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than they need (because they save some of their income) transfer those funds to people, companies, or governments who have a shortage of funds (because they spend more than their income). Stock and bond markets are two major capital markets. Capital markets promote economic efficiency by channelling money from those who do not have an immediate productive use for it to those who do. Capital markets carry out the desirable economic function of directing capital to productive uses. The savers (governments, businesses, and people who save some portion of their income) invest their money in capital markets like stocks and bonds. The borrowers (governments, businesses, and people who spend more than their income) borrow the savers' investments that have been entrusted to the capital markets. For example, suppose A and B make Rs. 50,000 in one year, but they only spend Rs.40,000 that year. They can invest the 10,000 - their savings - in a mutual fund investing in stocks and bonds all over the world. They know that making such an investment is riskier than keeping the 10,000 at home or in a savings account. But they hope that over the long-term the investment will yield greater returns than cash holdings or interest on a savings account. The borrowers in this example are the companies that issued the stocks or bonds that are part of the mutual fund portfolio. Because the companies have spending needs that exceeds their income, they finance their spending needs by issuing securities in the capital markets.
The Structure of Capital Markets Primary markets: The primary market is where new securities (stocks and bonds are the most common) are issued. The corporation or government agency that needs funds (the borrower) issues securities to purchasers in the primary market. Big investment banks assist in this issuing process. The banks underwrite the securities. That is, they guarantee a minimum price for a business's securities and sell them to the public. Since the primary market is limited to issuing new securities only, it is of lesser importance than the secondary market. Secondary market: The vast majority of capital transactions, take place in the secondary market. The secondary market includes stock exchanges (like the New York Stock Exchange and the Tokyo Nikkei), bond markets, and futures and options markets, among others. All of these secondary markets deal in the trade of securities. Securities: The term "securities" encompasses a broad range of investment instruments. Investors have essentially two broad categories of securities available to them: 1. Equity securities (which represent ownership of a part of a company) 2. Debt securities (which represent a loan from the investor to a company or government entity). Equity securities: Stock is the type of equity security with which most people are familiar. When investors (savers) buy stock, they become owners of a "share" of a company's assets and earnings. If a company is successful, the price that investors are willing to pay for its stock will often rise and shareholders who bought stock at a lower price then stand to make a profit. If a company does not do well, however, its stock may decrease in value and shareholders can lose money. Stock prices are also subject to both general economic and industry-specific market factors. In our example, if Carlos and Anna put their money in stocks, they are buying equity in the company that issued the stock. Conversely, the company can issue stock to obtain extra funds. It must then share its cash flows with the stock purchasers, known as stockholders.
Debt securities: Savers who purchase debt instruments are creditors. Creditors, or debt holders, receive future income or assets in return for their investment. The most common example of a debt instrument is a bond. When investors buy bonds, they are lending the issuers of the bonds their money. In return, they will receive interest payments (usually at a fixed rate) for the life of the bond and receive the principal when the bond expires. National governments, local governments, water districts, global, national, and local companies, and many other types of institutions sell bonds. Internationalization of Capital Markets in the Late 1990s One of the most important developments since the 1970s has been the internationalization, and now globalization, of capital markets. Let's look at some of the basic elements of the international capital markets. 1. The International Capital Market of the Late 1990s was composed of a Number of Closely Integrated Markets with an International Dimension: Basically, the international capital market includes any transaction with an international dimension. It is not really a single market but a number of closely integrated markets that include some type of international component. The foreign exchange market was a very important part of the international capital market during the late 1990s. Internationally traded stocks and bonds have also been part of the international capital market. Since the late 1990s, sophisticated communications systems have allowed people all over the world to conduct business from wherever they are. The major world financial centres include Hong Kong, Singapore, Tokyo, London, New York, and Paris, among others. Foreign bonds are a typical example of an international security. A bond sold by a Korean company in Mexico denominated in Mexican pesos is a foreign bond. Eurobonds are another example. Of course, the foreign exchange market, where international currencies are traded, was a tremendously large and important part of the international capital market in the late 1990s.
