Comparing Bond Asset Swaps and Payer Swaps for Issuer-Spread Exposure

Summary

The document frames three ways to convert a fixed-rate bond position into floating-rate cash flows while seeking to isolate the issuer spread: a par-par asset swap, a same-notional payer swap, and a payer swap sized to match the bond’s DV01. It explains the basic cash-flow setup for each, including how an asset swap uses an upfront fee to account for the bond’s price difference from par and how a plain swap leaves the investor with the coupon-minus-swap-rate difference.

The discussion raises curve sensitivity, counterparty funding of any upfront fee, and investor suitability as comparison points, but it does not provide calculations, performance evidence, or a resolution about which structure is preferable. The question’s premise that all three produce equivalent exposure should therefore be assessed carefully: matching maturity, cash flows, or DV01 does not generally make structures respond identically to curve moves or spread changes. The document is a prompt for analysis rather than a worked recommendation.

Key ideas

• A par-par asset swap matches the bond’s coupon and maturity, with a fee reflecting the bond’s price relative to par.
• A same-notional payer swap offsets fixed coupon cash flows and leaves a floating component plus the coupon-to-swap-rate difference.
• A DV01-matched payer swap adjusts notional to align the rate sensitivity of the bond and swap.
• Curve-bump behavior and the treatment of any upfront fee are relevant comparison factors.
• The document poses investor-suitability questions but does not establish a preferred structure.

Tags

# Buying a bond with a swap to lock in the issuer spread


# Buying a bond with a swap to lock in the issuer spread












I'm looking for someone who can help me expand my understanding of the differences between these three approaches to locking in an issuer spread on a fixed rate bond and staying duration neutral.

I can:

A) Buy the bond with a par par asset swap. The fixed leg exactly matches the coupon cash flow, rate and maturity. Any price difference to par is exchanged as front end fee. Floating leg spread is solved for. Swap counterparty may have to find that front end fee if it's in my direction.

B) Buy the bond and enter into a plain vanilla payer swap with same notional and maturity. I receive the bond coupon, pay the matching fixed rate on the swap and receive a floating cash flow, no spread on the swap but of course I earn the difference between the coupon rate and the swap rate.

C) Buy the bond and enter into a plain vanilla payer swap with same maturity but varying the notional until my DV01 on the bond and the swap even out.

I can't decide between them. The all give me a floating cash flow with a fixed flow equal in meaning to the specific premium on the bond relative to the swap curve. The three strategies perform differently to curve bumps, obviously.

What are some parameters to consider? Which is preferable to which kinds of investors?

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.