitly indicated that there will be “<i>losers and winners</i>” from such a fallback. To understand how representative those spread are, just consider the following facts:<br /> • the spreads were computed with past 5Y of data to extract one number to be applied to the end of time (in practice for the next 30 or 50 years)<br /> • the spreads are computed as median; changing the single word “median” by “mean” has an impact of more than 6 basis points on USD-LIBOR-3M. This is on the notional of several hundred trillion dollars. See for example <a href="https://murisq.blogspot.com/2020/03/libor-fallback-median-in-crisis.html" target="_blank">here</a>.<br /> • the spreads are between forward looking LIBOR and backward looking compounded SOFR on different periods and have ranged from 0 to more than 100 bps in the historical data used.<br /> • when discussing “fair”, it is often understood as fair in terms of equal value. Valuation in derivatives is done by replication argument and is based on hedging. Where is the hedging when you compare forward looking LIBOR to backward looking composition?<br /> • the valuation of derivatives is based on risk neutral probability, not historical probabilities; it involves a mean, not a median<br /> • the LIBOR rates and overnight-index rates used in the spread computation were not for the same period.</p><p>
</p><p>Note that it appears that in the consultation used to justify the spread, the respondents appear incoherent with their understanding of median. The results of the consultation were that “consistency is critical or very important for 70% of the respondents”, nevertheless, the responses themselves are not consistent:<br /> • Use median 55/90 - 61% Yes<br /> • Exclude the outliers: 44/90 - 49% No<br />Median is, by definition, the exclusion of all outliers, actually it uses only 1 or 2 data points. Do the answers indicate that respondents don't understand what median means (pun intended)?</p><p>
</p><p>Notwithstanding those issues related to the spread, the regulators have decided to impose it on the world.</p><p>
</p><p>It was imposed on existing professional trade by black mailing the banks: sign protocol or face difficult questions. I have discuss this in several blogs, for example <a href="https://multi-curve-framework.blogspot.com/2020/08/marketing-barrage-on-signing-isda.html" target="_blank">here</a>.</p><p>
</p><p>It was later imposed on the general public through the synthetic LIBOR by manipulating lawmakers in order to give regulators exorbitant power that does not exist in the EU version of BMR. The Article 21, 3 of EU Regulation REGULATION (EU) 2016/1011 says “the competent authority shall have the power to compel the administrator to continue publishing the benchmark“. Nowhere there is the power for the authority to change the definition/formula of the benchmark.</p><p>
</p><p>If one of Brexit's goals was to remove EU imposed regulatory power by unelected bureaucrats, it failed dramatically in the BMR case. The FCA power is not only to force administrators to continue publishing an existing benchmark but also the superpower to impose a new formula/fixing mechanism for that benchmark. The FCA can, at their own whim, decide that LIBOR is 20%, or that RPI is fixed at 100 for the next 10 years, or decide that the official temperature in London is now 25 degrees everyday! The last one is perhaps a slight exaggeration, but only because nobody has (to my knowledge) yet registered a benchmark representing London temperature to be used in financial products that have been deemed to be “critical”.</p><p>
</p><p>The FCA considers that a consultation run by a private company with less that one hundred respondents, most of them conflicted, is a solid enough basis to decide on a new law (creating synthetic LIBOR power) to be used in a different context for all end users, including retail customers.</p>
<p>By such a definition of fair, LIBOR has always been a fair number, especially when it was manipulated by panel banks collusion. If the bank consensus made the fallback adjustment spread fair, the bank collusion around LIBOR manipulation, which is a form of consensus, made LIBOR "fair" also at that time.</p>
<p>When banks want to change a minute detail of a model used for a couple of insignificant trades, they need a model validation. Was there any in depth model validation for this major change potentially impacting billions or trillions of notional? Was there a precise review of which trades are impacted by the change? To the best of my knowledge the answer is no! Regulators appear to request — with reason — a lot from banks but very little from themselves.</p><p>
</p><hr />
<p><i><b>Note: </b></i>I have not been able to find the full text of the UK BMR, even on the FCA benchmark pages. I contacted the FCA “Benchmark supervision” and their answer was “We do not have the full text of the UK Benchmark Regulation document on our website, however as far as we are aware, all such information is in the public domain including legislation.gov.uk.” I have not found the actual text allowing for the “synthetic LIBOR” on the mentioned site. Probably not searching with the correct keywords. If you know where to find it, don’t hesitate to let me know.</p>
<hr />
<p><i><b>Note added 2022-12-22</b></i>: After many attempts, I finally found the place where the new power to change the benchmark nature (<b>Article 23D</b>) is located: <a href="https://publications.parliament.uk/pa/bills/cbill/58-01/0200/200200.pdf" target="_blank">Financial Services Bill 2020</a>. The new <b>Article 23D</b> says "<i>The FCA may by written notice impose requirements on the benchmark administrator relating to any of the following (a) the way in which the benchmark is determined, including the input data (b) rules of the benchmark [...]</i>". The FCA has indeed to power to decide that the temperature in London is 25 degree (Celsius or Fahrenheit for that matter) every day for financial benchmarks related matters.</p>
<hr />
