The Euribor is probably one of the economic indices we hear about most. But it's also one that raises most doubts. What does it mean? What is it used for? How does it affect us? Here’s an explanation of all you need to know.

When we think about buying a house, but we don't have enough money to do so, applying for a mortgage is the first thing that comes to mind. Depending on our financial profile, the bank will grant us a percentage of the value of the property. This is normally, in countries such as Spain, up to 80%. We then have to pay back this money plus interest over the term of the mortgage. When the method for calculating the mortgage interest is chosen, the Euribor comes into play.

The Euribor is the Euro InterBank Offered Rate. It generally refers to the price at which European banks lend money to each other. In the same way that people and businesses borrow money from banks, when banks need money, they borrow from other banks for which they pay interest. This is known as the interbank market.

The Euribor started to be used in 1999. Since then, it has been calculated on a daily basis using a method that aims to use the largest amount of information on actual transactions carried out by the banks with different terms to maturity (one week, one month, three months, six months and one year). The top banks in the eurozone report the interbank interest they applied the previous day. The European Monetary Markets Institute then carries out the following calculation: it removes the 15% highest figures and the 15% lowest figures, and it calculates the average of the remaining 70%, which gives the Euribor.

Buying a home is one of the most important projects in a person’s life. That is why, at Sano de Lucas, they came up with advice (in Spanish) on all you need to know to own a home.

How does the Euribor affect my mortgage?

Now that we know what the Euribor means and how it is calculated, let’s look at its relevance for mortgages. When we apply for a mortgage, we can choose between three types of interest rate. These are: fixed (a percentage that never changes), variable (which is tied to a benchmark index) and mixed (a combination of fixed and variable).

With a fixed rate, we pay the same amount throughout the mortgage. If our mortgage has a variable rate, the amount we pay is revised regularly (normally every 6 or 12 months), to adapt the rate to the current state of the economy, using the Euribor as the benchmark index. In the case of a mixed rate, the mortgage normally starts with fixed monthly repayments and the variable rate is introduced later, also taking the Euribor as the benchmark index.

So, if we have chosen, or are going to choose, a variable rate mortgage, we will pay less interest if the Euribor goes down and more if it goes up. Although, as explained earlier, the Euribor is calculated each day, there are also references that are weekly, monthly, quarterly, half-yearly and annual. The latter two are those most used for mortgages.

The Euribor is used as a benchmark for calculating interest rates not only in mortgages but also in syndicated loans, variable rate debt issues and other financial instruments.

When taking out a mortgage and choosing the type of interest rate we want to pay, we need to think about the possible scenarios that may occur and could affect our financial health, either positively or negatively. Here are the main benefits and drawbacks of choosing a variable interest rate tied to a benchmark index such as the Euribor:

Benefits of the Euribor

• Low interest rates. It is worth stressing that this benefit depends on the economic context. As monthly mortgage payments are subject to fluctuations in the Euribor, they go down in an economic environment of low interest rates.
  
  
• Longer terms. The variable option offers more flexibility in the term for repaying the loan. It is ideal if you prefer lower monthly repayments, although over a longer period of time. There is a drawback to this, which we will see below.

Drawbacks of the Euribor

• Fluctuation. Changes in interest rates can become a drawback. If interest rates go up, your repayments might rise too.
  
  
• Uncertainty. It’s not easy to calculate how we much we will pay when we get to the end of our mortgage. Since the terms are so long, it is impossible to predict the performance of the Euribor, for example, in 10 years’ time. 

When we purchase a financial product, various doubts arise about how much we have to repay. To become familiar with the various types of interest rates, Tu Futuro Próximo offers this financial knowledge test (in Spanish).

€STR, a new benchmark index

The first calculations for the €STR (also known as the Ester) were carried out at the end of 2019. The euro short-term rate (its full name) was designed to replace a previous index (the Eonia) as part of the European Central Bank's regulations to improve the transparency of these indices.

There are several differences between the Euribor and the €STR. One of the main ones is that the Euribor, as explained above, is primarily used as a reference for interest rates over a period of months or a year, while the €STR is used for reflecting the price of overnight interbank transactions. 

Both the €STR and its predecessor, Eonia, are based on transactions with a one-day maturity. However, one of the main financial differences between them is that Eonia reflects the rate charged by banks for lending in the interbank market, whereas the €STR takes into account the rates at which these funds are repaid when borrowed from all financial actors, including central banks, investment funds, pension funds, etc.

In conclusion, the primary aim of the €STR, apart from supporting other indices where necessary, is to reflect the cost borne by the banking sector for borrowing money over very short periods of time.