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An example of a cap would be an agreement to receive a payment for each month the LIBOR rate exceeds 2.5%. Similarly, an interest rate floor is a derivative contract in which the buyer receives payments at the end of each period in which the interest rate is below the agreed strike price.
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The London Interbank Offered Rate (LIBOR) came into widespread use in the 1970s as a reference interest rate for transactions in offshore Eurodollar markets. [25] [26] [27] In 1984, it became apparent that an increasing number of banks were trading actively in a variety of relatively new market instruments, notably interest rate swaps, foreign currency options and forward rate agreements.
3-month LIBOR is generally a floating rate of financing, which fluctuates depending on how risky a lending bank feels about a borrowing bank. The OIS is a swap derived from the overnight rate, which is generally fixed by the local central bank. The OIS allows LIBOR-based banks to borrow at a fixed rate of interest over the same period.
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The TED spread is an indicator of perceived credit risk in the general economy, [2] since T-bills are considered risk-free while LIBOR reflects the credit risk of lending to commercial banks. An increase in the TED spread is a sign that lenders believe the risk of default on interbank loans (also known as counterparty risk ) is increasing.
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3-month CD. 1.52%. 1.54%. Down 2 basis points. 6-month CD ... you face fees equal to several months of interest — as much as three to six months’ worth, depending on the account and your term ...