<p><i><b>Note added 2022-12-26</b></i>: The “Synthetic LIBORs” proposed by the FCA are based on <a href="https://www.cmegroup.com/market-data/cme-group-benchmark-administration/term-sofr.html" target="_blank">CME term rate</a>. Those term rates are based on futures. The volume weighted average of prices throughout the day is used. The conversion between futures prices and forward rates does not use any convexity adjustment. From the price/rates a “best fit” method is used, i.e. not an exact fit. A specific interpolation method with flat rate between FOMC meeting is used even if actual historical data for SOFR is not flat between meetings.</p>
<p>How do you hedge volume weighted average? How do you hedge interpolation? How do you hedge actual data being different from the simplistic model used by the benchmark administrator? Actual OIS would provide an exact benchmark but are not currently used.</p>
<p>I would prefer a benchmark based on a precise point in time data and based directly on a market product. LIBOR is based on 11:00am London time term deposit with an exact term and a clear market convention. </p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-47510379961855653072022-10-24T17:16:00.004+01:002022-10-24T17:16:23.906+01:00Speaking at the Annual Quant Insights Conference<p>I will be speaking at the @CQFInstitute’s Annual Quant Insights Conference on 2–3 November. Join me and other quant finance experts as we explore the latest industry innovations. You can book your free ticket here<a href="https://www.qiconference.com/november-2022/">https://www.qiconference.com/november-2022/</a></p><p> </p><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEhiet-1Sho25bwjRZaKFVsyhqkPucztycyVRna1zRfgiXMywUfLKcyZUWfda9Lj44SdXHpU4LWAjBWwNzfAr8xMcJoo1n-EiLY5GhKM6yrynHvBZH5Pyos5rUjFsNUl4ot7f4vJTecj29If73t5PJRroF-zs2UqQObtb-EJwmWS7QS_mSbxSDf2x5o2/s1200/Dr.%20Marc%20Henrard.png" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="630" data-original-width="1200" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEhiet-1Sho25bwjRZaKFVsyhqkPucztycyVRna1zRfgiXMywUfLKcyZUWfda9Lj44SdXHpU4LWAjBWwNzfAr8xMcJoo1n-EiLY5GhKM6yrynHvBZH5Pyos5rUjFsNUl4ot7f4vJTecj29If73t5PJRroF-zs2UqQObtb-EJwmWS7QS_mSbxSDf2x5o2/s640/Dr.%20Marc%20Henrard.png" width="640" /></a></div><br /> <br /><p></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-47629646466198869922022-08-31T11:57:00.000+01:002022-08-31T11:57:01.245+01:00A(nother) polite notice to course and conference organisers<p>I was once more invited to speak at a "major" quant conference. And once more, I'm happy for this invitation. I answered with the usual "I would be delighted to speak, I have proprietary and timely research that I would happy to present at my usual conditions: fair speaker fee and expenses".</p>
<p>They said it was good to have me on board, and asked for the subject and title; I provided (copyrighted) material in relation to a seminar proposal. My name and material was used on the conference website. They also asked me to provide marketing material for their conference.</p>
<p>Two months and many exchanges later, where I repeated my conditions. They confirmed my speaking slot, but when I asked to confirm the exact fee and the expenses mechanism, they told me that they plan to discriminate against me (yes, they put the discrimination in writing) and not offer me a fair retribution: "<i>small budget for speakers and I want to increase XXX by supporting some XXX XXX from the industry with their travel to the event</i>". Their proposal is no fee and contributing to roughly one third of expenses (!!!), claiming that "<i>previously [...] you hadn’t charged a fee</i>". Strange argument to claim that because they were inequitable once, they have the right to continue so. Moreover their claim is wrong as I received a fair retribution for my speaking contribution at their previous events (even if not directly from the organizers).</p>
<p>I could only repeat them what I mentioned before. A one hour seminar requires one day of preparation, on top of the research itself. Any fee below a one day salary for a managing director/partner is a bargain to them.</p><p>After further back and forth, I had to explain what "fee" and "expenses" mean:</p>
<ul style="text-align: left;"><li><i>Fee</i>: at least the equivalent of one third of a consulting day at partner level (this is very cheap, given the research and preparation time)</li><li><i>Expenses</i>:</li><ul><li> International transport (actual ticket cost, not "I have seen once a cheap ticket on internet") and local transport</li><li>Hotel (conference or close-by hotel for the conference duration - yes, I sleep and shower every day, not once a week)</li><li>Meals (breakfast, lunch, dinner for the conference duration - yes, I eat three times a day, every day).<br /></li></ul></ul>
<p>I have not received any feedback about fees and expenses but different emails asking further proprietary and copyrighted material for their website and agenda and asking me to book their preferred hotel at my expenses!</p><p>Notice: Please read my notice: <a href="https://multi-curve-framework.blogspot.com/2020/03/a-polite-notice-to-course-and.html" target="_blank">A polite notice to course and conference organizers</a></p>
<hr />
<p>Related blogs:</p>
<ul style="text-align: left;">
<li><a href="https://multi-curve-framework.blogspot.com/2020/03/a-polite-notice-to-course-and.html" target="_blank">A polite notice to course and conference organizers</a></li>
<li> <a href="https://multi-curve-framework.blogspot.com/2021/08/presenting-at-conferences.html" target="_blank">Presenting at conferences</a>
</li>
</ul>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-48443799021234396752022-06-24T11:02:00.002+01:002022-06-24T11:02:45.136+01:00PLN benchmark transition<p>At the beginning of the week I participated to the "Benchmark Reform Congress" organized by <a href="https://ceeta.pl/" target="_blank">CEETA</a> in Warsaw (Poland).</p><p>
