|
The International Bank for Reconstruction and Development (IBRD) offers a range of banking products and services to its borrowing member countries.
This set of Frequently Asked Questions (FAQs) addresses questions most frequently asked by member countries about the financial terms and conditions of IBRD banking products.
The FAQs are listed below or they can be downloaded in PDF format:
Note: IBRD guarantees are not discussed here. For information on IBRD guarantees see The World Bank Guarantee: Catalyst for Private Capital Flows (1998), or visit the Project Finance and Guarantees Department's (PFG) web site.
Current IBRD banking products include Fixed-Spread Loans (FSLs) and Variable-Spread Loans (VSLs). For more information on these products, see the following brochures:
Detailed information on the terms and conditions of IBRD banking products is also available in IBRD's Operational Policies Manual, OP 3.10.
The International Bank for Reconstruction and Development (IBRD) offers a range of financial products and services to its borrowing member countries.
This set of Frequently Asked Questions (FAQs) addresses questions most frequently asked about the financial terms and conditions of IBRD financial products. It is organized in eight sections:
|
Section I |
General introductory information on IBRD Financial Intermediation |
|
Section II |
Investment and Development Policy Lending |
|
Section III |
Fixed-Spread Loans (FSLs) |
|
Section IV |
Variable-Rate Single Currency Loans (VSLs) |
|
Section V |
Deferred Drawdown Option (DDO) |
|
Section VI |
Free-Standing Hedging Products |
|
Section VII |
Past IBRD Financial Products |
|
Section VIII |
General Questions and Implementation Issues |
IBRD guarantees are not discussed here. For information on IBRD guarantees see The World Bank Guarantee: Catalyst for Private Capital Flows (1998), or visit the Project Finance and Guarantees Department's (PFG) web site.
Current IBRD financial products are the Fixed-Spread Loan (FSL), the Variable-Spread Loan (VSL) and the Hedging Products. For more information on these products, see the following brochures:
Detailed information on the terms and conditions of IBRD financial products is also available in IBRD's Operational Manual, OP 3.10 .
TOP
Table of Contents
I. IBRD Financial Intermediation
1. What are the principles that guide IBRD financial intermediation?
2. Who may borrow from the IBRD?
3. What type of activities does IBRD's financial intermediation support?
4. What is the value to borrowers of IBRD’s financial intermediation?
II. Investment and Development Policy Lending
III. Fixed Spread Loans (FSLs)
1. What are fixed spread loans (FSLs)?
2. Why move to a LIBOR-based fixed-spread platform?
3. Who is eligible to borrow on FSL terms?
4. What currencies are available?
5. How is the lending rate on FSLs determined?
6. What is the basis swap adjustment that is included in the total spread of the FSL?
7. Why do the FSL loan charges include two different risk premia?
8. What are the charges and waivers that apply to FSLs?
9. What are the FSL's embedded conversion provisions?
10. How are FSL conversions priced?
11. Why are some interest rate fixings on FSLs free of charge?
12. How does Automatic Rate Fixing (ARF) work and when can a borrower enter into an ARF agreement?
13. What kind of repayment term flexibility do FSLs offer?
14. What are the policy restrictions when choosing a repayment schedule?
15. Are standard country terms still available for FSLs?
16. Can borrowers trade off maturities across FSLs?
17. Can one choose to have different repayment schedules for different "tranches" of an FSL?
18. Are FSL terms available for special structural adjustment loans (SSALs)?
19. Are borrowers allowed to convert existing loans to FSL terms?
20. Does the IBRD promote the use of either of the two instruments available for new loan commitments (FSLs and VSLs)?
21. Can one take an FSL leaving out some of the optionality (e.g., caps or collars)?
22. Can FSLs be prepaid?
23. How is the “redeployment cost” calculated?
IV. Variable-Spread Loans (VSLs)
1. What are Variable-Spread Loans (VSLs)?
2. How is the lending rate on VSLs determined?
3. Do VSLs offer any repayment term flexibility?
4. How do VSL and FSL terms compare?
5. Why is the IBRD not offering the same flexibility for VSLs as it offers for FSLs?
V. Deferred Drawdown Option (DDO)
1. What is a DDO?
2. Who is eligible for a DDO?
3. Who are the target clients?
4. What are the operational prerequisites and implementation arrangements for IBRD loans with a DDO?
5. What are the main financial terms of a loan with a DDO?
VI. Free-Standing Hedging Products
1. What are IBRD's free-standing hedging products?
2. Why are they called hedging products?
3. What is the difference between hedging and speculating?
4. What are the potential benefits to borrowers using these products?
5. In what currencies are they available?
6. Are there limits on the maturity a hedge may have?
7. When can borrowers use the hedging products?
8. Are all types of hedging products available for all types of IBRD loans?
9. Could a loan have multiple hedges?
10. How do IBRD hedging products compare with instruments offered in the market?
11. Will the IBRD's involvement in intermediating hedges crowd out the private sector?
12. Are hedging products available to hedge IBRD borrowers' non-IBRD debt?
13. How are the hedging products priced?
14. What is the current fee schedule for IBRD hedging products?
15. Are there minimum and maximum limits per transaction?
16. What is a Master Derivatives Agreement (MDA)? Why is it required?
17. How does a client request an IBRD hedging product?
18. How would a cap or collar on a VSL work?
19. How would a currency swap on a CPL work?
20. Why isn’t the IBRD offering interest rate swaps, caps or collars on CPLs?
21. What types of commodity swaps might the IBRD provide?
22. Why can’t the IBRD provide complete hedges on CPLs, SCPs and VSLs?
23. If a borrower sends a hedge request to the IBRD, when would it be executed and when would it become effective?
24. Can a client cancel a hedge request once it has been received by the IBRD?
25. What protection is there for a client making a hedge request in case the market moves in an unfavorable direction while the IBRD is processing the request?
VII. Past IBRD Financial Products
1. What are Currency Pool Loans (CPLs)?
2. How is the lending rate for currency pool loans determined?
3. Why is the currency composition of the currency pool targeted?
4. What currencies are used for servicing currency pool loans?
5. What are Applicable Exchange Rates (AERs) and where can clients obtain data on AERs?
6. Where can clients obtain data on the currency composition of the currency pool?
7. What are single currency pool loans (SCPs)?
8. What is the fixed-rate single currency loan (FSCL)?
9. Why was the FSCL withdrawn?
VIII. General Questions and Implementation Issues
1. When is the borrower contacted about the financial terms available for new loan commitments?
2. Why are IBRD borrowers asked to provide a rationale for their loan and hedging product choices?
3. Under what circumstances would the IBRD refuse to agree to a borrower's choice of loan terms, conversion decision or request for entering into a hedging transaction?
