Less than zero
A drop in inflation expectations last year sent dealers scrambling to hedge their exposures to 0% floors embedded in structured products, causing a massive dislocation in the inflation swaps market. Have dealers now covered their exposures? By Alexander Campbell
The spectre of deflation has haunted inflation desks for the past six months. Having sold billions of dollars in structured notes with embedded 0% floors in 2003 and 2004, dealers were sent into a panic in October last year as inflation expectations fell sharply. A rush of hedging activity ensued, pushing the front end of the inflation swaps curve to unprecedented lows, in turn aggravating the short floor exposures of dealers.
The price for one-year zero-coupon inflation swaps in the US
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