</p><p>I discovered with interest the current situation in the Polish market with the strong push by the government to reform the interest rate benchmark and discontinue the use of <a href="https://gpwbenchmark.pl/en-dokumentacja" target="_blank">WIBOR</a> as the main benchmark by the beginning of 2023.</p><p>
</p><p>The transition could be more difficult than in the LIBOR case as 6 months before the potential discontinuation date, the replacement benchmark has not been decided yet. The current overnight rate is <a href="https://www.nbp.pl/home.aspx?c=/ascx/StawkaPolonia.ascx" target="_blank">POLONIA</a>, published by the central bank; it is used for collateral remuneration but there is almost no OIS transactions. The local <a href="https://www.kdpwccp.pl" target="_blank">CCP KDPW</a> is in theory clearing those instruments but there is currently no outstanding transactions (even if there were some a couple of years ago).<br /><br />The local players are discussing about potential new benchmarks. The current status is discussed in a long consulting paper published by GPW Benchmark: <a href="https://gpwbenchmark.pl/pub/BENCHMARK/files/WIBID_WIBOR/Transactions_based_Interest_Rate_Benchmarks_05.22.pdf" target="_blank">Transactions-based Interest Rate Benchmarks</a>.</p><p>
</p><p>The discussion around those transition and the selection of an overnight benchmark reminded me of a blog dating from 2014 (!) titled "<a href="https://multi-curve-framework.blogspot.com/2014/09/change-of-benchmark-overnight-index-is.html" target="_blank">Change of benchmark overnight index is a difficult task</a>". The situation 8 years ago was a desire by the US Federal Reserve to use a repo rate based overnight benchmark to replace the Fed Funds overnight benchmark. ISDA then said: "change easy to absorb". We are now almost 8 years later and the "easy" changes are not achieved yet. On the theoretical side, many research papers have been and still are published to understand the direct and indirect impacts[1]. On the practical side, the transition is not done yet with many CSA still on Fed Funds, Fed Funds volumes at LCH last week higher than SOFR and financial institutions have spend hundred of millions of dollars in Benchmark change related projects.</p><p>
</p><p>From my point of view, even if we have done a lot of progress in understanding the intricacies of change of benchmarks, I would not change my opinion: "Change of benchmark overnight index is a difficult task". And a can only wish "all the best" to the PLN market in its transition.</p><p>
</p><hr />
<p>[1] I'm the author of some of those papers. Among them:</p><p>
</p><ul style="text-align: left;"><li>Discounting transition: big bang impacts. Market infrastructure analysis, muRisQ Advisory, February 2020. Available at <a href="http://ssrn.com/abstract=3530464">http://ssrn.com/abstract=3530464</a>.</li><li>CCP discounting big bang: convexity adjustment. <i>Risk.Net</i>. Published online 18 September 2020. Available at (subscription required): <a href="https://www.risk.net/cutting-edge/banking/7682566/ccp-discounting-big-bang-convexity-adjustment">https://www.risk.net/cutting-edge/banking/7682566/ccp-discounting-big-bang-convexity-adjustment</a>. October 2020 paper edition.</li><li>Derivative pricing with two collateral rates. Model Development, muRisQ Advisory, April 2021.<br />Available at SSRN: <a href="http://ssrn.com/abstract=3785526">http://ssrn.com/abstract=3785526</a>.</li></ul><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p><p></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-47429312436772649252022-03-14T12:38:00.002+00:002022-03-14T12:40:47.785+00:00Seminar at Università di Bologna<p>I will be giving a seminar at the Università di Bologna - Dipartimento di Scienze Stastistiche (online) on Thursday 17 March at 16h00 (local time).</p>
<p>Seminar web page: <a href="https://stat.unibo.it/it/eventi/benchmark-transition-why-mathematicians-statisticians-are-required">https://stat.unibo.it/it/eventi/benchmark-transition-why-mathematicians-statisticians-are-required</a></p>
<p style="text-align: center;"><b>Title</b></p>
<p style="text-align: center;">Benchmark transition: why mathematicians/statisticians are required</p>
<p style="text-align: center;"><b>Short abstract</b></p>
<p style="text-align: justify;">In the past couple of years, interest rate derivatives markets have undergone important changes. In some majors currencies, the references benchmarks have moved from LIBOR types to overnight types. Those changes have legal and financial impacts but also generate many interesting mathematical finance questions. The seminar will propose an introduction to the benchmark transition through the lens of the relevant mathematical finance questions. The answer to those questions have significant impacts in terms of valuations and risk management for vanilla and exotic products.</p>
<p>The seminar invite is below. Contact me for the seminar link.</p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/a/AVvXsEhq5vSLba-cCyZJVyy82Rx4eBLhFBZN3lQLhMVI-CSxjWL7g6uMM476cx03B-piEBpjHtG_BpF4jEKwKloyCF3M7geTNywhQ2JcpNA7MbixloUg9q7_6Mw-KMwXU_MzmHT69QuJSaUK5fNt6H_FzB-JbGQa0X46v3g65-o1C_4VvuprmY-lw7TNsn5V=s3508" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="3508" data-original-width="2480" src="https://blogger.googleusercontent.com/img/a/AVvXsEhq5vSLba-cCyZJVyy82Rx4eBLhFBZN3lQLhMVI-CSxjWL7g6uMM476cx03B-piEBpjHtG_BpF4jEKwKloyCF3M7geTNywhQ2JcpNA7MbixloUg9q7_6Mw-KMwXU_MzmHT69QuJSaUK5fNt6H_FzB-JbGQa0X46v3g65-o1C_4VvuprmY-lw7TNsn5V=s640" width="640" /></a></div>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-60368462690152029952022-03-03T11:51:00.000+00:002022-03-03T11:51:35.130+00:00Are GPS signals jammed?<p>I went for a short walk around my house. Coming back home, I looked at the walk's map on my mobile (linked to my golf watch). The walk map was couple of kilometers away from the actual walk, of an impossible length and with a smooth drift while I stopped. Is there some GPS signal jamming — war related? — taking place at the moment?</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-66277817339257027822022-02-15T13:34:00.003+00:002022-02-15T18:33:53.716+00:00Non Mr Close, la constitution ne prévoit pas d'autorisation pour se réunir.<p> Mr Close, bourgmestre de Bruxelles, aurait dit, d'après <a href="https://www.lalibre.be/regions/bruxelles/2022/02/15/philippe-close-revient-sur-le-flop-du-convoi-de-la-liberte-on-a-le-droit-detre-contre-mais-pas-de-bloquer-la-capitale-SS4RAWGLYNFABBZD6Z4ND6UHLM/" target="_blank">un article de presse</a></p>
