A zero basis risk swap (ZEBRA) is an interest rate swap agreement between a municipality and a financial intermediary. A swap is an agreement with two counterparties, where one party pays the other party a fixed interest rate and receives a floating rate.
This particular swap is considered zero-risk because the municipality receives a floating rate that is equal to the floating rate on its debt obligations, meaning that there is no basis risk with the trade. The ZEBRA is also known as a "perfect swap" or "actual rate swap."
A zero basis risk swap is an interest rate swap entered into between a municipality and a financial intermediary.
A swap is an over-the-counter derivative where one party pays the other party a fixed interest rate and receives a floating rate.
A ZEBRA entails the municipality paying a fixed rate of interest on a specified principal amount to the financial intermediary.
ZEBRAs entail the municipality paying a fixed rate of interest on a specified principal amount to the financial intermediary. In return, they receive a floating rate of interest from the financial intermediary. The floating rate received is equal to the floating rate on the municipality's outstanding debt to the public.
Basis risk is the financial risk that offsetting investments in a hedging strategy will not experience price changes in opposite directions from each other.
This imperfect correlation between the two investments creates the potential for excess gains or losses in a hedging strategy, thus adding risk to the position. A ZEBRA is free from such risk.