An Empirical Analysis of Factors Driving the Swap Spread

Abstract

In this article, we perform a robust analysis of the determinants of U.S. swap spreads using a wide range of theoretically motivated candidate factors. We conduct an analysis by taking into consideration the interdependence between the candidate factors, as well as the time frequency under which the factors affect the spread. We find that the suggested variables can to a fair degree explain movements in the swap spread. The results suggest that the mortgage-backed security holders' demand for swap rates strongly influences the U.S. swap spread. Importantly, our analysis of the interdependence between the explanatory variables indicates that the underlying initiator of these activities is changes in the shape of the yield curve. Among other things, we find that Treasury and stock market volatility as well as the activity of the mortgage-backed security holders have strong effects on the U.S. swap spread.