Financial Instruments Alyona Lamash EXTENT February 2011

Contents 1. Introduction to Financial Instruments and Markets 2. Types of Financial Markets 3. Exchange vs. OTC 4. Futures 5. Options 6. Hedge vs. Insurance 7. Bonds 8. Swaps 9. Q&A

1. Introduction Financial markets are complex, because we can trade something that does not really exist: • does not exist on paper (stocks, debt) - e.g. Russian trading started with electronic systems from the very beginning, while older systems - in Europe and in the US - may still physically move papers (obligations) from one shelf in Depositary to another) • does not exist as a share of a company - just an obligation (debt) • does not represent an asset, but is dependent on the price of the underlying asset

2. Types of Markets •Equity (Shares of Stock) •Debt (Bond) •Commodity (Crude Oil, Metal, Agriculture) •FOREX •Interest Rate

3. Exchange vs OTC •Exchange-traded Instruments •OTC

4. Futures Forward/Futures - the obligation to buy/sell a specified asset at a specified price at a specified point in the future • Strike price • Maturity

5. Option Option - the right to buy/sell an asset at a specified price. • Strike price • Maturity • Option type: Call or Put • Exercise type: European, American and Bermudan • Option premium

6. Hedge vs Insurance The cost of hedge – the level of profit is locked, favourable and unfavourable moves of market lead to similar results The cost of insurance – premium

7. Bond Fixed Income – the borrower has the obligation to pay the lender the interest (“Coupons”) on the borrowed amount (“Principal” or “Notional”, or sometimes “Face Amount”) during the term of the bond, and repay the Principal at maturity (also known as “Redemption Date”). Fixed-coupon bond, floating-rate bond, zero-coupon bond (discounted bond) Callable, puttable and... convertible!

7. Bonds (continued): Fixed Rate and Floating Rate Payments 5Y 4 ½, annual payments 5Y 6MEURIBOR, annual payments

8. Swap Plain Vanilla Interest Rate Swap – fixed rate interest payments vs. floating rate interest payments, at predefined times in the future, until maturity Basis Swap – 3MEURIBOR interest payments vs. 1YEURIBOR interest payments, at predefined times in the future, until maturity Currency Swap – interest payments in one currency are exchanged to interest payments in another currency, Notional Amounts are exchanged at the end of the swap.

Questions & Answers Thank you.