<blockquote><i>Dans l’article 26, il est écrit que le fait de se réunir à l’extérieur est soumis à une autorisation et aux lois de police.</i></blockquote><br /><br />Voici l'Article 26 de la <a href="https://www.senate.be/doc/const_fr.html" target="_blank">Constitution de la Belgique</a>:
<p>
</p><blockquote><i>Les Belges ont le droit de s'assembler paisiblement et sans armes, en se conformant aux lois qui peuvent régler l'exercice de ce droit, sans néanmoins le soumettre à une autorisation préalable.<br /><br />Cette disposition ne s'applique point aux rassemblements en plein air, qui restent entièrement soumis aux lois de police.</i></blockquote><br />Il n'est bien évidemment nulle part mention d'une autorisation pour se réunir en plein air. L'article indique une règle générale d'<b><i>INTERDICTION</i></b> d'un quelconque mécanisme d'autorisation. Il y a une exception à cette règle qui mentionne les "lois de police", mais certainement pas une <b><i>OBLIGATION</i></b> d'autorisation.<p></p>
<p>Le bourgmestre prête le serment suivant: "<i>Je jure fidélité au Roi, obéissance à la Constitution et aux lois du peuple belge</i>" (CDLD, art. 1126-1). Est-ce vraiment obéir à la constitution que de la dévoyer d'une telle façon dans un but politique? Comment la rédaction du journal qui a signé cet article n'a pas immédiatement réagit à de tels propos?</p>
<p>De tels propos d'un politicien, rapportés sans verification par un journal, ne peuvent qu'augmenter la défiance vis-à-vis des politiciens et des journalistes des médias traditionnels.</p>
<p>J'espère qu'une correction ou un démenti sera publié sous peu, mais je n'y crois pas trop.</p>
<hr />
<p>Je rajoute aussi les derniers mots de notre hymne national:</p><p></p><blockquote><i>la Liberté!</i></blockquote> <br /><p></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-5594112498971211632022-02-06T19:16:00.000+00:002022-02-06T19:16:32.544+00:00Libraries<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/a/AVvXsEj1vx7t8mf-CrB9Ggn2aCs5351DN4XW2CCLYs0D__kf_UxM8K3L7W-dTk4PCew_Mtcg9LveOp2FIVyNBzROnOIRkxk-6Pp99jU9hdiiSrN1Q3oNwUoXFsXH0_x7vAZ9-JCTYKa7rX-aMcdSX0jyNcSELXXODmtvmpgf8narOM_VctRxnGsJMHgT3ARg=s2400" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1600" data-original-width="2400" src="https://blogger.googleusercontent.com/img/a/AVvXsEj1vx7t8mf-CrB9Ggn2aCs5351DN4XW2CCLYs0D__kf_UxM8K3L7W-dTk4PCew_Mtcg9LveOp2FIVyNBzROnOIRkxk-6Pp99jU9hdiiSrN1Q3oNwUoXFsXH0_x7vAZ9-JCTYKa7rX-aMcdSX0jyNcSELXXODmtvmpgf8narOM_VctRxnGsJMHgT3ARg=s640" width="640" /></a></div><br />
<p style="text-align: center;"><b>Picture of my big screen TV not provided!</b></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-34184895480984314972021-12-02T11:29:00.001+00:002021-12-10T22:06:43.696+00:00Answer from DG FISMA Unit C.3 - Securities Markets to my questions related to the regulation on CHF-LIBOR.<p>Three weeks after I asked a couple of questions to the EU president related to the regulation on CHF-LIBOR, <a href="https://multi-curve-framework.blogspot.com/2021/11/open-letter-to-ursula-von-der-leyen-in.html" target="_blank">questions that were also posted on my blog</a>, I have received an answer from DG FISMA Unit C.3 - Securities Markets.</p><p>The answer is posted below (minus the introduction and the signature)</p>
<p style="margin-left: 40px; text-align: left;"><i>The policy intention with this replacement was to ensure that the cessation of CHF
LIBOR does not cause large-scale contract frustration for contract parties and holders of
financial instruments in the EU. In accordance with the conditions for the exercise of the
powers, set out in the Benchmark Regulation, the Commission has taken into account the
recommendations made by the National Working Group on Swiss Franc reference rates,
has conducted a public consultation in the spring of this year[1] and has published a draft
of the implementing act for feedback in August[2]. To the extent we understand your
detailed queries, the elements of the implementing act concerned were present in the
draft act we published for consultation in August and were not considered by any of the
respondents to be insurmountable obstacles. As you will also note from the successive
drafts of the implementing act, much of the valuable input provided by the respondents was incorporated, leading to the implementing act as adopted and published in October.</i></p><div style="margin-left: 40px; text-align: left;">
</div><p style="margin-left: 40px; text-align: left;"><i>As the law is by necessity general, it is not tailored to any specific case and may well be
less than perfect in its application to some. There, as we hope you will acknowledge, lies
the difference between law-making, where the interests of many must be balanced, and
consultancy work, where the interests of the paymaster are the yardstick. For this reason,
the implementing act expressly allows contract parties to agree otherwise on the fate of
their contracts linked to CHF LIBOR, and they can do so before or after the statutory
replacement takes effect.</i></p>
<p>There is no indication of what the references [1] and [2] are.</p>
<p>I had to indicate that their letter does not answer any of the questions asked. They only hide behind "<i>were not considered by any of the
respondents to be insurmountable obstacles</i>", i.e. nobody complained officially in the narrow framework of the consultation.</p><p>Here is my answer to their non-answer.</p><div style="margin-left: 40px; text-align: left;">
<i>In your text, you refer to references [1] and [2], but there is no indication on what those references are.
