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Interest Rates Derivatives Products An Overview Moscow Interbank Currency Exchange 21 November 2006

Liquid Capital Market's - who we are and what we doOur markets Our specialities Options market makingA view from the trading deskHow do we provide liquidityFutures tradingA word on pricing Basic strategies What makes a market?Product development as an integrated processA fine balancing

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Interest Rates Derivatives Products An Overview Moscow Interbank Currency Exchange 21 November 2006

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    1. Interest Rates Derivatives Products An Overview Moscow Interbank Currency Exchange 21 November 2006

    2. Liquid Capital Market’s - who we are and what we do Our markets Our specialities Options market making A view from the trading desk How do we provide liquidity Futures trading A word on pricing Basic strategies What makes a market? Product development as an integrated process A fine balancing act MOSIBOR / MOSPRIME: key considerations Futures contracts: what market structure? The virtuous circle: liquidity breeds liquidity – how do you build it and maintain it Summary

    3. liquid capital __________________________________ Liquid Capital - who we are and what we do Our markets Our specialities

    4. A short introduction Liquid Capital Markets leading Market Maker and liquidity provider on the main European and Asian equity and fixed income products Liquid Capital Securities offers an independent global execution brokerage service for futures and options to an institutional client base spanning more than 16 countries

    5. Who we are We are the first port of call for brokers with institutional business We trade large volume

    6. What do we think Profitable trading is a function of:

    7. What do we think Speed and accuracy Research, knowledge and insight

    8. What do we think We believe passionately in:

    9. What do we think Building relationships based on trust

    10. Why are we different We are able to absorb more trades in larger volume therefore we can make narrow spreads even in difficult market conditions

    11. Why are we different We control volume and therefore keep our prices competitive

    12. Why are we different We are able to be the first to act to the changes in risk

    13. Why are we different We commit to stand by our prices

    14. Why are we different We understand the interplay between technology and our markets and products

    15. Our specialities – Liquid Capital Markets Options

    16. Our specialities – Liquid Capital Markets Pure market making

    17. Our specialities – Liquid Capital Markets Volatility

    18. Our specialities – Liquid Capital Markets Risk management

    19. Our Markets London Single stock options All component stocks of Dax 30 Nokia AG   Interest rate options Eurex Euro-BUND Eurex Euro-BOBL Eurex Euro-Schatz Euronext LIFFE Euribor Euronext LIFFE Short Sterling Equity Index options FTSE 100 DAX 30 EuroStoxx 50 AEX Sydney Asian Index Product KOSPI options KOSPI futures NIKKEI options NIKKEI futures (NK225) JGB (Japanese Government Bond) XJO (options on ASX 200) AP (futures on Australian Share Price Index – SFE)  Australian Single Stocks National Australia Bank (NAB) Telstra Corp (TLS) BHP Billiton Ltd (BHP) Rio Tinto (RIO) Woodside Petroleum (WPL) Woolworths (WOW) Commonwealth Bank (CBA) News Corporation (NWS/NWSLV)

    20. Our specialities – Liquid Capital Securities Best execution

    21. Our specialities – Liquid Capital Securities Price discovery

    22. Our specialities – Liquid Capital Securities Specific product expertise

    23. Our specialities – Liquid Capital Securities Coverage of futures and options worldwide and across asset classes

    24. Our specialities – Liquid Capital Securities Access to quotes from Liquid Capital Markets

    25. Our specialities – Liquid Capital Securities Analysis and research

    26. Options market making A view from the trading desk How do we provide liquidity Summary

    27. A view from the trading desk – A day in the life… 6:30 am: trading team gets in 6:35 am: catch-up with news and review of book marks and quote sheets 6:55 am: coffee and gents break 6:59 am: last checks

