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I work at an international bank within the M&A FIG team, and have seen that my associate uses the future daily EURIBOR 3M,6M,12M to estimate what the future interest income on a banks loans will be. In order to do so, he got both the future daily Zero coupon rates and daily forward rates in the EURIBOR.

He then told me that the rate that has to be used to project the future interest income on a banks loans should be the zero rate, instead of the forward rate.

He didn't gave the reason for that (asked me to look it by myself), and cannot get any help from Bloomberg's specialists. It has been a week from that and I do not feel any progress in my research.

I would appreciate(a lot) any help on the matter. Thank you in advance.

Please

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I think one way to approach the answer is thinking what are these two rates used for. Starting with zero coupon rates, it's aiming for getting the par value back at maturity (similar to a bank's loan, where in the end payments are all up). For forward rates however, is calculated under the risk neutral measure and is mostly used for option pricing in fixed income. So in your case, your associate's goal is to calculate future interest income, hence zero coupon rates is a good measure for the interest.

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  • $\begingroup$ Hi @jojo, thank you very much for your help, I really appreciate it. $\endgroup$ – J.Gortari Sep 28 '18 at 8:20
  • $\begingroup$ thank you very much for your help, I really appreciate it. As far as I know, forward rates are nothing but estimations for future interest rates based on different tenors for the same instrument. Zero rates are derived from zero coupon paying instruments. When estimating any of those in the future, lets say EURIBOR 3M in 12/2020, I cannot see the difference between them if the underlying instrument has no coupon payments (as in the case of EURIBOR). I see both as the rate at which banks would lend money to other banks in 12/2020 with a tenor of three months. As you can see, my knowledge in thi $\endgroup$ – J.Gortari Sep 28 '18 at 8:40
  • $\begingroup$ @J.Gortari no problem. Notice forward rates are calculated on the expectation of future rates, so when I try to understand difference between which one to use, I imagined if I'm paying back loan, but bank decides that I never lock the rate but can change per market condition every month, that would be somewhat unfair. To loans they mainly want the cash flow marked, hence use zero rates to discount. $\endgroup$ – numerairX Sep 28 '18 at 12:55

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