Ios Discouting Essay

6625 Words Mar 30th, 2016 27 Pages

24 February 2011

Understanding OIS discounting
The Dodd-Frank Act mandates central clearing for most swaps and the collateralization of uncleared swaps on dealer balance sheets. OIS discounting is the technically correct approach for pricing and valuing collateralized swaps, and it involves a thorough reconsideration of traditional pricing and valuation techniques. In this note we provide background and touch on some technical nuances involved.
The traditional method of discounting using a Libor curve misstates the required collateral on a swap and its mark-to-market value. When collateral earns OIS, collateral and mark to market should be based on valuations that discount using a risk-free curve,
…show more content…

Liquidity of the OIS curve: The OIS, or the FRA-OIS, market is likely to become more active, as market participants hedge both OIS and Libor-OIS risks.

Inconsistencies between related derivatives: Even if par swaps are traded consistently, differences could arise in forward-starting swaps and forward rate agreements, depending on the choice of discounting method.

Possible accounting implications: As the differences between valuations of collateralized and uncollateralized swaps become more apparent, additional questions regarding the use of Libor swaps as hedges during times of turmoil may arise.


Amrut Nashikkar
+1 212 412 1848

Barclays Capital | Understanding OIS discounting

Section 1: Introduction and motivation
OIS discounting means discounting the expected cash flows of a derivative using a nearly risk free curve such as an overnight index swap (OIS) curve. Under OIS discounting, the specific curve to which a particular swap is linked is irrelevant for discounting purposes – its only use is to generate forward cash flows. In contrast, when valuing a swap under traditional (3m Libor) discounting, forward 3m Libor cash flows are also discounted using discount factors from the 3m Libor swap curve. We outline the basics of

Related Documents