Académique Documents
Professionnel Documents
Culture Documents
Dr Lixiong Guo
Semester 2 ,2014
Part I
Producing Units
(Corporations)
Consuming Units
(Households)
Primary
Securities
Secondary
Securities
The FIs can offer household savers financial claims with high
Asset Transformation
Primary securities: securities issued by corporations.
Secondary securities: securities issued by FIs.
One important function of FIs is asset transformation.
FI
(Brokers)
Households
Cash
Deposits/Insurance
Policies
FI
(Asset
Transformers)
Corporations
Equity & Debt
Cash
diversifications.
By investing in a portfolio of firms, the FI can diversify away
significant amount of firm-specific risk. This allows the FI to predict
more accurately its expected return on its asset portfolio.
By diversifying its source of funds, the FI can predict more
accurately its expected daily withdrawals and set aside cash to
meet these withdrawals without liquidating its entire long-term
investments.
10
11
Types of FIs
There are many different types of FIs, each plays one or more
Finance Companies
Rely on short- and long-term debt and are not allowed to take deposits.
12
Regulations of FIs
FIs are special because the services they provide are crucial to
13
14
Part II
DEPOSITORY INSTITUTIONS
16
Liabilities
Shareholders Equity
17
Yield Curve
At any point of time, interest rates on debt instruments of
18
19
100
(1+01 )
88.58 =
100
(1+02 )2
=> 01 = 5.75%
=> 02 = 6.25%
The relation between the yields and their maturity gives the term
20
earning assets.
21
22
23
Off-Balance-Sheet Activities
The balance sheet itself does not reflect the total scope of bank
activities.
Banks conduct many activities off-balance-sheet.
Standby letter of credit (SLC): A guarantee by the issuing bank to
pay a third party should the buyer of SLC defaults on it payment.
Loan commitments: A contractual commitment to make a loan up
to a stated amount at a given interest rate in the future.
Derivatives transactions.
24
25
Part III
27
Advising
M&A, Restructuring
Broker and Dealer
Trading of securities
Trading and creation of derivative instruments
Prime brokerage
Asset Management
Managing pools of assets for clients.
28
29
Public Offering
In a public offering, securities are distributed directly to the public
at large.
In a private placement, securities are placed with a limited
number of institutional investors such as insurance companies,
pension funds and investment companies.
Public offerings must meet more stringent regulatory
requirements than private placements
The Securities Act of 1933 and the Securities and Exchange Act
of 1934 require that all public securities to be registered with the
SEC, unless there is a specific exemption.
30
functions
Advising the issuer on the terms and the timing of the offering.
Buying the securities from the issuer
Only in a firm-commitment underwriting
31
syndicate
The lead underwriter
Perform due diligence
When SEC approves the issue, the firm meets with the
32
33
34
price it paid to the issuer and the price at which the investment
bank offers the security to the public.
This difference is called the gross spread, or underwriter
discount
35
36
37
Example 4-1
An IB agrees to underwrite an issue of 20 million shares of stock
Part IV
39
Risks of FIs
Interest Rate Risk
In mismatching the maturities of assets and liabilities as part of the
asset transformation function, FIs potentially expose themselves
to interest rate risk.
Market Risk
The values of assets in the trading portfolio of a FI is affected by
changes in market variables, which expose FIs to market risk.
Credit Risk
This refers to the risk that promised cash flows are not paid in full.
Off-balance-sheet Risk
The risk incurred by FIs due to off-balance-sheet activities.
40
41
42
Insolvency Risk
The risk that an FI has insufficient capital to offset sudden decline
in value of assets relative to liabilities.
A consequence or outcome of one or more of the risks described
above.