2. The Need to Reduce Risk Through Portfolio Diversification Explains in Part the Importance of the International Capital Market During the Late 1990s: A major benefit of the internationalization of capital markets is the diversification of risk. Individual investors, major corporations, and individual countries all usually try to diversify the risks of their financial portfolios. The reason is that people are generally risk-averse. They would rather get returns on investments that are in a relatively narrow band than investments that have wild fluctuations year-to-year. All portfolio investors look at the risk of their portfolios versus their returns. Higher risk investments generally have the potential to yield higher returns, but there is much more variability.
Here is an example: Suppose Corporation XYZ in 1996 had the following portfolio:
1000 shares of Japanese utility company stock; 1000 shares of Mexican petroleum company stock; German government bonds valued at 8000 deutsche marks (today
1000 shares of a Moroccan mutual fund; Canadian municipal bonds valued at 8000 Canadian dollars.
Suppose Corporation ABC in 1996 had the following portfolio:
10,000 shares of Swedish steel company.
If the steel company in Sweden has a poor year for sales and profits, its stock value decreases. Corporation ABC, which has not diversified, will have a terrible return on its portfolio. The next year, the steel company may have a great year, so ABC will have a terrific portfolio return. Corporation XYZ, with a diversified portfolio, can overcome a single poor return and still have a good overall return on the portfolio. If utilities in Japan have a poor year, but Morocco is experiencing strong economic growth, the Moroccan gain can offset the Japanese stock loss. Then, the next year, perhaps the reverse would occur (Morocco experiences a slowdown while the Japanese
utility realizes higher profits than anticipated). The year-to-year return would fluctuate much less for Corporation XYZ than for ABC. 3. The Principal Actors in the International Capital Markets of the Late 1990s were Banks, Non-Bank Financial Institutions, Corporations, and Government Agencies: Commercial banks powered their way to a place of considerable influence in international markets during the late 1990s. Commercial banks undertook a broad array of financial activities during the late 1990s. They granted loans to corporations and governments, were active in the bond market, and held deposits with maturities of varying lengths. Special asset transactions, like underwriting were undertaken by commercial banks. Non-bank financial institutions became another fast-rising force in international markets during the late 1990s. Insurance companies, pension and trust funds, and mutual funds from many countries began to diversify into international markets in the 1990s. Together, portfolio enhancement and a widespread increase in fund contributors have accounted for the strength these funds had in the international marketplace. Government agencies, including central banks, were also major players in the international marketplace during the late 1990s. Central banks and other government agencies borrowed funds from abroad. Governments of developing countries borrowed from commercial banks, and state-run enterprises also obtained loans from foreign commercial banks. 4. Changes in the International Marketplace Resulted in a New Era of Global Capital Markets during the Late 1990s, which were Critical to Development. Many observers say we entered an era of global capital markets in the 1990s. The process was attributable to the existence of offshore markets, which came into existence decades prior because corporations and investors wanted to escape domestic regulation. The existence of offshore markets in turn forced countries to liberalize their domestic markets (for competitive reasons). This dynamic created greater internationalization of the capital markets. Three primary reasons account for this phenomenon. First, citizens around the world (and especially the Japanese) began to increase their personal savings. Second, many governments further deregulated their capital markets since 1980. This allowed domestic companies more opportunities abroad, and foreign companies had the opportunity to invest in the deregulated countries. Finally, technological advances made it easier to access global markets. Information could be retrieved quicker, easier, and cheaper than ever before.
