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International

FinancialMarkets

Chandra Shekar BM, SJR College for Women, Bangalore

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Financial Markets

A market which provides a mechanism fortransferring money from where it is required to

where it is required with a promise of return

Provides interaction between buyer and seller

thereby Price discovery

Liquidity

Reduce transaction and Information costs

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International Financial Markets

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Motives : IFM

The markets for real or financial assets are preventedfrom complete integration by barriers such as

Tax differentials

Tariffs

Quotas Labour immobility

Communication costs

Cultural differences and

Financial reportingdifferentials

At times these barriers can also create unique

opportunities for special geographical markets thatwill attract foreign investors

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Motives : IFM

Investors Invest in Foreign Markets To take advantage of favourable economic conditions

When they expect foreign currencies to appreciate

against their own: and

To reap the benefits of international diversification

Creditors provide credit in Foreign Markets

To capitalise on higher foreign interest rates

When they expect foreign currencies to appreciate To reap benefits of international diversification

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Motives : IFM

Borrowers borrow in foreign markets To capitalise on lower foreign interest rates

When they expect foreign currencies to depreciate

against their own

Other advantages

Efficient allocation of economic resources

Higher levels of international trade

Higher income

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Evolution: IFM

International trade is the driver

1876-1913 currencies convertible into gold at specified rate

dictated by Gold standards

2 world wars and great depression resulting in restrictions on

capital flows and fragmented markets

1944Bretton woods agreement fixed exchange rates

1950-60 Higher restrictions on Capital mobility

Financial innovationsEuro Currency Markets

Technological innovations

1971undervaluation of US dollar

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Evolution: IFM

1973-Floating rate system

Oil shocks in 1973-74 encouraged financial innovations -

Surplus in opec countriesinvested in deficit countries

1990s Pvt capital introduced in international markets

Countries were forced to L. P.. Open markets and

enhance macro economic stability

Mexican Peso crisis

2001US crisis

2008 - Sub prime crisis

2010Euro Zone crisis

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Structure of International Financial Markets

1 Markets for Foreign Exchange

2 Lending by Financial institutions

3 Issue and Trading of negotiable instruments of debt

4 International equity markets

5 Internationally arranged swaps

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Foreign Exchange Markets

Allows conversion of currencies among the countries to

facilitate international trade, investment and payment

requirements

No specific building or location

Largest in terms of Turnover and activity

Trading occurs round the clock

Banks also facilitate forex transactions

Highest volatility and Speculation

Dominated by electronic trading

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Terminologies : Forex Markets

Foreign Exchange

Direct quote and Indirect

quote

Ask Price and Bid price

Spreads Broker

Forward exchange rates

Cross currency quotes

Arbitrage

Spot Markets - Markets for

immediate exchange

Forward markets Enables

users to lock in prices for

future delivery

Hedging

Speculation

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Major Participants : Forex Markets

Commercial banks

Central banks

Institutional investors

Currency speculators

Corporations Governments

Retail traders

Retail and Wholesale trades

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Forex Markets : Financial Centres

Pre-requisites for a

Financial Centre1. Political stability

2. Minimal government

intervention

3. Legal infrastructure

4. Financial infrastructure

RankFinancial

Centre

% of

Total1 UK 41

2 US 19

3 Singapore 5.7

4 Japan 5.6

5Hong

Kong4.1

London, New York, Tokyo, Singapore, Hong kong,Bahamas

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Forex Markets : Top 10 Traders

Rank Name Market Share

1 Citi 16.04

2 Deutsche Bank 15.67

3 Barclays Investment Bank 10.91

4 UBS AG 10.88

5 HSBC 7.12

6 JP Morgan 5.55

7 Bank of AmericaMerril Lynch 4.388 Royal Bank of Scotland 3.25

9 BNP Paribas 3.10

10 Goldman Sachs 2.53

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Forex Markets : Top 10 Currencies

Rank Name

1 USD

2 Euro

3 Japanese Yen

4 Pound Sterling

5 Australian Dollar

6 Swiss franc

7 Canadian Dollar8 Mexican Peso

9 Chinese Yuan

10 Newzealand Dollar

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Rank Name

1 International Parity conditions

2 Balance of Payments Model

3 Asset Market model

Factors influencing Forex Markets

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Economic Factors1. Economic policy

2. Economic indicators

3. Govt. budget deficits

surpluses

4. BOP5. Inflation levels

6. Economic growth and

trends

7. Productivity

Market psychology

1. Flights to quality

2. Long term trends

3. Buy the rumour and sell the

facts

4. Economic numbers

5. Technical Trading

Political conditions

1. Internal2. Regional and

3. International

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Euro Dollar Markets

US dollar deposits placed in banks in Europe and other

continents are called Eurodollars

In 1960s and 70s the Eurodollar market, or what is now

referred to as the Euro currency market, grew to accommodate

increasing international business and to bypass stricter US

regulations on banks in the US

Currently this market is made up of several large banks called

Euro banks that accept deposits and provide loans in various

currencies Usually large volume transactions and at times on syndication

basis

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Euro Dollar History

Post World War II - increasing quantity of US $ outside US due to

Marshall Plan and larger imports into US

Many foreign countries including Soviet Union had deposited in US

$ banks in US

During Cold War especially after invasion of Hungary in 1956,

Soviet Union feared its deposits in North American banks be frozen

as a retaliation

So transferred holdings to Mosco Narodny Bank (Soviet owned

bank with British Charter) British bank deposited that in US

banks.

First Euro dollar created in 28-Feb-1957 by transfer of $800,000.

Major role played by Midland banknow HSBC and its holdings

Marshall Plan / European Recovery program was an US initiative to rebuild war ravaged Europe,

remove trade barriers, modernize industry and re-lift European prospects. Cost of initiative in1947 was $17 Billion equivalent to $160 Billion in 2014

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Asian Dollar Markets

The Eurocurrency market in Asia

Primary function of banksto channel funds from depositors to

borrowers

Other functions is interbank lending and borrowing

Euro Credit Markets / Loans

Loans of one year or longer period extended by euro banks to

MNCsor government agencies in Euro markets

Floating rates are commonly used in these markets

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Euro Bond Markets

Foreign Bonds / Parallel Bonds

Bonds denominated in the currency of the country where

they are placed but issued by foreign borrowers

Euro bonds

Bonds that are sold in countries other than the country

represented by the currency they are denominated

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Euro Bond Markets

Emerged due restrictive investment policies of USgovernment in Mid of 20thcentury

Interest equalisation Tax imposed in US in 1963

Tax discouraged US investors from investing inforeign securities so non-US borrowers looked

elsewhere for bonds

In 1984 US corporations were allowed to issue bearerbonds directly to non-US investors and withholding tax

on bond purchases was abolished

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Euro Bond Markets

Level Entity

1 Multi-national Syndicate of Investment Banks

2 National level Investment Banks

3 Underwriters

Features

Usually issued in bearer form

Carry annual coupons

May be convertible

May have variable rates -

Typically have few protectivecovenants

70% bonds denominated in USD

Underwriters deal primary &secondary markets

Structure

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Types of Forex Markets

Currency Futures Contracts

The contract to buy or sell a specific currency at a specific

price within a specified period of time. Unlike forwards,futures are traded in exchanges

Currency Options Contracts

The contract gives the right (not the obligation) to buy or sell a

specific currency at a specific price within a specified period oftime. They are traded in exchanges

Spot Markets

Forwards

Swaps