<p>Unfortunately, the text does not appear to answer the issues I indicated. Even if there are several of those issues, I will focus on two for which the answer should be direct. They simply refer to how this text should be understood and implemented. There is also a debate about the more fundamental question to know if it is based on a sound method; to my opinion, the answer is no, this is fundamentally a flawed method, but I will skip that opinion debate here.</p>
<p><b>Question 1: What is the meaning of "1 month period preceding"?</b></p>
<p>I will compare this to the fallback definition used in the trades under ISDA definition. The original consultation by ISDA in July 2018 had a similarly simplistic description: "the relevant IBOR tenor". After numerous comments by market participants, including mine, the final version (IBOR fallback rate adjustment rule book) was published in 2020. The final version has 7 pages (Section 3, 4.1, and 4.2) just to define precisely the term "the relevant IBOR tenor". </p>
<p>The question here is simple and direct: What is the meaning of "1 month period preceding" in the regulation? Can you refer to a precise non ambiguous written definition?</p>
<p><b>Question 2: License</b></p>
<p>According to the new regulation, it is mandatory to use specific spreads to replace CHF-LIBOR when it still appears in contracts after 1 January 2022 in the EU; those spreads are the ones published by Bloomberg. According to the Bloomberg rule book, a (paid) license is required to use them. Is a license required to abide by the regulation? If no, can the Commission provide the relevant legal opinion; if yes, is the Commission paying for all the licenses required?</p>
<p>You indicate "As the law is by necessity general, it is not tailored to any specific case and may well be less than perfect in its application to some." To some extends, I agree with you, but the issues I'm reporting are on a different level; the issue is not that they are "less than perfect in its application to some", but that they are "ambiguous and potentially dangerous in its application to all".</p>
<p>On the form of your letter, I surprised by the terms "consultancy work, where the interests of the paymaster are the yardstick ". Over the last 4 years, I have provided a large amount of pro deo work for "the interests of many", including the Commission. The methodology used by the commission in its regulation, using a shorter in-advance period for the 6 and 12 months LIBOR, is the one I proposed in 2018 to improve earlier proposals. That method, even if improving on previous "in-advance" proposals, was, to my opinion, only the third best, but still an improvement. I hope you will acknowledge my generous contribution to law-making.</p>
<p>Maybe my earlier offer was misunderstood and I will rephrase it. If the Commission is looking for an independent external expertise for this or similar technical issues related to the interest rate financial markets, I would be glad to provide it.</p></i></div>
<hr />
<p><i>Added 2021-12-10</i>: More than a month after the original letter and after a couple of follow-up, still no answer regarding the meaning of the main sentence in the regulation. This is a scary state of affairs for financial regulations.<br /></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-41984127459934196852021-11-28T18:51:00.002+00:002021-11-30T20:12:59.296+00:00mu!<p>When I created my consulting firm, I called it <a href="http://murisq.com/" target="_blank">muRisQ</a> (standing for management of Risk by Quantitative methods). This was before SARS-CoV-2 escaped from Wuhan. <br /><br />In the mean time, the <a href="https://www.who.int/" target="_blank">WHO</a> has changed its naming convention for variants and is using the Greek Alphabet and not the place of original detection anymore. After the original Wuhan Coronavirus, we had the Kent, South Africa and India variants; they are now called Alpha, Beta and Delta. <br /><br />Now there are so many variant that the letter "<i>mu</i>" as been reached at the end of August. Luckily for muRisQ, mu is a "<i>Variant of Interest</i>". It could have been worst with mu being a "<i>Variant of Concern</i>".<br /><br />But it could have been better if I had called the firm nuRisQ or xiRisQ. For some reasons that escape me, the WHO has skipped those two letters and has jumped to "<i>Omicron</i>" recently. Without risk of libel, I can now write that the WHO is an <a href="https://www.lexico.com/definition/analphabet" target="_blank">analphabet</a> organisation: "Analphabet: Characterized by ignorance of or lack of familiarity with the letters of the alphabet".</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com1tag:blogger.com,1999:blog-6172520084898113327.post-34217184068235194592021-11-07T09:04:00.003+00:002021-12-10T22:20:07.462+00:00Open letter to Ursula VON DER LEYEN in relation to REGULATIONS on the designation of a statutory replacement for certain settings of CHF LIBOR<p style="text-align: center;">Open letter to Ursula VON DER LEYEN in relation to<br />REGULATIONS<br />COMMISSION IMPLEMENTING REGULATION (EU) 2021/1847<br />of 14 October 2021<br />on the designation of a statutory replacement for certain settings of CHF LIBOR<br /></p>
<p>Dear Ursula,</p>
<p>I read with interest your <a href="https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32021R1847" target="_blank">REGULATION (EU) 2021/1847.</a><br /><br />If you don't mind, I would have a couple of simple questions regarding the text. I'm certain the numerous consultations you indicate you have done have already answered those questions, so it should just take you a couple of minutes to answer them.</p>
<h3 style="text-align: left;">Ambiguous definitions (rate)</h3>
<p>The text indicates</p>
<blockquote><i>1-month CHF LIBOR is replaced by 1-month SARON compound Rate, as observed over the 1 month period preceding the interest period;</i></blockquote>
<p>What is the meaning of "<i>1 month period preceding</i>". From my experience, this is not a trivial question in finance. The first ISDA consultation, published in July 2018, had a similar issue. It indicated "<i>observed over the relevant IBOR tenor and compounded daily during that period</i>". It took almost 2 years, up to the publication of Bloomberg's "IBOR Fallback Rate Adjustments Rule Book" to get a proper definition of that sentence. As early as July 2018, I had already indicated the issues behind those weak definitions in "<a href="https://ssrn.com/abstract=3226183" target="_blank"><i>A Quant Perspective on IBOR Fallback Proposals</i></a>". Could you provide a non-ambiguous and achievable definition of this?</p>