4. Is the IBRD prepared to reschedule loan maturities?
5. What are IBRD supplemental loans?
6. What charges and financial terms apply to supplemental loans?
7. What financial terms apply for project preparation facilities (PPFs)?
8. What information/training material is available?
9. How is the Distance Learning Program (DLP) structured?
10. How has the DLP been received?
11. How may borrowers request participation in the distance learning program on IBRD financial products?
12. How can a borrower obtain more information about the IBRD's financial products and loans charges?
TOP
I. IBRD Financial Intermediation
1. What are the principles that guide IBRD financial intermediation?
The IBRD is a cooperative institution, owned by its member countries through their capital subscriptions. Many of these members are currently, or have been, borrowing members of the IBRD. Some provide the IBRD access to their capital markets to raise the funding needed to support IBRD’s intermediation activity. All members share an interest in ensuring that the IBRD can be an effective financial intermediary.
IBRD’s lending operations have conformed generally to five principles derived from its Articles of Agreement. These principles, taken together, seek to ensure that IBRD loans are provided to member countries for financially and economically sound purposes to which those members have assigned high priority and that funds lent are utilized as intended. The five principles are:
(a) IBRD loans are sovereign obligations. The IBRD makes loans either to a member country or governmental authorities or enterprises in the territories of member countries. A loan which is not made directly to the member country must be guaranteed by the member country.
(b) IBRD loans are designed to promote the use of resources for productive purposes in its member countries. The IBRD does not make loans which, in its opinion, cannot be justified on economic grounds.
(c) All IBRD loans are made to members that the IBRD considers to be creditworthy.
(d) The IBRD is intended to promote private investment, not to compete with it. The IBRD must be satisfied that in prevailing market conditions (taking into account the member’s overall external financing requirements) the borrower would be unable to obtain financing under conditions that the IBRD would consider to be reasonable for the borrowing member.
(e) The IBRD supervises the use of loan proceeds, and makes arrangements to ensure that funds lent are used only for authorized purposes with due attention to considerations of economy and efficiency.
Within the scope permitted by the Articles, these policies – which also guide the provision of IBRD guarantees – must necessarily be developed and adjusted in the light of experience and changing conditions.
2. Who may borrow from the IBRD?
Members that are creditworthy for IBRD lending and who are servicing their existing debt obligations to the IBRD are eligible for new loans on IBRD terms.
3. What type of activities does IBRD's financial intermediation support?
Historically, most IBRD loans have been for specific investment projects or programs. The purposes for which IBRD loans have been approved comprise: agriculture; education; energy; environment; finance; industry; mining and other extraction industries; population, health and nutrition; power; public sector management; social sector development; telecommunications; tourism; transportation; urban development; water supply and sanitation; and other purposes not allocable to a specific sector. In addition, the IBRD makes structural adjustment and sectoral adjustment loans to member countries and provides support for debt and debt service reduction. Disbursements on these loans are conditioned on certain performance objectives.
4. What is the value to borrowers of IBRD’s financial intermediation?
The lending rates on the various IBRD financial products convey value to borrowers since they are based on the IBRD's borrowing cost spreads. The IBRD's strong shareholder support, AAA credit rating and the broad appeal of its securities to institutional and retail investors worldwide enable it to raise funds at fine borrowing cost spreads relative to comparable-maturity government benchmark securities.
The low borrowing cost spreads obtained by the IBRD in the markets have enabled IBRD clients to borrow from the IBRD at fine spreads over the London Inter-Bank Offered Rate (LIBOR). For example, from 1993 to 2002, the lending rate on the Variable-Spread Loan (VSL) has ranged from LIBOR + 0.37% to LIBOR + 0.54%.; the lending rate as of July 1, 2002 on the Fixed-Spread Loan is USD LIBOR + 0.55%. For borrowers eligible for interest rate waivers, the net lending rate has ranged from LIBOR + 0.12% to LIBOR + 0.29% for VSLs, and as of July 1, 2002 is LIBOR + 0.30% for FSLs in USD.
In contrast, direct borrowing costs in international capital markets for most IBRD borrowers may range from LIBOR + 1.00% to LIBOR + 7.00%.
TOP
II. Investment and Development Policy Lending
The Bank has two basic types of lending instruments: investment loans and development policy loans. (See Development Policy Lending Replaces Adjustment Lending). Investment loans have a long-term focus (5 to 10 years), and finance goods, works, and services in support of economic and social development projects in a broad range of sectors. Development Policy loans have a short-term focus (1 to 3 years), and provide quick-disbursing external financing to support policy and institutional reforms.
Investment Lending
Investment loans provide financing for a wide range of activities aimed at creating the physical and social infrastructure necessary for poverty alleviation and sustainable development. Over the past two decades, investment lending has, on average, accounted for 75 to 80 percent of all Bank lending.
The nature of investment lending has evolved over time. Originally focused on hardware, engineering services, and bricks and mortar, investment lending has come to focus more on institution building, social development, and building the public policy infrastructure needed to facilitate private sector activity. Projects range from urban poverty reduction (involving private contractors in new housing construction, for example) to rural development (formalizing land tenure to increase the security of small farmers); water and sanitation (improving the efficiency of water utilities); natural resource management (providing training in sustainable forestry and farming); post-conflict reconstruction (reintegrating soldiers into communities); education (promoting the education of girls); and health (establishing rural clinics and training health care workers).
Eligibility. Investment loans are available to International Bank for Reconstruction and Development (IBRD) and International Development Association (IDA) borrowers not in arrears with the Bank Group.
Disbursement. Funds are disbursed against specific foreign or local expenditures related to the investment project, including pre-identified equipment, materials, civil works, technical and consulting services, studies, and incremental recurrent costs. Procurement of these goods, works, and services is an important aspect of project implementation. To ensure satisfactory performance, the loan agreement may include conditions of disbursement for specific project components.
Instruments. The large majority of investment loans are either Specific Investment Loans or Sector Investment and Maintenance Loans. Adaptable Program Loans and Learning and Innovation Loans were recently introduced to provide more innovation and flexibility. Other instruments tailored to borrowers' specific needs are Technical Assistance Loans, Financial Intermediary Loans, and Emergency Recovery Loans.
Development Policy Lending
Development Policy loans provide quick-disbursing assistance to countries with external financing needs, to support structural reforms in a sector or the economy as a whole. They support the policy and institutional changes needed to create an environment conducive to sustained and equitable growth. Over the past two decades, development policy lending – previously called adjustment lending – has accounted, on average, for 20 to 25 percent of total Bank lending.
Development Policy loans were originally designed to provide support for macroeconomic policy reforms, such as in trade policy and agriculture. Over time, they have evolved to focus more on structural, financial sector, and social policy reform, and on improving public sector resource management. Development Policy operations now generally aim to promote competitive market structures (for example, legal and regulatory reform), correct distortions in incentive regimes (taxation and trade reform), establish appropriate monitoring and safeguards (financial sector reform), create an environment conducive to private sector investment (judicial reform, adoption of a modern investment code), encourage private sector activity (privatization and public-private partnerships), promote good governance (civil service reform), and mitigate short-term adverse effects of development policy (establishment of social protection funds).
Eligibility. Development policy loans are available to IBRD and IDA borrowers not in arrears to the Bank Group. Eligibility for a development policy loan also requires agreement on monitorable policy and institutional reform actions, and satisfactory macroeconomic management. Coordination with the IMF is an essential part of the preparation of a development policy loan.
