- TED spread
The TED spread is the difference between the interest rates on interbank loans and short-term U.S. government debt ("T-bills").
Initially, the TED spread was the difference between the interest rates for three-month U.S. Treasuries contracts and the three-month
Eurodollar s contract as represented by theLondon Inter Bank Offered Rate (LIBOR). However, since theChicago Mercantile Exchange dropped T-bill futures, the TED spread is now calculated as the difference between the three-month T-bill interest rate and three-month LIBOR.TED is an acronym formed from "T-Bill" and "ED", the ticker symbol for the Eurodollar futures contract. The size of the spread is usually denominated in
basis point s (bps). For example, if the T-bill rate is 5.10% and ED trades at 5.50%, the TED spread is 40 bps. The TED spread fluctuates over time, but historically has often remained within the range of 10 and 50 bps (0.1% and 0.5%), until 2007. A rising TED spread often presages a downturn in the U.S. stock market, as it indicates that liquidity is being withdrawn.Indicator
The TED spread is an indicator of perceived credit risk in the general economy [ [http://www.bloomberg.com/invest/glossary/bfglost.htm#ted_spread Bloomberg.com Financial Glossary] ] . This is because T-bills are considered risk-free while LIBOR reflects the credit risk of lending to commercial banks. When the TED spread increases, that is a sign that lenders believe the risk of default on interbank loans (also known as counterparty risk) is increasing. Interbank lenders therefore demand a higher rate of interest, or accept lower returns on safe investments such as T-bills. When the risk of bank defaults is considered to be decreasing, the TED spread decreases [ [http://krugman.blogs.nytimes.com/2008/03/12/mission-not-accomplished-not-yet-anyway/ Mission not accomplished not yet, anyway - Paul Krugman - Op-Ed Columnist - New York Times Blog ] ] .
Historical levels
During 2007, the
subprime mortgage crisis ballooned the TED spread to a region of 150-200 bps. On September 17, 2008, the record set after the Black Monday crash of 1987 was broken as the TED spread exceeded 300 bps ["Financial Times". (2008). [http://www.ft.com/cms/s/0/8058d308-84d3-11dd-b148-0000779fd18c.html Panic grips credit markets] ] . Some higher readings for the spread were due to inability to obtain accurate LIBOR rates in the absence of a liquid unsecured lending market [ [http://www.bloomberg.com/apps/news?pid=20601087&sid=aVGxm.ZU.0jM& Bloomberg - Libor Jumps as Banks Seek Cash to Shore Up Finances] ] . On October 10, 2008, the TED spread reached another new high of 465 basis points. The longterm average of the TED has been 30 basis points.See also
*
Eurodollar
*Treasury security
*LIBOR References
External links
* [http://www.bloomberg.com/apps/cbuilder?ticker1=.TEDSP%3AIND Current TED Spread Quote from Bloomberg]
* [http://www.nytimes.com/2008/03/14/opinion/14krugman.html?em&ex=1205640000&en=824ea64818ba5af2&ei=5087%0A Betting the Bank ]
* [http://www.econbrowser.com/archives/2008/09/understanding_t.html Understanding the TED spread] from the Econbrowser blog
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