finance

Cross Currency Swap execution

TL;DR: CCIRS execution template

Executing bonds offshore is exciting, and often intense. There are often huge volumes of work to get through (on top of normal duties). Documentation issues, negotiations, presentations, Board papers, travel… so much going on. All too often, this makes the cross currency swap a comparative afterthought in senior people’s minds.Unfortunately, that often pushes the swap’s execution to the back of the bus, sometimes with expensive consequences. The bond is all about the margin to Treasuries, right?

T+Margin is important, but there is a lot more that happens before you end up with what you want – floating BBSW. Obsessing over the margin to Treasuries while leaking 5 points on the swap is economically irrational.

So how can you ensure an appropriate result is achieved in the cross currency swap? My tips for doing so are as follows:

  1. Don’t just throw the swap execution/management to the least capable person on your team. On the bank’s side, they certainly won’t. Note, the least capable <> the most junior!
  2. Know the swap. Nail down all of the negotiable parts prior to execution. Get screen shots for the rest. Use the spreadsheet below to help you. The bank dealers don’t really like this type of approach, and it will cause arguments. Often heated arguments. Without arguments, you’re not trying hard enough! Don’t worry, they’ll still make a small fortune and will soon forget that argument.
  3. Take more than one bank to execution. This is very important. You need to be able to drop banks if they try to play funny.

Sam He, a former colleague of mine, created the spreadsheet below. It is brilliant, the most detailed CCIRS execution template I’ve seen. I’ve never seen a text book go into anything near this level of detail. I highly recommend you use it in your cross currency swap execution process – it will lead to a better result. The spreadsheet works with both Reuters and Bloomberg, and is for AUD/USD CCIRS. If you’re looking at executing a different CCIRS, say AUD/EUR, let me know or drop Sam a line. I’m sure he’d love to help out.

CCIRS execution template

Note: The macros only copy the live pricing across, disabling them will not affect the operation of spreadsheet.

Interest Rate arbitrage betting

Interest Rate arbitrage betting

One of the Mensa SIGs is called, “Is there such thing as a good bet”. I always thought it a waste of their intellectual capabilities to ponder such things, but I guess money matters. I am sure there are plenty of people who think they are onto a good thing, but that doesn’t make it a good bet. I’ve spoken in recent posts about knowledge asymmetry creating opportunities for those that hold it to make money. Well, I’m about to put some knowledge in your hands that will enable you to profit in all probable or possible outcomes through a bit of interest rate arbitrage betting. If anyone actually reads this, it will make it less likely that I make money, but I don’t care. I’ve actually made good money with essentially no risk doing what I am going to outline below. This is the closest you will ever come to free money. It is a little on the complex side if you have no background in betting or futures, but not impossibly so.

Market Conditions

Today saw interest rates rally hard in the front end because the Bank of Canada cut their interest rates. Don’t ask me what the link is to the RBA’s decision making for Feb, I’m not that smart. But it pushed the Feb IB’s up to 98.58. I think they traded 98.585 – they were certainly bid 98.58 when I looked at them. For those who have downloaded my interest rate change probability calculator, you will be able to determine that this pricing implied a 38% chance of the RBA cutting rates in Feb.

Fortunately, no one told the bookies, and they appear to be a little clueless. Today, TAB in NSW were paying $3.75 for a rate cut, and BetEasy is paying $4.25 right now. The screenshot is above. I probably shouldn’t be recommending you use competitors of Tatts (got to put a link in to even up the SEO benefits! Ha!), my employer, but as we are unable to make prices on interest rates, and you can’t realistically lose on this bet, I will make an exception. Anyway, if we take BetEasy as an example, $4.25 implies a 23% chance of a rate cut.

38% in the IB’s versus 23% in the bookies… See where I am going here? Let’s run through how to make it happen.

Place the Bets First

The corporate bookmakers, as a general rule, do not have brass balls. They like having losers as clients and don’t like large bets, particularly in “exotic” fixed odds markets. So you should always place your bets before you do anything with the IB’s. When I last went big in this, I had bets on with Centrebet, Sportsbet, and Tab NSW (Vic doesn’t offer the bet). And I put them on progressively. This is the single biggest impediment to getting this to work, although with a bit of nous you should be able to get bets of $3-4k on before you erase the arbitrage.