Disbursement. Funds are disbursed in one or more stages (tranches) into a special deposit account. Tranches are released when the borrower complies with stipulated release conditions, such as the passage of reform legislation, the achievement of certain performance benchmarks, or other evidence of progress toward a satisfactory macroeconomic framework. Funds may be disbursed against a positive list of specific imports needed for the operation, or subject to a negative list of prohibited expenditures (e.g., military and luxury items). Since 1996, the negative list has typically been used.
Instruments. The new policy OP/BP 8.60 applies uniformly to all development policy lending, replacing the previous different types of lending (e.g., RILs, SALs, SECALs, SNALs, PSALs). Development policy operations in PRSP countries may continue to be called "PRSCs", because this is by now a well-established "brand name."
TOP
III. Fixed-Spread Loans (FSLs)
1. What are fixed-spread loans (FSLs)?
The FSL was introduced in response to borrower demand for a flexible loan product that could meet changing needs of individual projects and programs and also support borrowers’ debt management strategies.
The FSL has:
- market-based features, including pricing relative to standard market references;
- provides flexibility to customize repayment terms to tailor them to the project needs or asset-liability management strategy of the country;
- permits conversion of currencies or interest rate bases throughout the life of the loan; and
- offers a transparent basis for borrowers to compare FSL terms with those of other lenders
The FSL is particularly intended to support enhanced asset-liability management (ALM) in IBRD borrower countries and promote capacity to use market-based instruments for managing financial risks.
2. Why move to a LIBOR-based fixed-spread platform?
A fixed-spread over LIBOR offers a transparent basis for borrowers to compare FSL terms with those of other lenders and is consistent with market practice. In addition, it facilitates on-lending at known interest margins. It also allows for improved currency and interest rate risk management as it makes it easier to fully hedge such risks. In the case of VSLs, for example, which carry a lending rate with a variable spread over LIBOR, if a borrower wants an interest rate swap to fix its VSL lending rate, it is only possible to fix the LIBOR component of the lending rate, i.e. fix the rate only against LIBOR flat. In the case of an FSL, because the spread over LIBOR is fixed, it is possible to fix the entire lending rate.
3. Who is eligible to borrow on FSL terms?
The FSL and its conversion provisions are available to all IBRD borrowers and for all standard IBRD lending operations. For Special Structural Adjustment Loans (SSALs) special repayment terms and conditions apply and only some of the FSL features are available (see below, Section III, FAQ 19).
4. What currencies are available?
Borrowers may choose to denominate their FSLs in one or more currencies, including the Euro, Japanese yen and U.S. dollar and other currencies which the IBRD can efficiently intermediate. Loans may be committed in one or more currencies. Disbursements may be made in various currencies. For example, if needed for procurement purposes, the IBRD will, as agent for the borrower, purchase the currency needed to disburse. The loan obligation, however, will continue to be denominated in the loan currency or currencies chosen by the borrower. The IBRD does not make loans in the domestic currencies of its borrowing member countries. However, the IBRD can offer conversion of disbursed amounts used for local expenditures into a borrower’s local currency provided the IBRD can efficiently intermediate the corresponding market hedge. For more information on local currency financial products refer to: hedging products
5. How is the lending rate on FSLs determined?
The initial lending rate on FSLs consists of a variable base rate plus a fixed spread.
- The variable base rate is six-month LIBOR as of the interest payment date for each loan; (LIBOR stands for London Inter-Bank Offered Rate, and will be used in markets in which LIBOR is the recognized commercial bank reference for floating rate instruments, payable in arrears. Other reference rates, e.g., bankers’ acceptance rate, may be used in other markets);
- The spread remains fixed for the life of the loan and reflects:
- IBRD’s projected funding cost margin relative to USD LIBOR offering IBRD borrowers the expected benefits of the IBRD’s comparative funding advantage in the capital markets, and a basis swap adjustment (for non-USD FSLs);
- IBRD’s standard lending spread; and
- a market risk premium
The market risk premium compensates the IBRD for refinancing risk, given that the lending spread above LIBOR on the FSLs is fixed and the maturity of the IBRD's borrowings is typically shorter than that of its loans to borrowers. For information on the FSL lending rate refer to: fsl rates
6. What is the basis swap adjustment that is included in the total spread of the FSL?
The basis swap adjustment, applicable only to non-USD FSLs, is the difference in the IBRD’s sub-LIBOR funding cost margin when the IBRD swaps LIBOR-based borrowings from one currency to another. For example, swapping USD LIBOR-flat funds into JPY LIBOR basis may result in the IBRD having to pay JPY LIBOR minus “x” basis points. This is due to the difference in nominal interest rate levels and in the credit ratings of the commercial banks that are the reference banks for LIBOR in each of the two currencies involved. A basis swap adjustment could be negative or positive. The practice of making basis swap adjustments is standard in the swap markets.
7. Why do the FSL loan charges include two different risk premia?
On VSLs, borrowers bear the risk, over the life of the loan, of changes in the Bank’s borrowing costs. In contrast, on FSLs the Bank bears the risk of changes in its funding cost since it commits to a loan with a spread over LIBOR that is fixed for the life of the loan. To mitigate the risk of changing funding costs during an FSL life, the FSL pricing includes two risk premia. One is to address funding risk (the 0.10% risk premium included in the FSL commitment fee during the four years of the loan life), and the other to address refinancing risk (the 0.05% market risk premium which is included in the FSL lending rate).
Funding risk arises because the IBRD has committed to a fixed spread at the inception of the loan (i.e., at the time of commitment), when the disbursements have not yet occurred. In most cases, IBRD funds the disbursements as they occur, as opposed to pre-funding them. As an example, the IBRD commits to an FSL with a total spread of 0.55% over LIBOR, funded at LIBOR-0.25%. IBRD is expecting to earn 0.75% on the loan, net of risk premium. However, assume that when the disbursement happens IBRD's actual funding cost spread is LIBOR-0.05%. Therefore, IBRD will earn only 0.55% on the loan, instead of 0.75%, as the FSL lending rate will remain fixed for the life of the loan. The commitment charge risk premium is intended to compensate the IBRD for this risk.
In turn, the market risk premium that is part of the FSL lending rate (currently, 0.05%) compensates the IBRD for refinancing risk, given that the lending spread above LIBOR on the FSL is fixed and the maturity of the IBRD's borrowings will be shorter than that of its loans to borrowers, and thus the IBRD might face refinancing risk, that is, a higher refinancing cost.
8. What are the charges and waivers that apply to FSLs?
FSLs carry standard IBRD loan charges for new loan commitments, net of risk premia. These include IBRD’s standard lending spread (currently 0.75%), which is part of the fixed spread (see above), a 1% front-end fee on the loan amount and 0.75% commitment fee on undisbursed amounts. The risk premia are a 0.10% commitment risk premium charge on undisbursed loan amounts in the first four years of the loan's life and a 0.05% market risk premium that is included in the lending rate. Like VSLs, FSLs are eligible for waivers of loan charges as approved by the IBRD from time to time.