<p>A period "<i>preceding</i>" a given date is not something familiar in the interest rate market. What is familiar is a period "<i>following</i>" a given date. And in the interest rate market, "preceding" is not the opposite of "<i>following</i>". There is not a one-to-one correspondence between them. It is possible (and very frequent) to have a 1 month period starting on different dates and finishing on the same date. Would you mind providing a definition of "<i>1 month period preceding</i>"? And also clarify why you have selected that specific definition by opposition to the many others that could have been selected?</p>
<p>Moreover in ISDA case the multiple workaround to make definitions clear and achievable in practice generated risk management nightmares. This was further described in a blog <a href="https://murisq.blogspot.com/2020/05/fallback-transformers-gaps-and-overlaps.html" target="_blank">Fallback transformers: gaps and overlaps</a> and related seminars. As you indicate in the text, the "last reset" methodology creates "hedging challenges". Could you indicate how those are solved for the 1-Month and 3-Month tenors you propose to use?</p>
<p>On the in-advance part, I would like to congratulate you for deviating from the other proposals by using a shorter in-advance period for the 6 and 12 months LIBOR. This is not in line with previous proposals, in particular the July 2018 ISDA consultation, but it is better from all points of view. Your decision to use my proposal, as described in my July 2018 "<i>quant perspective</i>", is positive.</p>
<p>In describing the replacement rate, you use the terminology "<i>Interest period</i>". There is no definition of this term in the regulation. Does it mean that the rate does not depend only on the relevant LIBOR but also of the instrument to which it is applied? Are two instruments fixing on the same date and rate without the replacement still fixing on the same date and rate after it is applied?</p>
<p>The definition of "<i>replacement rate</i>" you proposed is ambiguous and would require some work to be unambiguous. The (unambiguous) definition created by ISDA-Bloomberg, because generated based on an ill-conceived concept like your proposal, is generating tremendous risk management issues. Could you indicate how the approach you proposed will not generate similar issuers.</p>
<p>Also you indicate "<i>hedging challenges caused by the structural differences between the IBOR (as forward looking) and the SARON (as backward-looking)</i>". Those hedging challenges exist also for 1-month and 3-month periods. How do you plan to solve them?</p>
<h3>License</h3>
<p>According to the new regulation, it is mandatory to use the spreads, which are the ones published by Bloomberg. According to the Bloomberg rule book, a (paid) license is required to use ISDA-Bloomberg rates and spreads. Is a license required to abide by the regulation? Is the EU paying for all the licenses required?</p>
<h3>Value transfer</h3>
<p>This regulation generates value transfer between the parties in the financial contracts, in particular between the retail mortgage holder and the banks. As indicated by ISDA, the private association at the origin of the spread computation you used, this spread creates "<a href="https://www.isda.org/2019/05/29/another-step-to-benchmark-fallbacks/" target="_blank">winners and losers</a>". Is there a plan to compensate for the losses resulting from this regulation?</p>
<p>Sincerely yours,</p>
<p>Marc Henrard</p>
<p>P.S. If the Commission has not answered all those questions yet or fail to understand some of them, my consulting services regarding the related quantitative finance complexities are available through <a href="https://murisq.com/" target="_blank">muRisQ</a>.</p>
<hr />
<p>Dear reader, if you have any answer related to the above questions, don't hesitate to add them in the comments.</p>
<hr />
<p><i>Added 2021-11-13</i>: The above letter has been sent to Ursula VON DER LEYEN and her Head of Cabinet (Bjoern Seibert) through the email addresses provided on the europa.eu web site. I have not received any aswer to the above questions yet. My guess is that the commission does not have the answers. If my guess is incorrect and I actually receive an answer, I will let you know. </p>
<hr />
<p><i>Added 2021-12-02</i>: I have received an answer from <i>DG FISMA, Unit C.3 - Securities Markets</i>. I have publish its content and my answer in <a href="https://multi-curve-framework.blogspot.com/2021/12/answer-from-dg-fisma-unit-c3-securities.html" target="_blank">another blog</a>.</p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-37353366383452474392021-09-16T15:13:00.003+01:002021-11-17T09:13:56.758+00:00LIBOR transition: How to lose money, automatically!<p>LIBOR transition is involving large value transfers between market participants. In the past, I offered to my faithful readers the possibility to make money on LIBOR fallback (see the series starting <a href="https://multi-curve-framework.blogspot.com/2018/11/has-value-transfer-in-libor-fallback.html" target="_blank">here</a>). The money making machine required to take some "spread positions" and trust that the LIBOR cessation process would complete in a time frame of a couple of years. The LIBOR cessation completed on 5 March 2021 with the announcement regarding the forthcoming cessation. The term "position" above is in between inverted commas because the point was that it was not really a spread position from a market risk perspective, only from a name perspective. It turns out that there is a little bit of market position in the trade as described in <a href="https://murisq.blogspot.com/2020/04/fallback-gaps-and-overlap.html" target="_blank">Fallback transformers: gaps and overlaps</a> and the following muRisQ's blogs. The position I proposed In November 2019 <a href="https://multi-curve-framework.blogspot.com/2021/09/making-money-on-libor-fallback-end-of.html" target="_blank">has made more than 10 bps in rates</a>.<br /></p>
<p>Now that you have made some money with hard work, I propose a mechanism to lose money automatically!</p>
<p>To change a little bit the settings, I'm moving from the direct LIBOR transition to the indirect impacts on the ICE Swap Rates (ISR). ICE Swap Rates were representing the level of the IBOR-indexed swap rates. Now the mechanism has been extended to SONIA-indexed swaps in GBP. The other currencies don't have (yet?) SOFR, ESTR, TONA or SARON indexed swap rates.</p>
