The TED spread is the difference between the interest rates on interbank loans and on short-term U.S. government debt ("T-bills"). TED is an

acronym An acronym is a word or name formed from the initial components of a longer name or phrase. Acronyms are usually formed from the initial letters of words, as in ''NATO'' (''North Atlantic Treaty Organization''), but sometimes use syllables, as ...

formed from ''T-Bill'' and ''ED'', the ticker symbol for the Eurodollar futures contract. Initially, the TED spread was the difference between the interest rates for three-month U.S. Treasuries contracts and the three-month Eurodollars contract as represented by the London Interbank Offered Rate (LIBOR). However, since the

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dropped T-bill futures after the 1987 crash, the TED spread is now calculated as the difference between the three-month LIBOR and the three-month T-bill interest rate.

Formula and reading

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The size of the spread is usually denominated in

basis point A basis point (often abbreviated as bp, often pronounced as "bip" or "beep") is one hundredth of 1 percentage point. The related term ''permyriad'' means one hundredth of 1 percent. Changes of interest rates are often stated in basis points. If ...

s (bps). For example, if the T-bill rate is 5.10% and ED trades at 5.50%, the TED spread is 40 . The TED spread fluctuates over time but generally has remained within the range of 10 and 50 (0.1% and 0.5%) except in times of financial crisis. A rising TED spread often presages a downturn in the U.S. stock market, as it indicates that liquidity is being withdrawn.

Indicator

The TED spread is an indicator of perceived credit risk in the general economy, since T-bills are considered risk-free while LIBOR reflects the credit risk of lending to commercial banks. An increase in the TED spread is a sign that lenders believe the risk of default on interbank loans (also known as

counterparty risk A credit risk is risk of default on a debt that may arise from a borrower failing to make required payments. In the first resort, the risk is that of the lender and includes lost principal and interest, disruption to cash flows, and increased ...

) is increasing. Interbank lenders, therefore, demand a higher rate of interest, or accept lower returns on safe investments such as T-bills. When the risk of bank defaults is considered to be decreasing, the TED spread decreases. Boudt, Paulus, and Rosenthal show that a TED spread above 48 basis points is indicative of economic crisis.

Historical levels

Highs

The long-term average of the TED spread has been 30 basis points with a maximum of 50 . During 2007, the

subprime mortgage crisis The United States subprime mortgage crisis was a multinational financial crisis that occurred between 2007 and 2010 that contributed to the 2007–2008 global financial crisis. It was triggered by a large decline in US home prices after the col ...

ballooned the TED spread to a region of 150–200 . On September 17, 2008, the TED spread exceeded 300 , breaking the previous record set after the

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crash of 1987. Some higher readings for the spread were due to inability to obtain accurate LIBOR rates in the absence of a liquid unsecured lending market. On October 10, 2008, the TED spread reached another new high of 457 basis points.

Lows

In October 2013, due to worries regarding a potential default on US debt, the 1-month TED went negative for the first time since tracking started.UBS Asset Management Taps Derivatives to Hedge U.S. Debt Risk
Bloomberg.com, 10 October 2013

References

External links

Current TED Spread Quote from StockCharts.com
from the Econbrowser blog {{DEFAULTSORT:Ted Spread Economic indicators Interest rates United States housing bubble Reference rates