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M A Y 2 0 0 4

M A Y 2 0 0 4. C A P I T A L M A R K E T T R A N S A C T I O N S U S I N G D E R I V A T I V E S. S T R I C T L Y P R I V A T E A N D C O N F I D E N T I A L. Introduction. 1. 1. Comparative funding advantage application. 2. 4. Other considerations. 3. 12.

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M A Y 2 0 0 4

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  1. MAY2004 CAPITALMARKETTRANSACTIONSUSINGDERIVATIVES STRICTLYPRIVATEANDCONFIDENTIAL

  2. Introduction 1 1 Comparative funding advantage application 2 4 Other considerations 3 12 CAPITALMARKETTRANSACTIONSUSINGDERIVATIVES 1

  3. What are Derivatives? “a financial contract whose value is linked to, or derived from, that of an underlying asset such as a bond, stock, or commodity” - Wall Street Journal Available for... In a variety of forms... • Interest Rate • Currency • Commodity • Equity • Credit • Exchange-traded • Listed futures and options • Over the counter, bilateral contracts • Swaps, forwards, options, etc. • Securitized • Callable bond, convertibles, structured notes INTRODUCTION 2

  4. Derivatives allow the efficient interaction between issuers and investors in the capital markets Issuers Investors • Capture comparative advantages across markets • Transparency in evaluating cost alternatives • Removes interest rate, currency and market preference from decision-making • Invest in instruments or credits not available in desired markets • Overcome liquidity restraints to specific markets allocation • Isolate or introduce interest rate and credit risk as desired INTRODUCTION • A financial wold without boundaries, where managers can define the risk of their asset/liability portfolio strictly according to economic conditions 3

  5. Comparative funding advantage application Introduction 1 1 2 4 Other considerations 3 12 CAPITALMARKETTRANSACTIONSUSINGDERIVATIVES 4

  6. Issuer objectives • Raise long term money (10yrs) • Create liabilities in USD only (issuer is USD functional) • Achieve a spread with a low premium compared to both the Sovereign and same name in the international market • Create demand for its bonds by local investors COMPARATIVEFUNDINGADVANTAGEAPPLICATION 5

  7. Corporate bonds tend to price tighter to the sovereign onshore vs. offshore Synthetic USD bond 5.20% (T + 1.20%) 5.50% (Local T + 0.50%) Corp. Spread 0.70% 0.50% Sovereign Spread 0.50% COMPARATIVEFUNDINGADVANTAGEAPPLICATION 5.00% Risk free rate (Treasury) 4.00% Yankee Bond (USD) Local Bond (Pesos) 6

  8. Although the local bond has a higher coupon, it’s priced at a lower spread to local Libor Synthetic USD bond Relative savings of 45bp, but it local currency terms... USD Libor + 0.55% Local Libor + 0.10% Corp. Spread 0.55% 0.10% Sovereign Spread 0.65% 0.40% Libor (Treasury + Swap Spread) COMPARATIVEFUNDINGADVANTAGEAPPLICATION 5.00% 4.00% Yankee Bond (USD) Local Bond (Pesos) Savings must be compared in USD equivalent terms... 7

  9. Converting the spread over local Libor to a USD fixed equivalent yields a synthetic USD bond with a lower coupon Synthetic USD bond Savings of USD 25bp to Yankee bond USD Libor + 0.30% Local Libor + 0.10% Basis/ Credit Charge 0.20% Corp. Spread 0.10% 0.10% 0.65% 0.40% Libor (Treasury + Swap Spread) Swap from pesos to USD COMPARATIVEFUNDINGADVANTAGEAPPLICATION 5.00% 4.00% Local Bond (Pesos) Synthetic Yankee Bond (USD) 8

  10. Swap cashflows Synthetic USD bond USD Issuer JPMorgan Local Currency Local Currency Local Investor COMPARATIVEFUNDINGADVANTAGEAPPLICATION 9

  11. This comparative advantage presents itself opportunistically • Credit priced more aggressive to the sovereign in the local market • Local market swap market must be available and liquid • Basis risk between bonds and swaps • Wide USD swap spreads and narrow local swap spreads • Limited credit availability to deal in swaps • Credit pricing can erode this advantage COMPARATIVEFUNDINGADVANTAGEAPPLICATION 10

  12. Issue local Debt at spread of 100bp to benchmark Client swaps Local debt from local currency to USD All-in USD rate in Swap yields a synthetic USD bond that is cheaper than Yankee issuance A synthetic USD bond can improve funding costs Synthetic USD bond COMPARATIVEFUNDINGADVANTAGEAPPLICATION 11

  13. Other considerations Introduction 1 1 Comparative funding advantage application 2 4 3 12 CAPITALMARKETTRANSACTIONSUSINGDERIVATIVES 12

  14. When structuring a derivative transaction, it is important to consider the following issues • Credit • How much credit exposure arises in a derivative transaction? • How is the credit exposure handled? • Depends on type of transaction (single vs. cross-currency) • Documentation • Is the appropriate documentation on file? (ISDA, CSA, Trade Confirmation, etc.) • What are the specific terms that must be agreed to? • Local legal implications • Acces to local markets • Observable yield curve • Liquidity considerations • * Credit and documentation affect the pricing of a derivative transaction OTHERCONSIDERATIONS 13

  15. The credit cost of a transaction can be reduced using a variety of techniques • Collateral agreement • Mark-to-market structure • Guarantee • Letter of credit • Special purpose vehicles • Elective termination right • Credit downgrade protection • Reduce exposure profile • Reduce default risk, spreads OTHERCONSIDERATIONS • Combination- reduce total cost 14

  16. CAPITALMARKETTRANSACTIONSUSINGDERIVATIVES This presentation was prepared exclusively for the benefit and internal use of IDB in order to indicate, on a preliminary basis, the feasibility of a possible transaction or transactions and does not carry any right of publication or disclosure to any other party. This presentation is incomplete without reference to, and should be viewed solely in conjunction with, the oral briefing provided by JPMorgan. Neither this presentation nor any of its contents may be used for any other purpose without the prior written consent of JPMorgan. The information in this presentation is based upon management forecasts and reflects prevailing conditions and our views as of this date, all of which are subject to change. In preparing this presentation, we have relied upon and assumed, without independent verification, the accuracy and completeness of all information available from public sources or which was provided to us by or on behalf of IDB or which was otherwise reviewed by us. In addition, our analyses are not and do not purport to be appraisals of the assets, stock, or business of IDB. The information in this presentation does not take into account the effects of a possible transaction or transactions involving an actual or potential change of control, which may have significant valuation and other effects JPMorgan is a marketing name for investment banking businesses of J.P. Morgan Chase & Co. and its subsidiaries worldwide. Securities, syndicated loan arranging, financial advisory and other investment banking activities are performed by J.P. Morgan Securities Inc. and its securities affiliates, and lending, derivatives and other commercial banking activities are performed by JPMorgan Chase Bank and its banking affiliates. JPMorgan deal team members may be employees of any of the foregoing entities.

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