9. What are the FSL's embedded conversion provisions?
With the FSL, borrowers have flexibility in managing their currency and interest rate risks over the life of their IBRD loans. If borrowers choose to do so, they can use the conversion provisions embedded in the FSL any time after loan effectiveness to:
- Change the currency of all or part of undisbursed and/or disbursed loan amounts (for a fee);
- Fix the interest rate on all or part of disbursed amounts (free of charge for rate fixings for up to the full maturity of the loan for amounts up to the outstanding loan amount);
- Unfix or re-fix the interest rate on all or part of disbursed loan amounts (for a fee); and
- Cap or collar the floating interest rate on all or part of disbursed loan amounts (for a fee).
Choosing and changing the currency and interest rate characteristics of the FSL
Borrowers choose the currency of denomination of their FSL at the time of loan preparation. They can change the loan currency at any time during the life of the loan by requesting a currency conversion. Borrowers may also change the interest rate basis of their FSL disbursed and outstanding amounts at any time during the life of the loan by requesting an interest rate conversion to fix or unfix their interest rate, or they may put a limit on their interest rate by buying a cap or a collar.
With respect to interest rate conversions, borrowers can instruct the IBRD to automatically implement a series of conversions to fix the interest rate. For example, if they wish, borrowers can request that the FSL interest rate be fixed at regular time intervals (e.g., semiannually or annually), or once a certain volume of disbursements has been reached. Borrowers may cancel such automatic rate fixing (ARF) arrangements at any time, but not once the IBRD has executed the trade (i.e., such cancellation will only apply to future time periods).
If borrowers wish to eliminate interest rate volatility, they can fix their loan’s interest rate. If borrowers wish to mitigate their exposure to interest rate volatility, but not eliminate it altogether, they can purchase an interest rate cap or a collar. Caps set an upper limit on the interest rate. Collars set both an upper and lower limit (floor) on the interest rate, thus reducing the cost of the cap. Borrowers can purchase a cap or a collar at any time during the life of their loan.
10. How are FSL conversions priced?
For all conversions, caps and collars, the IBRD will pass through to borrowers the rates or cost of the corresponding market hedge prevailing at the time of trade execution. In addition, a transaction fee ranging from 1/8% to 1/4% of the principal amount involved will apply in most cases. This is a one-time charge for each transaction. The table below summarizes the relevant transaction fees. These fees may change during the life of the loan.
|
Transaction Fees for Currency Conversions, Interest Rate Conversions, Interest Rate Caps and Collars
(expressed as a percentage of he principal amount involved) |
|
Transaction Type |
Loan Conversion Fee |
| Currency Conversion |
|
- Of undisbursed loan amounts
|
1/8 % |
- Of disbursed loan amounts
|
1/4 % |
| Interest Rate Conversion |
|
- Rate fixings for up to the full maturity of the loan for amounts up to the outstanding loan amount
|
No Charge |
- Additional rate fixing/unfixing
|
1/8 % |
| Interest Rate Caps and Collars |
1/8 % |
TOP
11. Why are some interest rate fixings on FSLs free of charge?
For FSLs, rate fixings for up to the full loan maturity of the loan for amounts up to the outstanding loan amount are free of charge. This gives borrowers the means to choose a fixed lending rate on their IBRD loans, without being subject to a transaction fee for fixing their lending rate, in lieu of the fixed-rate SCL (FSCL) which was withdrawn as a choice for new loan commitments on December 1,1999. By choosing FSL terms, borrowers can obtain a fixed lending rate (fixed as the loan disburses) as well as the longer maturities and more competitive terms of FSLs as compared to the retired FSCL.
12. How does Automatic Rate Fixing (ARF) work and when can one enter into an ARF agreement?
a. What is Automatic Rate Fixing (ARF)?
An automatic rate fixing (ARF) arrangement is a conversion feature of IBRD’s fixed-spread loans. The FSL initial lending rate is a variable rate that consists of 6-month LIBOR plus a fixed spread. Through an Automatic Rate Fixing (ARF) mechanism an FSL borrower directs the IBRD to automatically implement a series of interest rate fixings on all future withdrawals of the loan.
If a borrower wants to direct the Bank to automatically implement a series of interest rate fixings as the loan disburses, an ARF provision can either be incorporated in the Loan Agreement (currently Section 2.10 of the model loan agreement) or a borrower can request the ARF subsequently through standard FSL conversion request procedures. The request form can be downloaded from: request form.
b. Why is the ARF offered as an FSL feature?
The Bank previously offered a Fixed-rate Single Currency Loan (FSCL) that gave borrowers access to a fixed rate that was fixed as the loan disbursed. The FSCL was withdrawn on December 1, 1999 as a choice for new loan commitments as better terms could be established through the FSL. Through the ARF mechanism, the FSL now offers a more flexible rate-fixing option on disbursed amounts that can be exercised at the borrowers’ choice, as well as other features not available with the FSCL.
c. What choices regarding the frequency of ARFs are available?
Borrowers wanting automatic rate fixing have two choices:
- ARF by Period. The borrower specifies to the IBRD the desired frequency of interest rate fixings (e.g., semiannually, annually).
- ARF by Amount. The borrower specifies to the IBRD a "threshold" amount for disbursed amounts subject to rate fixing.
d. How do Automatic Rate Fixings Work?
ARF by Period. The borrower would specify to the IBRD the frequency of interest rate fixings (e.g., semiannually, annually). The borrower can, for example, instruct the IBRD to fix the rate on semiannual rate-fixing dates for loan amounts disbursed during the preceding six-month period. These rate fixing dates must coincide with interest payment dates. The fixed rate obtained will enter into effect immediately. For instance, if a loan has interest payment dates March 15 and September 15 and the borrower instructs the IBRD to implement ARF semiannually on disbursed amounts, starting March 15, 2002, the IBRD would fix the rate on amounts disbursed from March 15, 2002 to September 14, 2002 and the fixed-rate obtained will begin to apply to those disbursed amounts beginning on September 15, 2002. In the initial period from the date of actual disbursement to September 14, 2002, the FSL variable rate would apply.
From a loan accounting perspective, an FSL with ARF by period will be divided in tranches of disbursed amounts, with each tranche having its applicable fixed rate. The loan would have as many tranches as rate fixings have taken place. In the above loan example, if disbursements occur in 8 different semesters, the FSL would have 8 tranches each with its applicable fixed lending rate.
ARF by Amount. The borrower would specify to the IBRD a "threshold" amount for disbursed amounts subject to rate fixing. The borrower can, for example, instruct the IBRD to fix the rate on disbursed amounts every time that cumulative loan disbursements totaling $25 million have been reached. The fixed interest rate will be applicable only at the beginning of the next interest period after the threshold amount has been reached. For instance, if a loan has interest payment dates March 15 and September 15 and the borrower instructs the IBRD to implement ARF by amount every time that cumulative loan disbursements totaling $25 million have been reached, once this amount is reached the IBRD will execute the rate fixing in the market. The execution will take place after the closing of IBRD's next semi-monthly accounting period. The fixed-rate will begin to apply at the beginning of the next interest period; prior to this, the FSL variable rate would apply. If, in this example the $25 million threshold is reached on June 10, 2002, the Bank will execute the rate fixing as soon as practicable after its June 15, 2002 accounting period closing through a forward swap and the fixed-rate will begin to apply to the $25 million as of September 15, 2002. If on June 10, 2002, a total of $37 million was disbursed, the Bank would execute a rate fixing for $25 million only. The $12 million balance would remain at the applicable FSL variable rate until the next $25 million threshold is reached.
