Sorry to interrupt, but one question: is there x-ccy basis in non-USD crosses too, like for example EUR/CHF, or is this really only USD related.
AUD and NZD because their banks issue their debt in USD and swap into local currencies. http://www.rba.gov.au/publications/bulletin/2013/jun/7.html
if you are paid xccy for lending AUD versus USD and paid xccy for lending USD versus EUR, then it should follow that you're paid for lending AUD versus EUR?
Yes, indeed. In fact, AFAIK, this is how all the non-USD x-ccy basis is priced in the mkt. It's all done via USD, sorta like what the FX options mkt does for funkier ccy pairs. It also follows that it's much less liquid and would, most of the time, be traded "by appointment". So I'd still maintain that anything non-USD is mostly incidental and kinda insignificant, at least for the moment.
Sorry, enjoying the weekend on the water. Yes, agree with all, that's the same set of transactions I was describing.
It is interesting that M said there is an increased basis to account for the cost of "cash and carry" in USD related pairs as opposed to non-USD. Borrowing to sell and lending to buy. So the increased basis means more risk/volatility. USD pairs have cheaper conversion than GBP pairs. Ex. £100,000 in USD buys more DKK than £100,000 buys DKK. You could arb out money through a triangular trade of GBP/USD-USD/DKK than GBP/DKK at the close of market friday. As with most financial instruments, buying to lend, sellers of GBP are requiring a greater basis to hedge against risk; thus, the higher spread than USD. Sellers of USD are requiring a lower basis; thus lower spreads to cover risk.
Grand... So this type of concoction with all the legs which are supposed to hedge all the risks is, in fact, what's known as a cross currency basis swap. In theory, it's supposed to be arbitrage, so shouldn't really trade, but in practice, like many similar "bases" it's actually used to hedge and speculate. For instance, this is what the long-history of the 3m GBPUSD x-ccy basis swap looks like (in basis points of notional): Note that the most intuitive interpretation of this fluctuating value is that it is the difference (in basis points) between the rate differential prevailing in the rates markets and that implied by the FX markets. Needless to say, both of these markets are very liquid and deep. The idea that "deviations" like the above can occur in a trade which should, in theory, be pure arbitrage is pretty significant. In fact, these types of phenomena have made a lot of the common "no arbitrage" arguments hopelessly obsolete. There are lots of reasons for why this "basis" exists and much cleverer people have written about them. For instance, it's quite costly to do the "arbitrage" trade, as I have mentioned in one of my earlier posts. Another reason is the persistent supply/demand imbalances in the cross-border lending market (especially for financial firms). Then there's also a broad macro dimension arising from divergent monetary policies. All these taken together can explain a lot. However, there's also a more fundamental point, which I have alluded to earlier, which is the perception that, after the crisis, cash is a finite and precious resource. USD cash, in particular, is the one where the scarcity is perceived at times to get most acute. This perception of scarcity reduces the willingness of the market participants to lend USD. As the market's attitude ebbs and flows as a result of various factors (for instance, broad risk aversion as in 2008/09 and again in 2011; or regulation as in the latter part of 2016), the basis fluctuates to reflect it. This is actual risk.
And, btw, to add to this... El Presidente Trumpo is dead set on making all these "arbs" great again. Yesterday, the mkt moved bigly on the back of the US Treasury report on proposed regulatory changes. It will soon good to be a banker again!