<p>The LIBOR-indexed swap rates will disappear with the disappearance of LIBOR. There is a legal framework for LIBOR fallback put in place by ISDA and incorporated in ISDA definition since January 2021. The story could stop there: fallback for LIBOR imply a fallback for LIBOR-indexed swaps. From a quant perspective this is true, but from a lawyer perspective it is not the case. ISR-indexed products, e.g. CMS of cash-settle swaptions, rely on a single number published on a screen. The LIBOR fallback rely also on a single spread number, but its impact on the swap rate depends on a full discounting curve (and its calibration and interpolation arbitrary choices). Quant will certainly agree on the general mechanism and agree that there are many possible acceptable solutions that fit into the mechanism; they will all be <b><i>approximately correct</i></b>. But this is not good for lawyers; they want a precise mechanism based on a fixed rule and a single input. The existing payoff is based on one number (ISR) the fallback should be based on one number. In this way one obtains a mechanism that is <b><i>precisely wrong</i></b>. Precise because the rules are clear, but wrong because there is no way within the constraints to obtain a mechanism coherent with the already decided LIBOR fallback.</p>
<p>Different working groups proposed lawyer acceptable formulation of a ISR fallback. Those formulations are based on approximation, trying to obtain something within the legalese constraints. The WGSRFRR proposed one approximation that I commented in <a href="https://multi-curve-framework.blogspot.com/2021/02/ice-swap-rate-fallback-long-expected.html" target="_blank">ICE Swap rate fallback - long expected - approximations</a>. There is also a proposal by the USD ARRC. Nothing has been proposed to my knowledge for CHF or JPY.</p>
<p>The proposals lead to an ISDA consultation on which I commented in <a href="https://multi-curve-framework.blogspot.com/2021/07/isda-consultation-on-ice-swap-rate.html" target="_blank">ISDA consultation on ICE Swap Rate fallback</a>. My negative answer to the consultation is based on two main issues: wrong and no validation. The "<i>wrong</i>" part will be discuss further in the main part of this blog. The "<i>no validation</i>" part is the fact that an approximate formula is proposed, but there is no in-depth analysis of how "<i>approximated</i>" it is but also there is not even a discussion about the unsaid constraints that lead to the formula and the potential existence of a better formula within those constraints. There is a review of the formulas by The Brattle Group, but the very light review can be summarized by "<i>something is necessary</i>" (and nowhere "<i>what is proposed is sufficient</i>").</p>
<p>After this long introductory rant, let's go to what you are all waiting for: losing money!</p>
<p>This involved you receiving (yes, receiving, no premium paid) a long vanilla option. The option is purely bilateral and pre-UMR, so no CCP rules with "<i>at its sole discretion</i>" in it, no IM and associated MVA, and no exotic feature. And still you lose money!</p>
<p>The option you have received is a plain vanilla European GBP swaption (yes for option purposes, GBP swaption can still be European, even after the Brexit) with automatic exercise at the ICE Swap Rate (LIBOR version) level and delivering a bilateral plain vanilla LIBOR swap; the exercise date is after 1 January 2022. You may say that those options are not the most common, and I would agree with you. But once you have an example of strange behavior, you can adapt the scenario to the actual products that you have in your books.</p>
<p>By mistake, you have sign with the counterparty the bilateral agreement to apply the WGSRFRR recommended fallback. The automatic exercise is now done on the fallback LIBOR-linked ISR rate which is given by the formula reproduced in Figure 4 at the end of the blog. I need to explain why I said "<i>by mistake</i>" in the previous sentence.<br /></p>
<p>Now let's look at the pay-off value of such a long option. To make the example concrete, we take an option on an underlying with tenor 1 year. The option is exercised at some time in the future and obviously we don't know what the rates will be in the future. Two things will be important to understand if we make or lose money: the exercise fallback ISR rate the the value of the underlying swap delivered. </p>
<p>The fallback ISR is based on approximation, so the exercise rate will not be exactly the exercised swap rate. Let's look at the difference between those two rate in Figure 1.</p>
<div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEiueeMs3n6AaBfq-17mSpRyPwy3UmUFG0CtCabHt7CMXqW7mU5YO8Wh5GposLtuWR5dJJGzFi1bSTh8tNjgcWOybkkcxowM7pxn6cc8dpcanvubCM3CGK5lNGvcemL20QsMm6hasrAkGaE/s2048/spread-overview.jpg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1536" data-original-width="2048" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEiueeMs3n6AaBfq-17mSpRyPwy3UmUFG0CtCabHt7CMXqW7mU5YO8Wh5GposLtuWR5dJJGzFi1bSTh8tNjgcWOybkkcxowM7pxn6cc8dpcanvubCM3CGK5lNGvcemL20QsMm6hasrAkGaE/s640/spread-overview.jpg" width="640" /></a></div>
<p style="text-align: center;"> <b>Figure 1. Difference between proposed fallback ICE Swap Rate and actual fallback-LIBOR swap rate. GBP LIBOR-3M with tenor 1Y.</b></p>
<p>The curve used (only one curve, LIBOR has disappeared by that date and only the SONIA curve exists) is described by its "level" (zero-coupon rate at time 0) and its "slope" (difference of zero-coupon rate between time 1 and time 0). Depending on the values, the difference is between -1.5 and +1.5 bps. This is of the same order of magnitude than other figures reported for this approximation in the literature (but not directly by the WGSRFRR and ISDA, who reported approximation of only 0.10 bps or less).
</p><p>What does that mean for our trade? Suppose that we have a receiver with strike 2.50% (250 bps) and the rate at the exercise date is close to that level. If you don't like that level, pick any other level, as seen in Figure 1, the level impact is very small. In Figure 2, we reported the fallback ISR rate level for a set of curves with the levels and slopes indicated. Those rates are indicated by level curve in color with the level indicated. We also reported the actual exercised swap (the one resulting from the LIBOR fallback) in black. The curve don't match; this is expected from Figure 1. </p><p></p><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjy_h0jEjZfkoxIzOkOO1j3OXQXrHcbDmFcBtvY8xp25Ov_Wi0dQOr8t7O5VSdpUr3Iayr70vnauqP-yqftzYfBEtwPTlrz40DJS2rday7ecbaJ2du2XV5Wpubi204TYsECOt4gW9AU46s/s2048/rate-levels-zoom.jpg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1536" data-original-width="2048" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjy_h0jEjZfkoxIzOkOO1j3OXQXrHcbDmFcBtvY8xp25Ov_Wi0dQOr8t7O5VSdpUr3Iayr70vnauqP-yqftzYfBEtwPTlrz40DJS2rday7ecbaJ2du2XV5Wpubi204TYsECOt4gW9AU46s/s640/rate-levels-zoom.jpg" width="640" /></a></div>
<p style="text-align: center;"> <b>Figure 2. Level for the two swap rates.</b></p>