From a loan accounting perspective, an FSL with ARF by amount will be divided in tranches of disbursed amounts, with each tranche having its applicable fixed rate. The loan would have as many tranches as rate fixings have taken place. If, for example, a borrower has specified a $25 million disbursement threshold to fix the rate on a $100 million FSL, if the loan is disbursed in full, the FSL would have four $25 million tranches each with its applicable fixed lending rate.
ARFs by amount are subject to a maximum amount of $500 million and a minimum amount of the higher of USDeq 3 million or 10% of the loan amount. Exceptions might be considered on a case-by-case basis. Please contact BCFBD if a borrower needs to seek an exception to these threshold amounts.
e. How is the ARF incorporated in the Loan Agreement?
If at loan inception the borrower wants to instruct the Bank to automatically implement interest rate fixings on the disbursed amounts of its FSL, the terms can be included in an ARF section in Article II of the loan agreement. The wording of this ARF section will reflect the Borrower’s instructions as to the frequency of the rate fixing.
The ARF section should only be included in the loan agreement if the borrower’s intention is to instruct the Bank to automatically convert the loan’s variable rate into fixed rate. If the borrower’s initial intention is to keep its FSL lending rate as variable, this section should not be included in the loan agreement.
13. What kind of repayment term flexibility do FSLs offer?
The FSL provides flexibility to tailor repayment terms according to the needs of a specific project or sovereign debt management strategy. FSL repayment terms are governed by average repayment maturity and final maturity limits. Within these limits, borrowers may structure FSL repayment terms as an amortizing loan with annuity repayments, as an amortizing loan with level principal repayments, as a bullet maturity repayment loan, or as an amortizing loan with customized principal repayments.
There are two types of repayment schedules available for the FSLs. A borrower can fix the length of the grace and repayment periods of principal repayments at loan commitment (“commitment linked schedules”) or may link the loan repayment schedules to actual disbursements (“disbursement linked schedules”). Regardless of the type of schedule chosen, the repayment installments of FSLs is based on the disbursed amount of the loan, and not on the commitment amount, as is the case with VSLs.
Please refer to the FSL brochure (fsl) for further information on the two types of available FSL schedules and the policy restrictions which apply to FSL repayment schedules.
14. What are the policy restrictions when choosing a repayment schedule?
The FSL repayment terms are governed by two parameters: final maturity and average repayment maturity.
- No FSL may have a final maturity of more than 25 years; and
- the average repayment maturity (in the case of commitment-linked repayments), or the sum of the average repayment maturity and the expected average disbursement period (in the case of disbursement-linked repayments), may not exceed the country limits of 14.25, 11.25 or 10.25 years for countries in categories I-II, III, and IV-V, respectively.
Subject to these policy constraints, an FSL can be structured to provide amortizing loans with annuity or level repayments, bullet-type repayments, or customized repayments.
15. Are “standard” country terms still available for FSLs?
Standard country terms are available and are one of the many possible repayment options borrowers may choose from for FSL loans. Standard repayment terms are based on country criteria, such as GNP per capita and country creditworthiness. For FSLs, category I and II countries choosing standard country terms may also elect level repayment of principal with a grace period of up to 8 years and final maturity of 20.
16. Can borrowers trade off maturities across FSLs?
Borrowers may trade off average repayment maturity across FSLs to obtain a longer maturity (not exceeding 25 years) on a new loan, provided it can be offset by a loan with a shorter maturity signed within the previous 12 months. The weighted average repayment maturity of all FSLs to the country within that 12-month period may not be increased beyond the country limit. Repayment term tradeoffs across FSLs exclude Special Structural Adjustment Loans (SSALs).
17. Can one choose to have different repayment schedules for different "tranches" of an FSL?
For the time being, different "tranches" of an FSL must have the same repayment schedule. If a borrower wants an FSL in tranches with different repayment schedules, each tranche would have to be a separate loan.
18. Are FSL terms available for special structural adjustment loans (SSALs)?
Although in general special repayment terms and conditions apply to emergency-type IBRD lending operations such as Special Structural Adjustment Loans (SSALs), many of the FSL's terms and associated hedges are available for such operations.
In particular, the following FSL features are available for SSALs: currency conversions; interest rate conversions; automatic rate fixing (ARF), either by amount or by time period; and interest rate caps/collars. In addition, the same pricing for interest rate conversions that applies for standard FSLs also applies to SSALs, i.e. there is no transaction fee for interest rate conversions for up to the full maturity of the loan for amounts up to the outstanding loan amount.
However, SSALs have shorter maturities than standard IBRD loans and carry a higher lending spread above LIBOR of at least 400 basis points, as prescribed under the IBRD policy governing these loans. With respect to the available choices of repayment schedules, SSALs are not eligible for disbursement-linked schedules.
The commitment fee for SSALs contracted on FSL terms is 0.75% on the undisbursed amount. The 0.10% risk premium does not apply for the first four years, as is the case for standard FSLs the funding risk for SSALs is relatively low, since they disburse quickly.
19. Are borrowers allowed to convert existing loans to FSL terms?
Generally, the financial terms of an existing loans cannot be amended once the loan has been signed. Borrowers can instead use IBRD's hedging products on a stand-alone basis to effectively change the financial terms (currency and interest rate basis) of their existing loans. However, on an exceptional basis, if the loan has not become effective and the repayment terms of the loans are not amended, it may be possible for the Bank to agree to amend an existing loan from VSL to FSL terms.
20. Does the IBRD promote the use of either of the two instruments available for new loan commitments (FSLs and VSLs)?
The IBRD is financially indifferent to IBRD borrowers' loan choices. And both the VSL and the FSL are deemed suitable for IBRD clients, otherwise the IBRD would not offer them. However, from a sovereign risk management perspective, the fixed-spread loan is a better option because gives borrowers the tools to protect themselves against market risks, whereas the VSL alone gives borrowers no protection against currency and interest rate risk. As an example, if floating rates rise dramatically and the borrower has chosen a VSL, the borrower would be forgoing the opportunity to lock in rates at early stages of this trend. It could be argued that VSLs could be a more appropriate choice for clients with no desire at all to make use of any of the FSL's flexibility. However, the VSL wouldn’t be the safer or more prudent choice.
21. Can one take an FSL leaving out some of the optionality (e.g., caps or collars)?
Yes. If they wish, borrowers may negotiate FSL terms leaving out some of the flexibility embedded in the FSL's terms. Nevertheless, there is no charge or financial gain to borrowers whether they retain this flexibility or not.
