Basis Rate Swap
A mortgage company issues variable rate mortgages tied to the LIBOR rate (London Interbank Offer), but when they borrow money it's based on the Treasury Bill rate (which is based on an alternate money market). The spread (or difference) between the lending and borrowing rates results in interest rate risk, so they undertake a basis rate swap, exchanging the LIBOR and Treasury Bill rates, thereby eliminating the risk.
In other words, variable interest rates based on alternate money markets were switched out to lessen the inherent risk the mortgage company would face from using different borrowing and lending rates.
Related or Semi-related Video
Finance: What Is a Basis Point?124 Views
finance a la shmoop what is a basis point?
well one percentage point is a hundred basis points, half a percentage is 50
basis points, five percentage points is? yeah we're gonna make you do that one on [frowning man talks to camera]
your own. well the basic idea is that in very large financial transactions those
involved need highly granular computation grids, and basis points
divid interest rates much more tightly. if a company borrows three billion
dollars just noting that the rate is four percent is really vague. it would
need to be noted as four point zero zero percent. why? because just one basis point [equation on screen]
i.e. one hundredth of a percent per year on three billion dollars borrowed
is still a lot of money. that is one basis point on three billion bucks is
300 grand .so basis points are a real thing in high finance transactions and [smiling man talk to camera]
okay okay the answer is 500 basis points. yeah all right now you can go back to
spinning this thingy. [man spins fidget spinner]
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