The TED spread

User Forum Topic
Submitted by kev374 on October 4, 2008 - 6:52pm

The TED spread as I understand is a measure of risk aversion in the market. I have been trying to understand and read more about this recently. As I understand:

The TED Spread is the difference between a 3 month US Treasury bill considered a "risk free" investment and the Eurodollars futures contract (which is fixed at the speculated 3 month LIBOR rate at the time of contract expiration)...do I have this right?

The price of the EuroDollars futures is traded on and published at the Chicago Merchantile Exchange.

Now, can someone explain why is this an accurate index of risk aversion in the market? LIBOR signifies an inter-bank lending rate so why is this used to represent risk when a bank lends to businesses?

I have heard a TED spread above 300 basis pts is very bad news and it is currently at 387 signifying massive lack of confidence in credit markets, is this accurate?

More discussion please from those who know more about this topic :D

‹ Sachs emailing this around "Nothing to fear..." Sucker's rally? ›
I was reading about all this
Submitted by Enorah on October 4, 2008 - 7:31pm.

I was reading about all this stuff as well.

Libor, Libor, Libor

:stars:

Here is my question, though. Is it real? I mean, isn't it all virtual anyways? I mean TED spread and LIBOR and all of it. Isn't it just made up measurements of a made up system that no longer serves us?

Sorry for the thread drift.

Because if you consider US
Submitted by barnaby33 on October 4, 2008 - 7:56pm.

Because if you consider US Treasuries to be risk free, then anything charged above and beyond that to lend to banks is considered the risk premium to do so. The larger the spread, the more hesitant banks are to loan to each other. Its not directly a fear gauge, more a proxy.

Think of it this way, if we lived in a monetarily frictionless world where all capital could goto the highest return for the least risk, then the TED spread would approximate how risky banks think it is to loan to each other vs the US govt, for 3 months.

If the TED spread is widening, the question becomes is it because inter bank lending rates are rising, or treasury rates are falling, or both? Right now its both. To me that strongly hints at massive deflationary fear. Return of capital trumps return on capital.
Josh

The TED Spread is currently
Submitted by kev374 on October 6, 2008 - 4:57pm.

The TED Spread is currently at 385 basis pts which indicates a severe risk aversion in the market explains Nouriel Roubini on his RGEMonitor blog.

The reluctance of banks to transact commercial paper could be disastrous as we head into the holiday season as retailers need loans to stock up on goods to sell. If the lending doesn't happen soon we could see much more pain ahead. Unfortunately, the seize up doesn't seem to be easing.

This doesn't appear to be a good holiday season ahead!

Quote:

If the TED spread is widening, the question becomes is it because inter bank lending rates are rising, or treasury rates are falling, or both?

barnaby, if the treasury rate falls then the LIBOR should fall in lockstep if the risk premium stays the same. If treasury falls and LIBOR stays the same it means risk premium has increased. At least that is how I understand it.