22. Can FSLs be prepaid?
FSLs may be prepaid in full or in part. IBRD may charge a prepayment premium to cover the cost to IBRD of redeploying prepaid funds. The prepayment premium charged is based on the difference between the cost basis of the prepaid loan and the cost basis of the new loan to which the funds are redeployed.
23. How is the “redeployment cost” in the case of an FSL prepayment calculated?
Prepayment of floating-rate FSLs
(a) Compute the difference between the cost basis of the FSL being prepaid and the prevailing cost basis for FSLs on the date of prepayment (assumes the prepaid loan to be fully funded to maturity). For non-USD currencies, the difference should be adjusted for the difference in the corresponding "basis swap" costs.
(b) Based on the maturities being prepaid, compute the present value of the stream of costs to the Bank using the difference in the cost basis computed in (a). The discount rate used in the present value computation is the prevailing cost basis for FSLs (adjusted for basis swap cost).
(c) The present value computed in (b) is the premium the borrower is charged by the Bank
Prepayment of FSLs that have been converted
(a) For FSLs that have been converted, the borrower pays a prepayment premium on account of the underlying floating rate FSL as outlined in (a) and (b) above.
(b) Moreover, for unwinding each conversion the borrower will be charged a transaction fee plus or minus the mark-to-market value of any swap transacted with a market counterparty. The transaction fee is applied to the amount of the principal that is being prepaid. The unwinding of any market swap can result in a cost or gain to the Bank. Any such cost will result in an additional amount payable by the borrower to the Bank and any such gain will be subtracted from the amount to be prepaid or paid by the borrower ("unwinding amounts").
TOP
IV. Variable-Spread Loans (VSLs)
1. What are Variable-Spread Loans (VSLs)?
This loan is denominated in the currency selected by the borrower, and has a lending rate which consist of a variable base rate (6-month LIBOR) and a spread that changes every six months depending on IBRD's cost of funding in the preceding six months. Just like with FSLs, borrowers may choose to denominate their VSLs in one or more currencies, including the Euro, Japanese yen and U.S. dollar and other currencies in which the IBRD can fund itself efficiently. Loans may be committed in one or more currencies. Disbursements may be made in various currencies. For example, if needed for procurement purposes, the IBRD will, as agent for the borrower, purchase with the loan currency the currency needed to disburse. The loan obligation, however, will continue to be denominated in the loan currency or currencies chosen by the borrower.
2. How is the lending rate on VSLs determined?
As with all variable lending rates, there are two important elements one should look at when evaluating a variable lending rate:
1. The index on which the rate is based; and
2. The spread charged relative to that index.
The VSL lending rate is based on a direct cost-pass through formula; i.e. it consists of the then prevailing LIBOR rate plus or minus the IBRD’s average margin against LIBOR, plus a lending spread of 0.75% (the lending spread the IBRD charges on all its loan products except SSALs). This lending rate is applied to the entire disbursed and outstanding balance of the loan.
The spread consists of the IBRD's weighted average cost margin relative to six-month LIBOR for funding allocated to VSLs (recalculated each June 30 and December 31), and the IBRD's 0.75% standard lending spread.
3. Do VSLs offer any repayment term flexibility?
VSLs carry “standard” repayment terms across all borrowers in the same per capita category and across all sectors. They offer limited flexibility to tailor loan repayment terms to match project requirements. The IBRD provides for borrowers to extend the grace period of VSLs, provided each six-month increase in the grace period is accompanied by a one-year reduction in the final maturity. Consider a member country whose standard country terms provide for a 17-year final maturity. That borrower could extend the grace period from 4 to 5 years (for an annuity repayment schedule) if it agreed to reduce final maturity to 15 years. Customized repayment terms and installments, available in FSLs, are not offered in VSLs.
At the portfolio level, VSL borrowers have some flexibility to make compensating adjustments. Borrowers have the option to elect shorter grace periods or final maturities than specified as the country standard. Any decrease in the grace period or final maturity for one loan can be used to increase that of another loan in the same fiscal year, if there is a strong project justification. For example, if one 17-year loan with an annuity amortization schedule were made with a 3-year grace period, another 17-year loan for the same principal amount could be made with a 5-year grace period. In that way, the resultant weighted average grace period would still be 4 years, which is the standard grace period for such loans.
Any departure from standard VSL terms is subject to Bank approval.
4. How do FSL and VSL terms compare?
The principal similarities between VSLs and FSLs are that:
- Both are variable rate loans with 6-month LIBOR as their base rate;
- They are available in EUR, JPY, USD and any other currency which the IBRD can efficiently intermediate, and can be committed in one or more currencies;
- They both are eligible for the same loan charge waivers (i.e., commitment fee and interest rate waiver), as annually determined by IBRD's Board.
- In the event of full or partial prepayment, the prepayment premium, if any, is based on IBRD's redeployment cost of the prepaid loan amount. (If the amounts being prepaid were converted by the borrower, the borrower would also be charged an Early Termination Fee);
The principal differences between VSLs and FSLs are that:
- VSLs do not have the currency and interest rate conversion features that are embedded in the FSLs;
- VSL repayment terms are governed by standard country terms and therefore do not offer the repayment term flexibility of FSLs;
- Borrowers bear the risk of changes in the spread over LIBOR for VSLs as a result of changes in the Bank’s cost of funding throughout the loan life. In contrast, the FSL spread is fixed for the loan life; for which the FSL charges are slightly higher that those on VSLs. The FSL fixed spread incorporates a refinancing risk premium (currently 0.05%). The commitment fee for FSLs incorporates a funding risk premium (currently 0.10%) and is 0.85% in the first four years of the loan's life, dropping to 0.75% thereafter. For VSLs the commitment fee is 0.75% throughout the loan's life;
- In case of delays in disbursements beyond the grace period, repayment installments for VSLs are based on the total loan amount committed, whereas in the case of FSLs repayment installments are calculated as a portion of the disbursed and outstanding amount of the loan.
5. Why is the IBRD not offering for VSLs the same flexibility it offers for FSLs?
The FSL’s flexibility is facilitated by the IBRD pricing these loans at a fixed-spread relative to a market reference and managing associated funding and refinancing risks. The FSL was designed to be a loan platform that would give clients access to clean market-based currency and interest rate risk management tools. With its variable spread over LIBOR, the VSL could not be such a platform, since it can only provide approximate hedges.
TOP
V. Deferred Drawdown Option (DDO)
1. What is a DDO?
A DDO gives IBRD borrowers of a single-tranche adjustment loan the option of deferring the loan’s disbursement for up to three years, provided that overall program implementation and the macroeconomic framework remain adequate. An adjustment loan with a DDO, like other regular adjustment loans, would be included within the envelope of the Country Assistance Strategy (CAS) and would not constitute a window for additional resources. Exercising the DDO would give borrowers access to long-term IBRD resources to maintain ongoing structural programs if market borrowing becomes difficult and a financing need materializes. In this way, a DDO can facilitate a more effective response by the Bank in the event that temporary market access constraints might become prolonged and a borrower might need to rely more on the IBRD than previously anticipated to meet ongoing funding needs. At the same time, a loan with a DDO may provide a formal basis for continued engagement with the Bank through the CAS, ESW and technical assistance.
