Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Swap Spread

What it is:

A swap spread is the difference between the fixed rate component of a given swap and the yield on a Treasury item or other fixed-income investment with a similar maturity.

How it works (Example):

Companies engage in swaps in order to benefit from an exchange of comparative interest rate advantage. The terms of a plain vanilla (i.e. straightforward) swap are highly variable from contract to contract based on the needs of and resources available to the participating counterparties. A Treasury bond is often used as a benchmark because its rate is considered risk-free. The swap spread on a given contract indicates the associated level of risk. Risk increases as the spread widens. For instance, if one 10-year swap, XYZ, has a fixed rate of seven percent and a 10-year Treasury bond with the same maturity date has a fixed rate of five percent, the swap spread would be two percent (200 basis points) (7% - 5% = 2%).

Why it Matters:

As a reflection of risk, swap spreads are often used to assess the creditworthiness of participating parties.