2. and thus been a main driver of global inflationary pressure. rising wages in emerging markets and the weak US dollar which is driving up US import prices. especially from Asia. . manage their foreign exchange assets and liabilities to their advantage and develop export capabilities in the field of financial services. Recent situation Recent financial problems in emerging economies have led to calls for a new international financial architecture. must encourage productive investments to promote economic growth. Thus. In the Euro zone we are likely to see a cooling-off of the economy in 2008 and 2009. Active participation in this market would not only improve their access to the market but also indicate the institutional and policy framework essential for developing effective and efficient domestic financial markets. In emerging markets like India inflation is being driven above all by rising food prices.Developing countries. In Indian context: The international capital market as it has been evolving provides an opportunity for developing countries like India to attract the required capital inflow for accelerating their pace of development. 4. when industrialized countries endured double-digit rates of inflation. foreign savings. Production will not be able to keep pace with growing demand. In recent months oil has breached the 130 US dollar per barrel mark. Some of the problems are: 1. countering any efforts to improve energy efficiency and further develop alternative energy sources. 3." 5. The possibilities of such participation would be enhanced if the developing countries like India take a constructive stand with regard to the multilateral negotiations in respect of trade in services under the Uruguay Round. can benefit developing countries. Declining reserves in the oilproducing countries. like all countries. Higher energy and food prices. So the oil price is likely to remain high and continue rising in the long term. Emerging markets should be able to decouple further from the US economy and consolidate their growth at a high level. Inflation concerns are increasingly taking hold of the international capital markets. Still it is believed that there may not be a recession in the USA. and low levels of investment and political problems could tighten the supply situation still further. there are fears of a repetition of the 1970s. but a there may not be a quick recovery either. which many people simply call foreign investment.
It facilitates increase in production and productivity in the economy and thus. 2. 3. Thus it facilitates “the movement of stream of command over capital to the point of highest yield” towards those who can apply them productively and profitably to enhance the national income in the aggregate. improves financial-sector efficiency. the result is slower growth and reduced standards of living. Thus. They give quantitative and qualitative directions to the flow of funds and bring about rational allocation of scarce resources. The international flow of capital improves risk management. 5. It mobilizes the saving of the people for further investment and thus avoids their wastage in unproductive uses. allows consumption smoothing. The operations of different institutions in the capital market induce economic growth. Furthermore. Restricting international investment denies a country those benefits. 6. enhances the economic welfare of the society.In the above conditions. and leads to greater overall market discipline. 4. 7. A healthy capital market consisting of expert intermediaries promotes stability in values of securities representing capital funds. It provides incentives to saving and facilitates capital formation by offering suitable rates of interest as the price of capital. it serves as an important source for technological up gradation in the industrial sector by utilizing the funds invested by the public. capital flows have a stabilizing effect on financial markets. . they benefit entrepreneurs and savers alike. Importance of capital market: 1. a capital market serves as an important link between those who save and those who aspire to invest their savings. The capital market serves as an important source for the productive use of economy’s savings. particularly the household sector to invest in financial assets which are more productive than physical assets. Moreover. International capital flows should not be restricted. It provides an avenue for investors. with lower borrowing costs and greater returns.
. 2) Another harmful impact of these flows has been to increase the instability of volatility in the exchange rates. In fact the relevance of what has just been said is all the greater in its case. 6) The existence of a contrary belief notwithstanding the foreign capital is not nor free the costs and harmful effects discussed above. 7) The debt capital has its own problems expressions like debt trap debt crisis debt bomb are now commonly used to convey the dangerous situation in which the developing countries land themselves when they depend in the foreign debt capital. In fact it has been found that the increasing volume of international financial flows has been associated with a decline in the trade volume due to higher costs. The current surge in these flows has created a major worry for the regulatory authorities about the global money. interest rates and the whole economical system of the recipient countries. Foreign currency borrowings imply a series of uncertainties due to floating interest and vary margins. assets prices. This is an important reason for exercising utmost restraint while seeking to raise funds abroad.DRAWBACKS OF FOREIGN CAPITAL 1) Foreign capital usually does not produce an efficient because of the microeconomic distortions and macro economics instability it generates. 5) The non economical costs of the foreign capital are also unaffordable. 3) The global capital flows reduce the effectiveness of monetary policy they are associated with the loss of monetary control at home. 4) The cost of foreign is rather difficult to measure and it is subject to a great variability. It is well known but conveniently forgotten that the foreign capital creates a larger number of very serious problems of foreign ownership and control dumping of technology loss of autonomy of domestic policies dependence hegemony and neo-colonialism.
