1. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM ADNEOM B ENELUX T RAINING

2. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Funds rates (taux directeurs) Funds rates are interest rates set daily by the central bank of a country or monetary union, and allow it to regulate economic activity. the rate on deposits : rates are applied to liquidity placed in the central bank the refinancing rate and the discount rate or the marginal lending rate : the rates at which actors can borrow from the central bank. Funds rate fixes the "cost of money" in the money market, and so, it regulates economic investment and thereby stimulate economic activity during periods of low activities or restrain over-investment (in unprofitable projects) during periods of inflationary overheating.

3. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps -Commercial banks borrow from the central banks at the fund rate, and then, they are re-borrowing money to each others at a higher rate. -Means of influencing the cost of credit : rates and volumes. The goal is to influence the average rate by making money more or less available or expensive. -Main rates on the rate market : - The three main rates of interest rates by the ECB - The rate of Euribor. This is the European interbank rates. - The calculated yield of the bond reference Belgian OLO 10 years.

4. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

5. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Euribor rate The Euribor (Euro InterBank Offered Rate) rate is the main reference rate money market in the euro area. The Euribor, for a given period (eg three months, often noted EUR3M) is the fixing calculated every business day at 11am of an average rate at which the fifty largest banks in Europe lend to other banks without the loan is hedged by security deposit, for 1, 2, 3 weeks, 1 month to 12 months. It is published by the European Banking Federation (FBE). ACT/360 (See list of the banks participating in the Euribor in the course)

6. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Eonia (European OverNight Interbank Average ) The EONIA is a measure of daily rates, the interbank rate applied from one day to the next. Libor - London Interbank Offered Rate Same as EONIA for USA and UK

7. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Yield Curves Definition : A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity dates. - This yield curve is used as a benchmark for other debt in the market, such as mortgage rates or bank lending rates. - The curve is also used to predict changes in economic output and growth. - A normal yield curve is one in which longer maturity bonds have a higher yield compared to shorter-term bonds due to the risks associated with time

8. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps How to build a Zero Coupon yield curve : Bootstrapping To compare 2 different bonds, actualize the value of all cash flows to know the present value of those bonds. But this supposes that all cash flows are actualized at the same and unique interest rate and that all coupons are reinvested also at the same interest rate. In real life, the coupons are reinvested at the rate of its period. If fact, when can calculate a Yield curve that gives the rate of all periods. This method is called "Bootstrapping" where each rate is calculated in function of the previous rate. For example : OLO rates 1 year : 3.50% 2 years : 4.75% 3 years : 5.50% Year 1 : No calculation problems : 3,50%

9. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps T0T1T2 -100+4.75+104.75 Year 2 : This give the rate of 4,78% for year 2.

10. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Year 3 This gives T 3 = 5.57%

11. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Analazying the yield curves

12. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

13. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

14. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

15. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

16. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

17. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

18. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps

19. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps The F.R.A. « Forward Rate Agreement » An over-the-counter contract between parties that determines the rate of interest, or the currency exchange rate, to be paid or received on an obligation beginning at a future start date. The contract includes the following: An initial period until the beginning of the period for which the rate is fixed. This is the waiting period. The period hedged by the rate fixed by the transaction, thus this period directly follows the waiting period. The amount (principal) on which is based the transaction. The currency on which the transaction relates. a reference rate in that currency such as the EURIBOR "Euro Interbank Offered Rate" for the hedged period.

20. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps At the end of the waiting period, the difference between the fixed rate and the reference rate is calculated with the market values. This rate differential is applied to the principal Counterparties agree to pay this difference at the start of the guarantee period, discounted with the reference rate on the guaranteed period.

21. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps The Interest Rate Swap ( I.R.S.) The Interest Rate Swap (IRS) involves an exchange of cash flows calculated on a capital that is never exchanged. The Interest Rate Swap transforms a risk of long-term fixed rate risk into a floating rate and vice versa.

22. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps In the I.R.S., the parties agree : a fixed rate over a period and a schedule for payment of interest at that rate, a floating rate based on a reference rate that sets the frequency of interest payments, an amount in the currency in question; this amount is used for calculating interest and will never be exchanged, dates of start and end of contract, the counterparty who will pay the fixed rate, the other party will pay the floating rate.

23. ADNEOM T ECHNOLOGIES : EXPERTS STRIVING FOR EXCELLENCE www.adneom.com ADNEOM B ENELUX EXPERTS STRIVING FOR EXCELLENCE WWW. ADNEOM. COM Interest rates and swaps Example : You have a small business... your banker will not lend you to ten years... You will take therefore a credit to Roll Over 3 months' Euribor + 3 / 8% "... Floating flows compensate each other, but the final amount to pay is known!!!!!! Through the IRS, I eliminated the uncertainty of my future cash flows with floating rate. My risk is that the bank revokes my Roll Over credit. It is the right of the banker to hedge his counterparty risk like this.