    28. A view from the trading desk – A day in the life… 7:00 am: hell breaks loose!

    29. A view from the trading desk – A day in the life… 6:00 pm: market closes - world returns to its normal state

    30. Who is the Market Maker? He is not a car dealer He is looking for fair market equilibrium

    31. Who is the Market Maker? With his pricing he ads transparency to the market For a market maker it’s all about demand and supply

    32. The bottom line Trading options is a very demanding job. You are supposed to: Deal with the unknown Make split-second decision

    33. The bottom line Keep tight spreads Keep the market happy Keep your sales staff happy

    34. The bottom line Keep your risk manager happy Keep your boss happy Keep the money coming in

    35. How we do it Continuous two-way prices Strict delta, vega and theta limits Each position is dynamically hedged

    36. How we do it Initial hedge via futures then we lock in the value of the option via a combination of spreads The natural order flow is sufficient to absorb most of the hedge activity

    37. How we do it Tightness of spreads heavily dependant on size We watch out for directional players

    38. How we do it We pay attention to “distressed options” i.e. options that have moved uncharacteristically away from fair value

    39. How we do it We watch out for spreads that can turn very quickly close to maturity if near to at-the-money strike prices

    40. Interest Rates Options General hedging categories

    41. A typical trade Market participants with different aims Speculator forecasts a rate hike He enters a probability-based trade on an expectation

    42. A typical trade Hedger: wants to hedge exposure against rate hike He wants to eliminate the risk of an expectation

    43. A typical trade What do they do: Speculator - buys ladder Hedger - buys call spread

    44. A typical trade – In practice Euribor cash rate: 3.50 % Euribor March 07 Future: 96.09 (implied rate 3.91) Indicative option prices Ask Bid March 07 Euribor 96.000 call 0.11 0.12 March 07 Euribor 96.250 call 0.015 0.020 March 07 Euribor 96.500 call 0.050 0.070 March 07 Euribor 96.750 call 0.000 0.001

    45. A typical trade – In practice Speculator buys ladder: Buys 1 March 07 Euribor 96.250 call Sells 1 March 07 Euribor 96.500 call Sells 1 March 07 Euribor 96.750 call

    46. A typical trade – In practice Hedger sell call spreads Buys 1 March 07 Euribor 96.250 call Sells 1 March 07 Euribor 96.000 call

    47. A typical trade – In practice LCM: Sells 2 March 07 Euribor 96.250 call Buys 1 March 07 Euribor 96.200 call Buys 1 March 07 Euribor 96.500 call Buys 1 March 07 Euribor 96.750 call

    48. Considerations No pull to par but drift Mean reversion of volatility and rates

    49. Considerations Price options off an underlying future or fwd instrument Use implied volatility

    50. Futures trading A word on pricing Basic strategies Summary

    51. Pricing an Interest Rate Future (1) Bloomberg handout of the LIFFE 3mth Sterling future can be given here to make it realBloomberg handout of the LIFFE 3mth Sterling future can be given here to make it real

    52. Pricing an Interest Rate Future (2)

    53. Calculation of Forward Rates in the Money Market (1)

    54. Calculation of Forward Rates in the Money Market (2)

    55. Calculation of Forward Rates in the Money Market (3)

    56. Calculation of Forward Rates in the Money Market (4)

    57. Calculation of Forward Rates in the Money Market (5)

    58. Hedging with Interest Rate Futures (1)

    59. Hedging with Interest Rate Futures (2)

    60. Hedging with Interest Rate Futures (3)

    61. Calculating the Strip Rate

    62. Hedging with Interest Rate Futures (4)

    63. Hedging with Interest Rate Futures (5)

    64. Yield Curve Exposure - Steepening

    65. Yield Curve Exposure - Flattening

    66. Hedging with Interest Rate Futures (6)

    67. Hedging with Interest Rate Futures (7)

    68. Hedging with Interest Rate Futures (8)

    69. Hedging with Interest Rate Futures (9)

    70. Hedging with Interest Rate Futures (10)

    71. Hedging with Interest Rate Futures (11)

    72. Hedging with Interest Rate Futures (12)

    73. Calculating the Strip Rate for Non-Matching Periods (1)

    74. Calculating the Strip Rate for Non-Matching Periods (2)

    75. What makes a market? Product development as an integrated process A fine balancing act Summary

    76. A liquid underlying Diversity of players Easy access to liquidity What makes a market

    77. Technology – sophisticated trading platform Product range Margining – efficient usage of collateral What makes a market