4. Improved perception of India’s economic reforms. Healthy economic indicator. 3. marketing the issues . Where as in global scenario. arrangement & conducting road shows. Municipal bond market 3. Depository receipts market 6. 5. Since 1993. Improved performance of Indian companies. 6. Since 1999 even IT majors have stepped the bandwagon of international markets & raised capital. Mortgage and asset-backed securities market 7. Inflation at single digit. the term capital market refers to only stock markets as per the common man's ideology. Foreign exchange market India’s presence in International Markets: India has made its presence felt in the IFMs only after 1991-92. number of Indian companies successfully tapped the global capital markets & raised capital through GDR or foreign currency bond issues. INTERMEDIARIES INVOLVED IN INTERNATIONAL CAPITAL MARKET: Lead & co-lead managers: The responsibilities of a lead manager include undertaking due diligence & preparing the offered document .CAPITAL MARKET IN INDIA: Coming to Indian context. Improved forex reserves. Government securities market 2. Corporate debt market 4. The average size of the issue was around 75USD. The change in situation has been due to the following factors: 1. Mandate is given by the issuer to the lead manager. which have accessed the GDR route for raising finance. Improved export performance. 7. . India has the distinction of having the largest number of GDR/ADR issues by any country. Stock market 5. Though there was a temporary setback due to Asian crisis in 1997. At present there are over 50 companies in India. And the total amount raised was around USD 6. but the capital markets have a much broader sense. Reliance was the first Indian company to issue GDR in 1992. 2. it consists of various markets such as: 1. Improved confidence of FIIs.5billion. Financial derivates market 8.
These paying agents will be banks. taking on the risk of interest rates /markets moving against them before they have placed bonds/DRs. depository agreements. It is responsible for issuing the actual GDRs . cash flows. Agents & Trustees: These intermediaries are involved in the issue of bonds/convertibles. The stock exchange reviews the issuers application for listing of bonds/GDRs & provides comments on offering circular prior to accepting the security for listing.etc.Underwriters: The lead manager & co managers act as underwriters to the issue . The various draft documents will vetted by the solicictors acting for the issuer. The underwriters undertake to subscribe to the unsubscribed portion of the issue . paying any dividends or other distributions & facilitating the exchange of GDRs into underlying shares when presented for redemption. Many of these documents are prepared in standard forms with a careful review to the satisfaction of the parties. Similarly. Depository Bank: It is involved only in the issue of GDRs. The legal advisors will advise the issuer pertaining to the local & foreign laws. The Auditors provide a comfort letter to the lead manager on the financial health of the company. They also prepare the financial statement as per GAAP requirements wherever necessary. and audit reports. Custodian: The Custodian holds the shares underlying the GDRs on behalf of the depository &is responsible for collecting rupee dividends on the underlying shares & repatriation of the same to the depository in US dollars/foreign currency. Lead Managers may also invite additional investment banks to act as sub-underwriters .disseminating information from the issuer to the DR holders. The issuer of bonds convertible in association with the lead manager must appoint ‘paying agents’ in different fifnacial centers. . Listing Agents & Stock Exchanges: The listing Agent helps facilitate the documentation & listing process for listing on stock exchange & keep file information regarding the issuer such as Annual reports. who will arrange for the payment of interest & principal due to investor under the terms of the issue. Lawyers & Auditors: The lead manager will appoint a prominenet firm of solicitors to draw up documentation evidencing the bond/DRs issue. Auditors are required for preparation of the financial statements. articles of association. thus forming a larger underwriting group.
Public sources Both sources are very important to the economies of the world. Capital flows result when funds are transferred across borders. Foreign direct investment b. Read on for definitions. Portfolio investment (both debt and equity flows) Each is defined below. a. FDI or Foreign Direct Investment is any form of investment that earns interest in enterprises which function outside of the domestic territory of the investor. Direct investment is not nearly as liquid as portfolio investment and is therefore less volatile. Private sources 2. and trends in capital flows. FDIs require a business relationship between a parent company and its foreign subsidiary. The Japanese company has a long-term investment in the assets of the joint venture and not merely a passive investment like portfolio investors. The normal requirement to qualify as foreign direct investment is for the foreign firm to own at least ten percent of voting stock. 1. For an investment to be regarded as an FDI. the parent firm needs to have at least 10% of the ordinary shares of its foreign affiliates. Private Sources of Capital. The investing firm may also qualify for an FDI if it owns voting power in a business enterprise operating in a foreign country. the flows are recorded in the balance of payments account. examples. Foreign Direct Investment (FDI): Foreign direct investment is capital invested by corporations in countries other than their places of domicile (their home countries). . An example of foreign direct investment is a Japanese company that starts a joint venture (50-50) in Mexico with a Mexican company. who can remove their money from a country almost instantaneously.Sources of Capital There are two sources of capital: 1. Foreign direct business relationships give rise to multinational corporations. Important sources of private capital are a.
