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Empirical Evaluation of Basic Models

of Interest Rate Swaps in India

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Literature Review

There are many studies which deal with the

various models of the Interest Rate Swaps

The notable studies include Sun, Sundaresan

and Wangs (1993) findings, B.A Minton,PayalGhose etc

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Proceedings of the World Congress on

Engineering 2009 Vol II WCE 2009, July 1 - 3,

2009, London, U.K.: On the Determinants of

Interest Rate Swap Usage by Indian Banks

- Dr. B. Charumathi(2009)

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To model the factors which determine the use of

interest rate swap by bank to manage IRR.

To manage interest rate risk bank uses 2 approaches

On balance sheet adjustments GAP Analysis

Duration GAP Analysis

Off balance sheet adjustments Interest Rate Futures

Interest Rate Swaps

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Variables Chosen for study

Characteristics Proxy Variable

Size Logarithm Of Total Assets

Asset Quality (AQ1) Net Loans and Advances

Asset Quality (AQ2) Provision for NPA

Capitalisation (CAP) Net Worth

Interest Rate Risk (IRR) Net Interest Income

Return Performance (ROTA) Profit Before Taxes

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Regression Model

IRS= a + b ( LOGTA) + c (AQ1) + d (AQ2) + eCAP + f (IRR) + g (ROTA) + error

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Conclusion

Larger and Profitable banks do not seem to

have comparative advantage to use IRS for

hedging purpose than smaller banks.

Banks with High NW, High Loans to asset

Ratio, tends to be higher user of IRS.

May consider variables such as Board

Composition and Management Preferences

Scope of Future Research

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Reserve Bank of India Occasional Papers Vol.

31, No.1, Summer 2010

- SaurabhGhosh

and

AmarendraAcharya

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Variables considered for this study

1. One year G-sec yield

2. Five year G-sec yield

3. Call Market Rate

4. Repo Rate, Reverse Repo Rate and Cash Reserve Ratio

5. Call Money Spread

6. Weekly WPI Inflation Rate

Determinants of Overnight Indexed

Swaps(OIS) Rates

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Regression Model

OIS= a + b ( G1) + c (G5) + d (Call Market) + e

(Repo Rate) + f (CMS) + g (WPI) + error

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Conclusion

G-Sec rate has high and significant positivecorrelation.

Call Rate has positive and significantcorrelation with OIS rate

Inflation rate is not found to be correlated

Reasons for the OIS rate being lower than therisk free GOI bond rate

Scope of Future Research

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California Debt and Investment Advisory

Commission: Interest rate swap pricing

models

- Doug Skarr ( January 2007)

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Theoretical Model Used

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SIFMA Swap Rate (U.S Market)

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Author Year Area of Research Abstract Conclusions

D.KMalhotra 2006 Financial

Integration andthe Indian Swap

Market

Relationship

between two mainvariety of swap rates

in India(OIS and

MIFOR)

Arbitrage

considerationskeep the two

swap curves from

drifting too far

from each other.

B.A Minton Journal of

Finance 1997

Basic valuation

models for plainvanilla Interest

rate swaps

Test analogies

between swaps andreplicating portfolios

of bonds by

estimating interest

rate swap rates

Ten Year swap

Rates arepositively related

to ten year

corporate bond

yields

Vadhindran

K. Rao

1997 An Empirical

Examination Of

Interest Rate

Swap Market

Investigate the

presence of default

risk premium:

Compares the par

bond yield with swap

bid rate of Dealers

Spread between

Swap rates and

Treasury yields

generally increase

with an extension

in maturity of

swap contracts