Why OIS Coupon Quotes May Already Include Convexity Effects

Summary

The document asks whether overnight index swaps need a convexity adjustment when building an OIS curve, given that overnight rates are published after the accrual period. It presents an argument that OIS market quotes are coupon rates formed from compounded daily index rates, rather than quotes on the individual daily rates. On that view, effects arising from compounding and payment timing are already reflected in the market-implied curve for the relevant tenor.

The text is a question rather than a worked explanation: it does not derive the adjustment, quantify its size, or establish when the quoted-rate argument applies. It is useful as a prompt to distinguish the rate underlying an accrual from the coupon rate actually quoted and traded, but further product and curve-construction detail would be needed to resolve the issue rigorously.

Key ideas

• OIS coupons are calculated from compounded overnight index observations.
• The question is whether publication in arrears creates a separate convexity adjustment for curve construction.
• The quoted argument says coupon-based market prices already embed compounding and payment-timing effects.
• The document does not provide a derivation or conditions for applying that argument.

Tags

# OIS curve convexity adjustment


# OIS curve convexity adjustment












Since, as far as I understand, an Overnight Index Rate is set in arrears, i.e. it is published in the morning after the night to which the rate applies, then I would have thought that we should take into account convexity adjustment when constructing an OIS curve.

However, I have recently come across the following statement:

"The OIS market trades OIS coupons against fixed or Libor coupons. The key point here is that the market prices are for coupon rates, not the daily index rates that are compounded to calculate the coupon rate. So convexity effects due to unnatural payment dates and compounding are already built into the corresponding tenor-specific forward rate curve for this product type."

I am not sure I understand the argument it that statement.

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.