Libor/OIS spread challenges insurers' risk management programmes

Moves to central clearing of many derivatives will mean hedge assets and margin will be valued using the overnight interest rate. Yet insurers’ liabilities are still valued with reference to a Libor rate. For those insurers that are significant users of derivatives, the spread between these two bases presents risk management issues. As Clive Davidson reports, managing this risk is not straightforward

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Traditionally, insurers value liabilities that are sensitive to interest rates with reference to a Libor curve – the benchmark interest rate curve for inter-bank lending. This made sense and kept things relatively simple when hedge assets and associated collateral were also discounted using Libor.

But this is no longer always the case. Since the financial crisis, the market has moved to using an overnight index swap (OIS) curve to discount the cash collateral