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Cross-Currency Basis and Bank Funding Imbalances

Article Quant Q&A · Author: Fabian Tan
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Summary

The document offers a qualitative explanation for why the Australian dollar three-month cross-currency basis may be positive while euro and yen basis measures are often negative. It connects the sign of the basis to banks’ currency-denominated assets and liabilities, and to the direction in which they use cross-currency swaps to manage funding.

The proposed account is that Australian banks may raise more US dollars than they need for dollar assets and swap the excess into Australian dollars. European banks, by contrast, may have significant US dollar assets and obtain part of their dollar funding by swapping locally raised euros into dollars. Greater demand to obtain dollars through swaps can make that funding route more expensive and correspond to a negative basis. The explanation is explicitly tentative: it offers only a broad account of banking structures, provides no data or detailed market analysis, and notes that Japanese funding dynamics are not explained.

Key ideas

  • Cross-currency basis signs can reflect the balance between demand for funding in each currency.
  • The answer links Australian banks’ potential surplus dollar funding to swapping dollars into Australian dollars.
  • It links European banks’ dollar asset needs to demand for dollar funding through swaps.
  • The account is tentative and does not establish the causes of Japanese basis behavior.

Tags

Fixed incomeForexCarry
Full text
# why is ADBSC currency positive?


# why is ADBSC currency positive?












Hi guys I am new to cross currency.

Could anyone explain why

```
ADBSC <curncy>
```

(Australian Dollar 3 month cross currency basis) in Bloomberg is always positive while EUBSC and JYBSC (Euro and Yen basis) is most of the time negative?

thanks very much.

## Answer by nbbo2 (score 2)

https://quant.stackexchange.com/a/51747

I think it has something to do with differences in how Australian banks and EU/JP banks finance themselves.

Probably you need someone who is an expert in Australian and European banking structure to explain it properly. I'll attempt an overview:

Basically Australian banks have mostly AUD assets, when they issue USD bonds most of the USD proceeds are not really needed and can be swapped into AUD. EU banks have EUR assets but also substantial USD assets (eg. a loan in USD by a French bank to a company in East Asia). To fund these USD assets they rely in part on USD bond issues, supplemented by currency swaps in the opposite direction i.e. EUR raised locally are swapped into USD. This makes the cross-currency basis negative.

As you know, a negative basis means it is expensive to obtain USD by going through a cross currency swap (in terms of basic economics, too many people are trying to do this, as compared to people who want to go in the other direction, so it becomes expensive).

Of course that still leaves the question why the European banks have chosen to adopt this imbalanced asset/liability structure which leaves them needing USD funding while the Australians have the opposite policy of ample USD funding. I'll be happy if a real expert can correct me and take the answer further. (For ex. about Japanese banking and finance I know very little). Most of the real experts are at central banks and the BIS.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

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