FDIs that are undertaken to strengthen the existing market structure or explore the opportunities of new markets can be called “market-seeking FDIs. Outward FDIs 2. An outward-bound FDI is backed by the government against all types of associated risks. This form of FDI is subject to tax incentives as well as disincentives of various forms. and the various prerequisites required for these investments. Vertical Foreign Direct Investment takes place when a multinational corporation owns some shares of a foreign enterprise. Inward FDIs. tax breaks.Types of Foreign Direct Investment: An Overview FDIs can be broadly classified into two types: 1. Foreign Direct Investment is guided by different motives. the foreign direct investment is termed as “efficiency-seeking. These include interest loans. FDI activities may also be carried out to ensure optimization of available opportunities and economies of scale. Other categorizations of FDI exist as well. Horizontal foreign direct investments happen when a multinational company carries out a similar business operation in different nations. which supplies input for it or uses the output produced by the MNC. In this case. Factors detrimental to the growth of FDIs include necessities of differential performance and limitations related with ownership patterns. This classification is based on the types of restrictions imposed. subsidies. and the removal of restrictions and limitations. Risk coverage provided to the domestic industries and subsidies granted to the local firms stand in the way of outward FDIs.” “Resource-seeking FDIs” are aimed at factors of production which have more operational efficiency than those available in the home country of the investor.” Different economic factors encourage inward FDIs. Some foreign direct investments involve the transfer of strategic assets. which are also known as “direct investments abroad. grants.” .
The other forms of cash inflows in a country like debt flows and portfolio equity had suffered major setbacks. The countries that get foreign direct investment from another country can also develop the human capital resources by getting their employees to receive training on the operations of a particular business. It also assists in the promotion of the competition within the local input market of a country. This is done basically in the way of provision of capital inputs. It becomes easier for the business entities to borrow finance at lesser rates of interest. It has been possible for the recipient countries to keep their rates of interest at a lower level. It also helps in increasing the salaries of the workers. It also plays a crucial role in the context of rise in the productivity of the host countries. Foreign direct investment also permits the transfer of technologies. It also opens up the export window that allows these countries the opportunity to cash in on their superior technological resources. This is especially applicable for the economically developing countries. During the decade of the 90s foreign direct investment was one of the major external sources of financing for most of the countries that were growing from an economic perspective.Benefits of FDIs: One of the advantages of foreign direct investment is that it helps in the economic development of the particular country where the investment is being made. Foreign direct investment helps in the creation of new jobs in a particular country. It was observed during the financial problems of 1997-98 that the amount of foreign direct investment made in these countries was pretty steady. . The biggest beneficiaries of these facilities are the small and medium-sized business enterprises. This enables them to get access to a better lifestyle and more facilities in life. Foreign direct investment assists in increasing the income that is generated through revenues realized through taxation.
Disadvantages of Foreign Direct Investment The disadvantages of foreign direct investment occur mostly in case of matters related to operation. It is normally the responsibility of the host country to limit the extent of impact that may be made by the foreign direct investment. The differences of language and culture could also pose problems in case of foreign direct investment. distribution of the profits made on the investment and the personnel. They should be making sure that the entities that are making the foreign direct investment in their country adhere to the environmental. At times it has been observed that certain foreign policies are adopted that are not appreciated by the workers of the recipient country. It has less control over the functioning of the company that is functioning as the wholly owned subsidiary of an overseas company. The situations in countries like Ireland. This leads to serious issues. . Yet another major disadvantage of foreign direct investment is that there is a chance that a company may lose out on its ownership to an overseas company. At times there have been adverse effects of foreign direct investment on the balance of payments of a country. governance and social regulations that have been laid down in the country. At times it has been observed that the governments of the host country are facing problems with foreign direct investment. Chile and China corroborate such an opinion. Foreign direct investment may entail high travel and communications expenses. The various disadvantages of foreign direct investment are understood where the host country has some sort of national secret – something that is not meant to be disclosed to the rest of the world like defense. The investor does not have to be completely obedient to the economic policies of the country where they have invested the money. Singapore.