    78. Simple contract design Reasonable exchange fees Transparency What makes a market

    79. A well capitalized clearing house The upshot: no need for credit lines What makes a market

    80. Exchange traded product development is about meeting users needs and filling gaps in the offering It takes deep understanding of your client base It implies hard choices Product development

    81. It requires focus It takes time Exchanges cannot do it alone anymore Product development

    82. Market participants cannot do it alone It takes a partnership It’s a crowded market you are fighting for attention Product development

    83. It is a phased approach The priority is in creating a healthy underlying market The success is a mix of ingredients Product development

    84. Incentives Visibility Relevance Product development

    85. Ask the question: Who needs it most? Product development

    86. Above all choose the path of least resistance! Product development

    87. Product development + Market Structure + Marketing = Successful Product A delicate balancing act

    88. Market structure is key Order driven book Designated Market Makers and Liquidity Providers with contractual obligations A delicate balancing act

    89. Best form of marketing? Education! Product development - Marketing

    90. Identify who has more to gain from using these products and in return can provide support Be pervasive Marketing

    91. Create a community of users Educate, educate, educate Marketing

    92. Enrol people who will champion your product Be open minded One on one Marketing

    93. Seminars Sponsored articles More seminars Marketing

    94. Be committed Be passionate Be uncompromising Make it relevant Marketing - Communication

    95. MOSIBOR / MOSPRIME Underlying market Futures contracts: what market structure The virtuous circle: liquidity breeds liquidity Summary

    96. Underlying market still relatively small Promote the underlying market actively Market it to issuers – supra and corporate Improve overall visibility MOSIBOR/MOSPRIME - Key considerations

    97. Clarify legal status of Exchange Traded Derivatives contracts is Russia Order-driven based on pro-rata algorithm, with priority given to the first order at best price MOSIBOR/MOSPRIME – Market Structure

    98. Introduce a Designated Market Maker (DMM) scheme with incentives Introduce wholesale facilities MOSIBOR/MOSPRIME – Market Structure

    99. Work with brokers and parties that provide flow Make data freely available Continue to improve the technology – STIRS are sophisticated products! MOSIBOR/MOSPRIME - Key considerations

    100. The benefits of central markets Natural venue where counterparts can be found Price discovery Transparency Liquidity reduces spreads and execution cost

    101. The benefits of central markets Market depth reduces execution risk Liquidity is “sticky” - easy to access, difficult to move Exchanges invest in developing liquidity

    102. Liquidity breeds liquidity The virtuous circle

    103. Individual Liquidity Provider (ILP) Euribor Futures Contract STIR Liquidity Provider (SLP) Short Sterling Futures Contract (SLP) Eurodollar Futures Contract (SLP) New Market Participant – (NMP) Liquidity breeds liquidity

    104. Individual Liquidity Provider (ILP) Lower exchange fees for individual proprietary traders Focus on developing liquidity on the back months Proven consistency in supporting order flow in long-dated contracts Liquidity breeds liquidity

    105. Euribor Futures Contract STIR Liquidity Provider (SLP) Volume based discounts for proprietary traders – firms and individuals Proven consistency in facilitating price-discovery and injecting liquidity Liquidity breeds liquidity

    106. Market makers love incentives Incentives reward them for adding value and putting capital at risk They have to work hard for them Liquidity breeds liquidity

    107. Liquidity breeds liquidity Requires the right balance of incentives and fair market structure In Euribor the exchange offers liquidity provision schemes aimed at different market participants The result is a vibrant and tight market

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