Philippine Derivatives Surge: A Structural Shift in Monetary Policy Transmission

The launch of a formal peso interest rate swap (IRS) market in November 2024 represents a foundational shift in the Philippines' financial architecture. This new market is anchored to the Overnight Reference Rate (ORR), a benchmark explicitly designed to provide a superior foundation for pricing across the economy. The ORR itself is derived from the Bangko Sentral ng Pilipinas' (BSP) daily reverse repurchase auctions, a move that directly addresses a long-standing weakness: the previous reliance on yields from thinly traded government securities for loan pricing.

Governor Eli Remolona Jr. has framed this development as a strategic upgrade to the central bank's toolkit. He stated that the new market is critical for "helping boost transactions, create a benchmark yield curve, and deepen our capital markets." More importantly, he has explicitly linked its depth to the effectiveness of policy. In a keynote address, Remolona declared that "a deeper IRS market strengthens our monetary policy transmission mechanism." This is the core structural catalyst. By establishing a liquid, transparent benchmark for forward-looking interest rates, the ORR-based IRS market aims to improve price discovery, anchor market expectations, and ultimately ensure that changes in the BSP's policy rate are transmitted more efficiently and predictably throughout the financial system and the broader economy.

Measuring the Surge: From Nascent to Dominant

The numbers tell a story of explosive maturation. Just a year after its launch, the peso interest rate swap market has vaulted from a niche instrument to a central pillar of the financial system. Trading volumes in January 2026 hit 43.5 billion pesos ($739 million), a staggering more than 60-fold increase from the 700 million pesos recorded in all of 2024. This isn't just growth; it's a structural takeover in the making.

The market's total size since inception is now about PHP100 billion, a figure that underscores its rapid scaling. Its foundation is a network of 16 participating banks acting as market makers, a critical mass that provides the liquidity needed for a benchmark to function. Governor Eli Remolona Jr. has described the uptake in the related interbank repo market as "very promising" and expects it to surpass the established FX swap market this year. In fact, he has gone further, stating that the repo market "won't be long before it surpasses the FX swap market and makes the FX swap market redundant."

This projection is grounded in the market's momentum. Data shows the interbank repo market reached P111.25 billion in October 2025, closing fast on the FX swap market's P146.65 billion in the same period. The shift is clear: the new ORR-based derivatives are becoming the preferred tool for banks to manage interest rate risk and price their transactions. As the governor noted, once banks discover the utility of this new contract, they "gravitate to that contract." The early, nascent client use is already "very encouraging," signaling a powerful network effect is underway.

Financial Market Impact: Deepening Liquidity and Convergence

The explosive growth in the peso interest rate swap market is already yielding tangible benefits for the financial system, moving beyond structural promise to deliver immediate operational improvements. The most direct impact is in price discovery and the anchoring of market expectations. As Governor Eli Remolona Jr. noted, the surge in trading is "helping improve price discovery" and is allowing the market to "form interest-rate expectations" over policy-relevant time horizons. This is a critical function: by actively trading contracts that lock in future interest rates, market participants are collectively signaling their view on the BSP's policy path, creating a forward-looking benchmark that was previously absent.

This new benchmark is also driving convergence across the central bank's own facilities. The governor has pointed to the market's "very promising" signs of "improvements in the alignment of the rates relative to the different rates in the BSP facility." When rates across various overnight and term operations begin to move in sync, it signals a more efficient transmission of monetary policy. Liquidity can flow more freely between institutions, and the central bank's operations become more predictable and effective. This alignment is the practical outcome of having a deep, liquid market anchored to the ORR, the very rate the BSP uses for its reverse repurchase auctions.

The IRS surge is not an isolated event but a key driver in a broader development within the interbank repo market. That market is itself "growing very fast" and is catching up rapidly to the established FX swap market. Data shows the repo market reached P111.25 billion in October 2025, closing fast on the FX swap market's P146.65 billion. This convergence is structural: the new ORR-based derivatives are becoming the preferred tool for banks to manage interest rate risk, which in turn fuels activity in the underlying repo market where those hedges are executed. As the governor observed, once banks adopt the new contract, they "gravitate to that contract." The result is a virtuous cycle where deeper derivatives markets enhance liquidity in the repo segment, and a more liquid repo market, in turn, supports the depth and credibility of the derivatives benchmark.

The bottom line is a financial system becoming more integrated and efficient. The new market is not just a new product; it is a catalyst that is improving the quality of market signals, aligning the central bank's tools, and accelerating the development of a more liquid and transparent interbank market. This is the immediate, on-the-ground impact of a structural shift in monetary policy transmission.

Forward Scenarios and Key Watchpoints

The structural shift is underway, but its ultimate success hinges on a few critical pathways and risks. The market's evolution will be validated by specific metrics and could be challenged by persistent domestic frictions. The primary catalyst for the ORR curve's dominance is straightforward: continued growth of historical data and trading volumes. As Governor Remolona noted, the build-up of this data is a "clear indication of the market evolving." The more contracts that trade, the more robust the benchmark yield curve becomes. This depth is essential for the market to fulfill its promise as a "backdoor to building a benchmark yield curve," as Remolona described. Without sustained volume, the ORR's credibility as the market's reference point remains vulnerable.

A key risk to this thesis is potential pricing divergence. The central bank itself has identified a source of friction: "the reason our pricing is different is because of taxes and withholding taxes." If domestic factors like tax conventions cause the ORR-based IRS curve to consistently deviate from the yields on government bonds, it undermines the very convergence the market is meant to achieve. This divergence could fragment the benchmark, creating confusion and weakening the policy transmission mechanism the reforms aim to strengthen. The BSP is actively working to resolve this, but the timeline and outcome remain a watchpoint.

The critical metric to monitor is the convergence of bond yields with the IRS curve. The 10-year government bond yield, which stood at 5.92% as of February 5, 2026, is a key anchor point. Analysts expect it to trade around 5.74% over the next year. The market's success will be measured by whether the ORR curve, derived from the IRS, moves in step with this benchmark. When the two converge, it signals that the new derivatives market is effectively anchoring expectations and providing a reliable reference for the entire yield curve. Until that alignment is clear, the structural thesis remains a work in progress.