In the new world of mandatory OTC Clearing, daily mark to market valuations of Cleared IRS positions create funding cash flow requirements. The owner of an in-the-money IRS position will receive a cash amount from the Clearing House and vice versa for the owner of an out-the-money position. In addition, the receiver of the cash Variation Margin (VM) is required to pay daily Price Alignment Interest (PAI), i.e. EONIA for Euro swaps, on the total of the mark to market of his position. Hence, the owner of the in-the-money IRS position will find it necessary to invest the VM received in order to finance the PAI.

Given strict investment guidelines and the inherent daily variability of the VM position, it is common to invest the funds in short-term repos. Unfortunately, the achievable repo rates are almost always different to the charged PAI (EONIA) rates. Generally, the in-the-money IRS holder is short the EONIA vs. Repo interest rate spread and vice versa for an out-the-money position. Historically, we have observed that the spread has reached double digits and stayed at elevated levels for a long time (e.g. around +10bps for all of 2012).

From 12th November 2014, the new Eurex Secured Funding Futures contract for the first time provides the possibility to hedge the funding costs/investment rates of VMs and PAIs. Please see the attachment below for more information.