Pricing Anomalies in Interest Rate Markets During the Financial Crisis of 2007-2009

Abstract:     
This paper examines pricing anomalies in the interest rate markets during the financial crisis of 2007-2009. Before the failure of Lehman credit and funding constraints weakened the relationship between interest rates of LIBOR and derivatives in the euro, British pound and US dollar, with equivalent discounted cash flows, and hence gave rise to pricing anomalies that would not usually exist. After the Lehman failure, the pricing anomalies in the two European currencies reduced with the relaxation of the funding constraint. The funding and credit constraints however became insignificant for the pricing anomalies in the dollar which persisted during the first half of 2009.

Keywords: Interest rate markets, sub-prime crisis, funding constraints, pricing anomalies

JEL Classifications: F31, G13

Working Paper Series