Possible Outcomes in IB’s

We know from previous posts that IB’s have defined outcomes. The result is, for practical purposes, binary. Does the RBA change rates, or not. We know that the RBA won’t be raising rates. And they won’t cut 50. So the question becomes, do they cut 25 basis points, or not. If they cut, the IB’s are going to settle at 98.725. If they don’t cut, IB’s will settle at 90.50. As the IB market is an institutional market mainly, your volume isn’t going to affect pricing in the next live month.

Mathematics

Ok, we’ve established the boundaries, now let’s get specific:

1. Sell Feb IB’s at 98.58. If the RBA cuts rates, you will lose $357.57 ($24.66 per point * 100 * (98.58-98.725)). If they don’t cut rates, you will make $197.28 ($24.66 per point * 100 * (98.58-98.50)). So, you need to take some of that profit to cover the potential loss.

2. If we take BetEasy’s pricing as given, we would place a $110 bet on the RBA cutting rates by 25 basis points in Feb at $4.25. If they do, you win $357.50 ($110  * (4.25-1)). If they don’t cut rates, you lose $110.

So, the outcomes are as follows (per IB contract):

  • RBA Cuts rates 25 basis points: you lose $357.57 on the IB’s and make $357.50 on your bet. It’s a wash.
  • RBA does nothing: You make $197.28 on the IB’s and lose $110 on your bet. Net result +$87.28.

So, in all probably outcomes, you come ahead. You can adjust the amount of your bet to skew the result to the way you’re thinking. For example, you could increase the bet to $150, such that you make $130 if they do go and $47.28 if they don’t.

Now, scale up! There are some things you need to keep in mind though:

  1. There is an asymmetric tax outcome. Sometimes it works for you, sometimes against. No tax on the betting, whereas the IB’s will be taxable.
  2. Black swan events. The RBA are pretty level headed, and it is very unlikely that they are going to do something out of left field (like cut 100 basis points), but it could happen. You could get hosed in that instance, but if you go really big you can use the betting market to cover some black swan events. I certainly have in the past. I like risk, but my wife would have killed me!

So there it is. Hopefully Tatts has its restriction lifted and we start making prices in RBA cash rate moves. Perhaps I will make my debut as a real bookmaker?!

Disclaimer: This post is not investment advice, and is not sanctioned in any way by Tatts Group. It’s just a bit of fun and should be treated as such!

How to Land a Shark from the Shark Tank (Pt 1)

How to Land a Shark from the Shark Tank (Pt 1)

With the upcoming TV show on Ten, Shark Tank, it’s an opportune time to explore what it takes to land a Shark – i.e. get one to invest in your business. I guess I should know, I’ve landed one. Twice.

It’s worth noting at this point that I do not consider myself a particularly good entrepreneur. My ability to talk shit is limited, and I am hopelessly honest. I enjoy solving difficult problems, and the reality with starting most businesses is that the difficult issues are solved early and then it is just a matter of grinding it out. Ergo – I am a shit entrepreneur.

There is one aspect of the start-up process I am good at, having said that. Raising money. That probably shouldn’t be a surprise given my professional background also centers on raising money.

So how does one go about raising money from sophisticated investors? Well, there are a few tricks to it, but the main one is this:

“If you need to raise money, then nothing else matters.”

If you don’t need to raise money, then don’t do it. As an ego trip, it is not a very smart one. You should be trying to keep as much of your equity as you can. However, if you need to raise money, then it needs to be your #1 priority.

At the moment, if you can’t raise seed funding within 10 pitches, something is VERY wrong… some suggestions:

  1. Your team is shit.
  2. Your product/service is shit.
  3. Your presentation is shit.
  4. Your presenting skills are shit.
  5. You are pitching the wrong people (your networks or your researching ability are shit)

The first two issues are potentially terminal, as they should be. The last 3 are totally solvable and if you kill the last 3, in this environment you could overcome the first 2. Color.com – case in point. Urrgh.

Why do I say that? Well, because I’ve seen heaps of other companies try to raise money. Pitching for months, some wear it as a badge of honour. That’s rubbish. If no money = no business then the last 3 must be your #1 priority. Your = the whole team.

In the next installment I will go through the anatomy of the start up pitches our team used to raise money from one of the people on the Shark Tank. The bones of the pitches were the same just the skins were different. I’ll also talk about what we did to bring it all together.