Why are the swap rates I see online different from what the bank quotes?

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One of the benefits swaps offer is complete customization. Each swap can be structured independently of the financing to allow for flexibility for things like notional amount, term, amortization, and prepayment flexibility.

This makes publishing a “standard” swap rate challenging since each loan has unique characteristics that affect the final rate.

Semi-Bond Conventions

In general, the rates published online utilize something called “semi-bond conventions”. That is a fancy way of saying that the fixed rate side makes payments every six months using 30/360 daycount conventions, while the floating rate side makes payments quarterly on 3 month LIBOR using actual/360 daycount conventions. Both sides of the swap are interest only. These rates are meant to replicate standard conventions found on corporate bonds.

We pulled the rates below from three commercial real estate brokerage websites at the same time. As you can see, the rates are pretty similar and any difference is probably attributable to different curve refresh times.

1.622%
1.598%
1.600%

If you are ok being off by a few basis points, these rates will do a reasonably good job of showing where the market is trading within about a 15 – 30 minute lag. But these are semi-bond convention rates, which means they are really only applicable to your financing if your financing has the structure and daycount conventions highlighted above.

And there is really only one financing mechanism in commercial real estate that uses these conventions – CMBS.

If you are pricing a CMBS deal, online rates will do a relatively good job of getting you close. We have clients that want to be more precise and will have us on the phone with the CMBS trader at closing to ensure complete transparency, but even if you don’t, the rate you lock is probably within 2-5 basis points of the real swap rate.

Semi-Bond Swap Rates

Here is a generic Bloomberg screen capture showing a variety of rates. We have highlighted the generic 10 year semi-bond swap rate, 1.60%. As you can see, these are pretty close to the online rates we found.

USSW Scrreen Capture

Here is a more precise swap model. We have set all the parameters to semi-bond conventions, also highlighted. As you can see, the 10yr swap rate here matches the 10yr swap rate above because they both use semi-bond conventions. The rate in both cases is 1.60%.

10 Year Swap at 1.60 Screen Capture

Monthly Money Conventions

Here’s the rub – bank loans use monthly money conventions, not semi-bond conventions. Payments on most commercial real estate loans are made monthly using actual/360 daycount conventions and 1 month LIBOR. Additionally, these loans usually have an amortization (sometimes customized). This means there is a discrepancy between the online published rates and the rates you are locking in with your bank.

As you can see here, the rate for a 10×25 swap is 1.40%, a full 20bps lower than the generic 10 year swap rate. On a $100mm swap, that is nearly $1,500,000 in present value. Even on just a $25mm swap, that’s still $375,000.

You may believe that as long as the rate is close to 1.60%, you are getting a fair deal. But as you can see, that would embed an additional 20 basis points today.

10 Year Swap at 1.40 Screen Capture

Tracking the Spread

Complicating matters here is that this discrepancy fluctuates daily. If you try to peg a bank quote from the time you receive a term sheet until the day the loan closes, this spread could have changed.

Furthermore, if you notice a difference and ask the swap desk about it, you will likely get an ambiguous answer that leaves you dissatisfied. A diligent swap marketer will ask where your rate came from so they can check that source next time before they quote you again. They will have several reasons prepared to explain the discrepancy before they answer a call. Any question you have for a swap desk is one they have answered thousands of times in their career. At a minimum, you will hear how choppy markets are and that is why the rate they are locking is not matching exactly what you are seeing online…

Swap desks rely on deal fatigue to scrape a few extra basis points at the closing table, hoping the borrower is fine as long as the rate or the spread is reasonably close to what they are expecting. But swap desks live in the periphery. A few extra basis points across 300 swaps each year adds up.

Swap desk profit is made by taking any markup over the life of the swap, present valuing, and recognizing it as upfront fees. Five extra basis points on the $100mm 10 year swap above isn’t $50,000.

It’s $340,000.

Monthly Money Swaps

If you go to our website, we have monthly money swaps. This means rates on Pensford’s website are bad for CMBS, but good for bank loans with swaps. There are plenty of sources for semi-bond rates, but we are the only source online that we know of with monthly money swaps.

These rates are updated every 15 minutes and should get you close to what the bank will tell you. We understand that some borrowers will try to use these to get “close enough”, rather than engage us. We are ok with that. We have never sold ourselves solely on price enforcement and want to work with clients that appreciate our strategic advice on structuring, ISDA negotiation, Dodd-Frank guidance, and excellent customer service. If close enough is good enough for you, please enjoy the website and tell the swap desk you got rates from www.pensfordfinancial.com so they can drive traffic to our website!