What Drives Bank Wholesale Funding Spreads? Empirical Evidence from Australia

Author: Simon Cottrell

Cottrell, Simon, 2015 What Drives Bank Wholesale Funding Spreads? Empirical Evidence from Australia, Flinders University, Flinders Business School

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Of the two funding options for banks (retail and wholesale), the Big Four banks in Australia have considerable proportions of their funding base made up of wholesale funding although, some lower tier banks (such as Bendigo/Adelaide Bank, Bank of Queensland, and Suncorp) had more than half of their funding base in wholesale leading up to the financial crisis.

Wholesale funding is funding accessed from domestic and international debt markets (i.e euro market, Asia, and the United States) and/or the domestic interbank markets. The majority of wholesale funding consists of long term bonds (term funding), securitisation and short term NCD’s (negotiable certificate of deposits and Euro commercial paper) issued via domestic and international capital markets.

Wholesale funding is usually priced to the respective benchmark interest rate. In Australia this is the BBSW (bank bill swap rate), in Europe the LIBOR (London inter-bank offered rate) and in the US the USCP rate (US commercial paper rate). Each bank is charged a different margin above their respective benchmark interest rates based on variables such as credit ratings, size of the issue and maturity, and general economic conditions. In addition, debt issued offshore is hedged using cross currency swaps and interest rate swaps to hedge out exchange rate risk and interest rate risk. This adds a cost to the banks debt funding margins. The relative importance of these variables and the issues related to wholesale funding are empirical questions yet to be addressed.

The most common wholesale funding instrument is one where interest rate paid by a bank is a combination of the 90 day bank bill swap rate (90 day BBSW) and a margin (spread) above the BBSW. During the financial crisis, wholesale funding came under pressure around the world due in part to a reluctance of banks willing to invest in each other’s negotiable certificate of deposits (NCD’s) and other interbank funding instruments, fuelling the liquidity crisis. The aim of this research is two-fold. First it explores the size and scope of wholesale funding in Australia with particular reference to domestic wholesale funding. Second it examines the relative power of macro-economic variable factors in influencing the patterns of wholesale funding spreads in order to address the research question “What drives bank wholesale funding spreads?: Empirical evidence from Australia”.

Keywords: bank funding spreads, wholesale funding spreads, bank debt yield spreads, Australian bank wholesale funding, bank debt spread drivers, wholesale funding spread determinants

Subject: Business thesis

Thesis type: Doctor of Philosophy
Completed: 2015
School: Flinders Business School
Supervisor: Sarath Delpachitra