2. Who is eligible for a DDO?
The DDO is available to IBRD-eligible borrowers, including countries that borrow from both IBRD and IDA (“blend countries’), to whom IBRD makes a single-tranche adjustment loan.
3. Who are the target clients?
Client country feedback suggests that this option could be a useful instrument for IBRD borrowers that:
- are eligible for IBRD adjustment lending;
- are accessing capital markets for a large part of their funding needs and have no interest in immediate disbursements from the Bank; and
- are interested in remaining engaged with the Bank and having access to a funding risk management tool associated with support for core structural programs.
4. What are the Operational Prerequisites and Implementation Arrangements for IBRD loans with a DDO?
Prerequisites. Adjustment loans with a DDO will be made within the Country Assistance Strategy envelope. Like all single-tranche adjustment operations, they will be based on (i) a satisfactory macroeconomic framework, including domestic and external debt sustainability; (ii) the up-front completion of a set of specific structural reform measures (“prior actions”) before Board presentation; and (iii) receipt of an acceptable Letter of Development Policy (LDP) setting out the government’s program of actions (prior actions and any other actions), objectives and policies designed to achieve structural adjustment. As for all adjustment loans, the Fund’s assessment of macroeconomic policies - normally in the context of a Fund arrangement - would be taken into account in the Bank’s assessment. 1
Drawdown Period and Conditions. A loan with a DDO has a drawdown period of three years beginning at loan signing, during which the borrower may elect to draw on the loan in a single tranche when a financing need arises - provided that: (i) the macroeconomic framework remains satisfactory; and (ii) the borrower continues to adhere to the overall program set out in the LDP.
Signing and Effectiveness. Signing of the loan agreement providing for a loan with a DDO should take place as soon as possible after Board approval. If the Loan Agreement is not signed within six months after Board approval, the Bank would withdraw the loan. All specific policy reform conditions for an adjustment loan with a DDO must be met before Board presentation; no such conditions should be included as effectiveness conditions in the Loan Agreement.
Country Dialogue and Loan Supervision During Drawdown Period. Throughout the drawdown period, the borrower and the Bank maintain a close policy dialogue. Also, as part of regular loan supervision, Bank staff periodically: (i) consult with the Fund on the adequacy of the macroeconomic framework; and (ii) monitor the borrower’s continuing adherence to the overall program. As long as both drawdown conditions remain satisfied, such periodic monitoring normally takes place semiannually, although monitoring may be more frequent at the request of either the Bank or the borrower. If at any time during the drawdown period the Bank concludes that one or both drawdown conditions are not met, the Bank promptly advises the borrower of the need for a subsequent review to confirm that both conditions are satisfied before it would be able to grant a request for drawdown. In this case, follow-up monitoring will be at least quarterly until a review confirms that both drawdown conditions are met.
Request and Decision on Drawdown. The Bank responds rapidly to the borrower's request to draw on the loan. If the Bank has not previously had to advise the borrower of the need for a subsequent review to confirm that both conditions are met as a prerequisite for a drawdown, the Bank would quickly re-confirm whether the two conditions remain satisfied. If the Bank had previously advised the borrower of the need for such a subsequent review, the Bank conducts a full review of the macroeconomic framework and overall program implementation as early as possible upon receipt of the borrower’s drawdown request. To determine whether the two drawdown conditions are met, Bank staff examine and Bank management makes a judgment on the adequacy of macroeconomic policies, taking into account the Fund’s assessment, and on the continued consistency of government actions and policies with the objectives of the program agreed at negotiations and set out in the LDP. Depending on country and external developments, government actions may remain consistent with the objectives of the program even if one or more prior actions might have been partly or fully reversed. In such a case, Management would consider the drawdown condition on adherence to the program fulfilled. If both drawdown conditions are met, the Bank grant the borrower's request to draw on the loan.
Case when Drawdown Conditions are not Met. If Management determines that one or both drawdown conditions are not met, the Bank advises the borrower promptly of the reasons for its determination and works with the borrower - if macroeconomic policies are not found adequate, in close consultation with the IMF - to help fulfill the conditions for drawdown. In principle, the same policies and procedures on waivers of conditions apply to adjustment loans with a DDO as to adjustment loans without a DDO. In particular, any waiver would require Board approval. However, for adjustment lending in general, Management does not expect to recommend to the Board a waiver of conditionality on the adequacy of macroeconomic policies and overall program implementation.
5. What are main the financial terms of a loan with a DDO?
The main terms include a 3-year drawdown period and a repayment term, inclusive of a grace period, commencing from the beginning of the interest period following drawdown. Requests for extension of the drawdown period for an additional period of up to three years will be considered by the Board of Executive Directors if the implementation of the reform program and the macroeconomic framework remain satisfactory. Within existing policy limits for fixed-spread loans, borrowers can tailor the loan’s grace period, final maturity and repayment pattern to their needs. As an added flexibility, borrowers choosing a loan with a DDO can opt for a 3-year longer average repayment maturity than conventional loans subject to a 0.25% premium on the lending rate. The grace period, repayment pattern and final maturity chosen by the borrower must be specified in the loan agreement.
The only financial charge on a loan with a DDO, while it remains undrawn, is the commitment fee of 1% per annum (0.50% net of the prevailing commitment fee waiver). When a loan with a DDO is drawn down, the Bank’s 1% front-end fee is charged and normal lending rates and other FSL financial terms, including loan charge waivers, apply. As FSLs, loans with a DDO have the embedded currency and interest rate risk management tools that are integral features of this product, including the option of automatic rate fixing upon loan drawdown, which can be requested by the borrower either as part of the loan agreement or at any time during the life of the loan.
-------------------------------------------
1 As stated in Operational Directive 8.60, “Adjustment lending is not normally undertaken unless an appropriate Fund arrangement is in place. If there is no Fund arrangement, Bank staff should ascertain, before making their own assessment, whether the Fund has any major outstanding concerns about the adequacy of the country’s macroeconomic policies.” See Operational Directive 8.60, Adjustment Lending Policy, December 1992. See also Operational Memorandum Clarification of Bank Policy on Adjustment Lending, June 5, 2000.
TOP
VI. Free-Standing Hedging Products
1. What are IBRD's free-standing hedging products?
In response to borrower demand, the IBRD offers a range of financial risk management products. They were designed to address the fact that borrowers’ financial needs often change during the life of their IBRD loans. Using standard market techniques, IBRD hedging products can transform the risk characteristics of a borrower’s IBRD debt even as the negotiated terms of particular loan contracts themselves may not be flexible, as is the case with CPLs, SCPs, FSCLs and VSLs. These products allow borrowers improved risk management capability in the context of projects, lending programs, or sovereign asset-liability management. IBRD hedging products include:
IBRD Interest Rate Hedges:
Interest Rate Swaps – individually negotiated transactions between the IBRD and a borrower which have the financial effect of changing the interest rate basis of the borrower’s net IBRD obligation from fixed to floating or vice versa. As counterparts to an interest rate swap, the IBRD and the borrower agree to exchange, at certain future dates, two sets of cash flows denominated in the same currency. The cash flows paid by one party reflect a fixed rate of interest while those of the other party reflect a floating rate of interest.