<p>What is happening between the curves? Let's color the curve space according to the exercise and value situation. Above 250 bps fallback ISR rate, the swaption is automatically exercised; this is the non-white part of Figure 3. But (yes there is a but), the swap value depends on the fallback LIBOR swap, which has a positive value only for the part in yellow. The blue band is the set of curves where the swaption has been exercised but you have received a swap with negative value!</p><p></p><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjGFtaVLn-4Cc1bQNolme24a7VPSqabQQTRoJQdL6qUZCf9lGyh8Hr71QuE6Llx8U1uTkuXpuM9bVVwa7vjGkjh3-mBR0TZ4MQVsC7XKS42_rTD9iOFL1sFuynboToenvlKGh9zUPylhmc/s2048/loses-band.jpg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1536" data-original-width="2048" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjGFtaVLn-4Cc1bQNolme24a7VPSqabQQTRoJQdL6qUZCf9lGyh8Hr71QuE6Llx8U1uTkuXpuM9bVVwa7vjGkjh3-mBR0TZ4MQVsC7XKS42_rTD9iOFL1sFuynboToenvlKGh9zUPylhmc/s640/loses-band.jpg" width="640" /></a></div><br /> <p></p>
<p style="text-align: center;"> <b>Figure 3. Color representation of the level/slope domain where one lose money by being long the option.</b></p>
<p>You have lost money, automatically!</p>
<p>You don't lose money all the time (I never promised that), only in some circumstances. The probability of that depends on the current curve shape and the volatility, but it is certainly not null.</p>
<p>How do you value such an option? That will be the subject of a (hopefully forthcoming) follow-up blog.</p>
<p>In the mean time, enjoy the money you have been making thanks to this blog while it lasts!</p>
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<div class="separator" style="clear: both; text-align: center;"></div><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgyq-PTwpAEpnqYWWEaI-1940dy4tX6N0rgiOyiXxfjeqpbqKJa4a2FYepbjnMrZ-XjcnEVdmqL9GVgCE6tijaKTjv2kPG0nW7HoGb2vuz9IkMU7B8loaFdddi2zHMiggZNmvO4eLEQ1zc/s1965/gbp-icesr-fallback-formula.jpg" style="margin-left: 1em; margin-right: 1em;"><img border="0" data-original-height="1484" data-original-width="1965" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgyq-PTwpAEpnqYWWEaI-1940dy4tX6N0rgiOyiXxfjeqpbqKJa4a2FYepbjnMrZ-XjcnEVdmqL9GVgCE6tijaKTjv2kPG0nW7HoGb2vuz9IkMU7B8loaFdddi2zHMiggZNmvO4eLEQ1zc/s640/gbp-icesr-fallback-formula.jpg" width="640" /></a></div>
<p style="text-align: center;"> <b>Figure 4. Approximated formula proposed by the WGSRFRR for ICE Swap Rate fallback.</b></p>
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<p>I plan to collect the blogs related to the ICE Swap Rate transition/fallback into a more serious looking working paper. I still need to add some pricing discussion.</p>
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<p><i>Added 2021-11-17</i>: Similar results for USD and the pricing of cash-settled swaption with collateral discounting are presented in two seminars:</p><ul style="text-align: left;"><li>ICE Swap Rate fallback: Approximations, exotic and convexity. <a href="https://www.wbstraining.com/events/hybrid-interest-rate-reform-conference/" target="_blank">Interest Rate Reform Conference (London, UK)</a>, 20-21 October 2021. </li><li>Cash-settled swaption and the ICE Swap Rate fallback. <a href="https://www.wbstraining.com/events/qfc/" target="_blank">The 17th Quantitative Finance Conference (online)</a>, 17-19 November 2021.</li></ul><p>The underlying results have been submitted for publication. The publication details will be added when available.<br /></p><p></p><p></p>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0tag:blogger.com,1999:blog-6172520084898113327.post-59848582332492500002021-09-14T14:21:00.002+01:002021-09-14T14:21:43.868+01:00Making money on LIBOR fallback (end of part 1)<p>Almost three years ago, on 30 November 2018, just after the results of the first ISDA fallback consultation were published, I explained "<i>how to make money on LIBOR fallback</i>". There were many episodes to the series (see list below) but I never concluded on that first part. <br /><br />The conclusion came in March 2021 with the publication of the ISDA/Bloomberg fallback spreads. Those spreads have transferred huge amount of money between market participants. I hope you were on the receiving end of the value transfer. </p>
<p>What is the order of magnitude of the money transfer? I don't know, as I don't now the positions of the different market participants. But at least I can tell you how much money you would have made if you had followed my advise from November 2018.</p>
<p>Then I indicated that "<i>I enter into a basis swap where I pay LIBOR-1M v receive SONIA + spread on a 30-year tenor for a notional of 1m. The current spread is at 13.45 bps. My analysis gives me a 4 to 8 basis points range for the fallback spread.</i>" My analysis was not perfect as the final spread came at 3.26 bps. It is even better than what I was hoping for. That means a profit of more than 10 bps (almost without risk) on the position. Let's use a 20 PVBP for the 30 year swap to obtain a 200 bps profit on the notional. For each million on the position, the profit is 20,000. If you, as a hedge fund trader, have entered into the position with a notional of 1,000,000 GBP cleared at a CCP, your IM was around 100,000 GBP and your profit around 20,000 GBP. A nice 20% return on the IM over a couple of years. There was some extra P/L due to the carry as explained in some of the previous blogs, but I leave it as a tip to the readers!</p>
<p>This is the end of "Part 1" of the "Making money on LIBOR fallback". There are other parts in the making!</p>
<p>Feel free to contact me for similar analysis or to discuss positions to take advantage of the fallback.</p>
<hr />
<br />
Related blogs:<br />
<ul>
<li><a href="http://multi-curve-framework.blogspot.com/2019/12/making-money-on-libor-fallback-one-year.html" target="_blank">Making money on LIBOR fallback (one year later)</a></li>
<li><a href="http://multi-curve-framework.blogspot.com/2019/05/making-money-on-libor-fallback-5.html" target="_blank">Making money on LIBOR fallback (5)</a></li>
<li><a href="https://multi-curve-framework.blogspot.com/2019/03/making-money-on-libor-fallback-4.html" target="_blank">Making money on LIBOR fallback (4)</a></li>
<li><a href="http://multi-curve-framework.blogspot.com/2019/03/making-money-on-libor-fallback-3.html" target="_blank">Making money on LIBOR fallback (3)</a></li>
<li><a href="http://multi-curve-framework.blogspot.com/2019/02/still-making-money-on-libor-fallback.html" target="_blank">Making money on LIBOR fallback (2)</a></li>
<li><a href="http://multi-curve-framework.blogspot.com/2019/01/basis-position-from-fallback-update.html" target="_blank">Basis position from LIBOR fallback - update </a></li>
<li><a href="http://multi-curve-framework.blogspot.com/2018/12/update-on-my-basis-position.html" target="_blank">Update on my Basis position</a> </li>
<li><a href="http://multi-curve-framework.blogspot.com/2018/11/has-value-transfer-in-libor-fallback.html" target="_blank">Has value transfer in LIBOR fallback started?</a> </li>
</ul>Marc Henrardhttp://www.blogger.com/profile/09213992926870619731noreply@blogger.com0