Notes

Financial Markets – By Suresh Lalwani

Bond Markets are bigger than Stock markets, hence banks are impacted by interest movements

Commercial Banks – Buys and sells bonds and securities

Treasury – Manage day to day funds

Capital Preservation – Risk and return and easily liquidatable at short notice

Profits are estimations, cash flows are realities

Spread = Profit Margins = Net Interest Margin (For loans and deposits). Increase and protect my profit margin

Interest – It is reward for parting with liquidity. Markets is not going to make profits easy for investments

Asset Liability mismatch (Banks) – Very short term liability and long term assets (loans). Mismatch is needed to generate profits. When Interest rises, short term interest rises, but bond prices fall

Repo – I borrow and offer a collateral

Sale Purchase transaction – I need to purchase back

SGL Account (Subsidiary general ledger account) – Trade in government bonds – A government demat account

Savings account / Funds account – Establishes links between markets

Money market classification (Short term, less than 1 year)

Call money market – Commercial banks (exchange liquidity positions) lend and borrow money among themselves, to meet CRR obligations (Non bank do not participate no like insurance). No collateral, very liquid. Max lending for a fortnight

CRR (Cash Reserve Ratio) - 5% - To suck liquidity out of market via commercial banks

SLR (Statutory liquidity position) – To maintain a portion of bank’s asset with RBI in order to protect depositors in case bank goes bust (Currently, every depositor is ensured of Rs 1 lakh max per savings account)

SOURCE	ASSETS
Cash 10%	Cash – 1% (For ATM)
Deposits 70% (Includes CASA – Low costs deposits, and FD)	CRR – Current account balance with RBI – 5.5%
Market Borrowings 20%	SLR – Investment in Government Bonds, treasury bills (25% of (70+20) = 22.5%)
	Loans and Advances (Credit) – 51%
	Pure investments – 20%
Total 100%	Total 100%

DTL – Demand and time liabilities

CRR conditions – Average balance should be equal to CRR (6%) & min balance on a day can be 70% of CRR (except on day 14, which is the squaring off day)

SLR – Averaging is not permitted, it has to always 25% (Addresses concerns of depositors)

T- Bills (Treasury Bills) – Government is the borrower. It is short term borrowing. Max period is 1 year

Negotiable instrument – which can be traded for value. Ex – Cheque can be passed in lieu of value, legally binding (Bill of exchange, promissory note)

T-Bill are discounted and given

Zero Coupan Bonds – No outflow of coupons in between

Interbank Term money – 14 days to 1 year – Commercial bank accepting or giving (exchange) among themselves. It is clean, no collateral

LIBOR – London Interbank offer rate

Repos – Secured collateral – borrowing and lending (structured as Sale and buyback of assets). Hence, lower int rate as it is collateralized

Citibank Date – 23 Oct 2010

Sale / Purchase

Counter Party – SBI

Name of security – 9.4% GOI (Issuer of security) 2012 (Year of maturity)

Face Value – Rs 10 crores

Price per unit – 103.83 (as int is lower, PP is higer)

Settlement – 25 Oct 2010 (T+2)

Payment of accrues interest

SBI demands int rate for which they are entitled = Acrrued interest

Period = From last int payment date to settlement date

Dirty Price = Clean Price (Price per unit, unsecured money) + Acrrued Int (Non negotiable, derived on face value)

Basis of granting loan is REALIZABLE value (Dirty Price)

Repo Rate is less than Call rate

Hair Cut = 10% margin charged by banks for the amount lend

Repo Vs Reverse Repo

Lender can give loan at min 5% (as offered by RBI in reverse repo) and can get loan at a max of 6% (as offered by RBI in Repo)

Repo and reverse repo is not compulsion, but CRR is

Securitization – Mortgage back products

With recource – Paying is responsibility of the borrower (lender can take customer to court)

SPV – Special purpose vehicle

CDO – Collateral debt obligation

CDS – Credit default swap – AIG to insure for the amount of loss (to the investor)

Class 5 and 6

Asset reconstruction – Good collections team who can recoever bad debts

CBLO – Collateral borrowing lending obligation

SGL – Proprietory SGL A/C (For company’s own trading position) and Constituent SGL A/c (For customer trading position)

CCIL – Gurantees settlement of transaction, 2002 (Central counter party novation – Putting yourself in other’s shoes)

Exchange is responsible for settlement of transaction

CCIL through novation ensures that both party are settled with transaction

Dutch Auction – Preference will be given to most competitive party. Higher rates offered for borrowers and lower rate demanded by lenders dominate. (Problem – Over-aggression in bidding by borrower and vice cersa for lenders)

French Auction – For higher borrower bidders, pay the original bid – Winner’s curse

In case of a tie, people bidding first gets preference

Rate of (CBLO (secured and liquid) < REPO (secured but illiquid) < Call (unsecured) )

CP (Commercial papers) – M/g company needs WC money and hence issue CPs to get it (cheaper than OD and can get from banks). Unsecured short – term borrowing

CDI (Certificate of deposits) – Commerical banks borrow money from HNI and issues instrument which is tradeable (FD is non transferable) (Rack Rate – Schedule of Current Int rate)

Commercial Bills – Discounting of bills of exchange (Uday Kotak – Pioneer) – Bank gives loan against the bill to seller till buyer pays. Interest is recovered upfront in advance.