Interest Rate Caps and Collars – provide protection against rising interest rates to users of floating-rate loan products. Interest Rate Caps are individually negotiated transactions between the IBRD and a borrower which set an upper limit on the net interest a borrower would pay on an IBRD floating rate loan against payment of an up-front premium. Interest Rate Collars are individually negotiated transactions between the IBRD and a borrower which set an upper and a lower limit (together, a collar) on the net interest a borrower would pay on an IBRD floating rate loan against payment of an up-front premium.
IBRD Currency Hedges:
Currency Swaps – individually negotiated transactions between IBRD and one of its borrower which have the financial effect of changing the currency denomination of the borrower’s net IBRD obligation. As parties to a currency swap, the IBRD and the borrower agree to exchange two sets of cash flows, denominated in different currencies, at certain dates in the future. The cash flows reflect payments of interest (either fixed or floating) on these currencies and frequently an exchange of principal amounts.
IBRD Commodity Hedges:
Commodity-linked Swaps – individually negotiated transactions between IBRD and a borrower to exchange two sets of cash flows at certain dates in the future, in the same currency, where one set of cash flows is linked to the market price of a commodity or index and the other to a floating or fixed rate of interest. This product will be offered on a pilot basis and on a case-by-case basis. For a new operation associated with an FSL, a commodity hedge will be part of the project documentation and Board approval is required. Loan documentation submitted to the Executive Directors for approval would provide a description of the intended use of commodity hedges and an assessment of the expected benefits and risks.
2. Why are they called hedging products?
These products are offered by the IBRD to allow borrowers improved risk management capability in the context of projects, lending programs, or sovereign asset-liability management. The IBRD makes these products available to give borrowers the tools to manage the financial risks of IBRD loans.
3. What is the difference between hedging and speculating?
When borrowers hedge, they are reducing the financial risks of their loan or debt portfolio. When borrowers speculate, they are taking on financial risks by attempting to profit by "taking a view" on future movements of interest rates, foreign exchange rates, or commodity prices.
4. What are the potential benefits to borrowers using these products?
IBRD's hedging products offer borrowers the following benefits:
- Flexibility added to existing IBRD loans. Loan term choices made by borrowers at the inception of a loan may not be suitable later in the life of the loan. A borrower’s risk management needs may change as its access to finance from other sources change or expand. Using IBRD Hedging Products, borrowers will now be able to respond to changing currency and interest rate risks over the remaining life of their outstanding IBRD loans.
- Access to risk management tools. IBRD hedging products provide a step forward for many IBRD borrowing countries having no direct access to risk management instruments through financial markets. Other IBRD borrowers which have market access can take advantage of longer maturities and higher volumes available on IBRD products. Accomplishing their objectives using IBRD hedging products would also preserve borrowers’ credit lines with financial market intermediaries and avoid the imposition of collateral arrangements.
- Pricing Benefits. Through IBRD financial market intermediation, borrowers benefit from IBRD’s AAA credit rating and its experience gained from a long-standing presence in the derivatives markets.
- Portfolio Risk Management capability. Hedging products can be used in implementing a country's asset-liability management strategy to reduce financial risks at the portfolio level.
- Experience. Borrowers can use these tools to build upon their knowledge of risk management techniques and institutional capacity for using derivative instruments. IBRD supports countries' efforts by offering workshops on the use of IBRD financial products as well as sovereign asset-liability management.
5. In what currencies are they available?
They are available in CHF, EUR, GBP, JPY, USD and potentially other currencies supported by liquid derivatives markets, to be considered on a case-by-case basis. Local currency hedges are offered on a case-by-case basis, subject to the availability of liquid swap markets in the local currency. For more information, refer to the local currency brochure: hedging.
6. Are there limits on the maturity a hedge may have?
The hedging products are offered in maturities no longer than the remaining maturity on the portion of IBRD loans being hedged. Maximum maturities for hedges may further be limited to those maturities readily available to IBRD in the relevant financial markets. For major currencies like the USD, EUR and JPY hedges of maturities matching the maturity of IBRD loans (e.g., up to 25 years) are likely to be available.
7. When can borrowers use the hedging products?
They may use them at any time during the life of a loan. A borrower may choose to use IBRD hedging products to effectively transform its loan obligation, on one or more occasions, whether to fix, unfix, or re-fix the interest rate, to establish caps or collars on the variable rate, or to change the currency of obligation.
8. Are all types of hedging products available for all types of IBRD loans?
No. The following table shows the hedging products available for the different types of loans. The denotes the hedges available for each type of loan.
TOP
9. Could a loan have multiple hedges?
Yes. A loan, for example, may have both a currency swap and an interest rate cap or collar applied to it. Old hedges may also be altered or reversed through new hedges.
10. How do the IBRD hedging products compare with instruments offered in the market?
The hedging products the IBRD is offering are standard products available in the over-the-counter derivatives markets. In fact, if a client requests an IBRD hedging product, the IBRD will be obtaining the requested product in the markets. The IBRD will be using its AAA credit rating to obtain these products at lower prices, longer maturities and larger volumes than those available directly to its clients. Borrowers would not be using their credit lines with commercial counterparts and would not need to set up collateral arrangements.
11. Will the IBRD's involvement in intermediating hedges crowd out the private sector?
No. The IBRD is offering these hedging products because the overwhelming majority of its borrowers have no access to such products in the commercial market due to their credit standing. Those IBRD borrowers that have access, it is for shorter maturities, it uses up their credit lines with commercial institutions, and it is under terms that would be considered less than favorable (e.g., borrowers may be required to post collateral, or commercial institutions would offer these products only in connection with new bond issues.) The IBRD will act as intermediary in the financial markets securing these hedges for its borrowers from private sector counterparties.
12. Are hedging products available to hedge IBRD borrowers' non-IBRD debt?
Presently, this possibility is not part of the product menu.
13. How are the hedging products priced?
In most cases, pricing of transactions between IBRD and a borrower will be based directly on the terms IBRD achieves in its offsetting transaction with a market counterparty or on widely available, pre-specified screen quotes, in case the IBRD does not execute an offsetting transaction. IBRD’s market counterparty will not know the identity of the borrower requesting a hedge from IBRD, as the IBRD will be acting as principal in the market transactions. As such, they would not be entitled to charge differential pricing based on the credit standing of the particular borrower involved.
14. What is the current fee schedule for IBRD hedging products?
The following table list the fees in effect for IBRD hedging products. Fees are billed at the time of transaction execution, and are payable within 60 days. IBRD’s policy regarding eligibility for interest waivers based on timely debt service will also apply to timely payment of fees. IBRD may revise the fee schedule from time to time. In such cases, the revised fees would apply only to hedge requests submitted after the new schedule is in effect.
|
IBRD Hedging Products
Fee Schedule |
|
Transaction Type |
Hedge Fees* |
Interest Rate Swaps |
1/8 % |
Interest Rate Caps and Collars |
1/8 % |
Currency Swaps |
1/ | | 