pension funds and mutual funds. insurance companies. FEMA norms includes maintenance of highly rated bonds (collateral) with security exchange. Following entities / funds are eligible to get registered as FII: 1. Charitable Trusts / Charitable Societies . Foreign Institutional Investors (FII) : FII means an entity established or incorporated outside India which proposes to make investment in India. statutory agencies like SEBI have prescribed norms to register FIIs and also to regulate such investments flowing in through FIIs. Endowments 8. An investor or investment fund that is from or registered in a country outside of the one in which it is currently investing. Investment Trusts 5. Insurance Companies 4. Pension Funds 2. Mutual Funds 3. In countries like India. Foundations 9. University Funds 7. Banks 6. Institutional investors include hedge funds.
Applicant’s track record. whether the applicant is registered with and regulated by an appropriate Foreign Regulatory Authority in the same capacity in which the application is filed with SEBI c. A Japanese investor who purchases stock in the Brazilian stock market is creating an equity capital flow into Brazil. professional competence. Portfolio investment: debt flows and equity flows. when foreign investors purchase equity securities domestically. Whether the applicant is a fit & proper person. experience. ADRs and GDRs also fit into this category. financial soundness. are also eligible to be registered as FIIs: 1. similarly. A German investor buying bonds in Canada is an example. (The applicant should have been in existence for at least one year) b. Portfolio equity flows occur. Commercial bank lending (loans from private financial institutions) is also portfolio debt.Further. Asset Management Companies 2. general reputation of fairness and integrity. following entities proposing to invest on behalf of broad based funds. Portfolio debt flows result from foreign investors buying domestic debt securities. Trustees 4. . b. Institutional Portfolio Managers 3. Power of Attorney Holders Parameters on which SEBI decides FII applicants’ eligibility a.
There is no intention to control the entity. FII’s sole criteria and motive is gains on investments. efficiency and skills. cheaper resources (labor). consolidation. FDI generally comes as subsidiary or a joint venture. FII comes mainly through stock markets. FDI investment comes from MNC’s and corporate so as to derive benefit of new market. Source Duration Form Purpose . Calculation of gains is always prime criteria but never the sole criteria. FII Motive behind FII is to make (capital) gains from investments. FDI is made with core thought of business philosophy of diversification. FII investment come from investors.FDI V/S FII” Motive FDI Motive behind FDI is to acquire controlling interest in a foreign entity or set up an entity with controlling interest. mutual funds. and expansion and/or core business formation. integration. portfolio management companies and corporate with pure motive of investment gains. strategic asset seeking (oil fields) and time geography (BPO – Transcriptions) FDI investment is more enduring and has longer time stability. FII is highly volatile.
Export credit agency loans are also included here. Concessional bilateral aid refers to aid from governments. "Bilateral" refers to the fact that the entities providing the funding provide aid only in their home country. concessional multilateral aid contains a partial grant. b. Official development assistance (ODA). Similarly.2. or partially forgives the loan. Public Sources of Capital. Public sources of capital include a. or forgiveness of the loan. and are not partly grants. official non-concessional bilateral aid is loans from governments and their central banks or other agencies. and export credit agencies that contains a partial grant element (25% or more). a. Official non-concessional loans of both multilateral and bilateral aid b. . Multilateral aid comes from the World Bank. must be repaid. regional development banks. By contrast. ODA refers in part to official public grants that are legally binding commitments and provide a specific amount of capital available to disburse (give out) for which no repayment is required. and other intergovernmental agencies such as multilateral organizations. Each is discussed in turn below. The term "non-concessional" refers to the fact that these loans are based on market rates. central banks. Official non-concessional multilateral aid consists of loans from the World Bank. ODA: official grants and concessional loans. regional development banks and intergovernmental agencies. Official non-concessional loans: multilateral & bilateral aid.
Instruments in capital markets Instruments in International Capital Markets: International Bond Market International Equity Markets FOREIGN BOND GDRs EURO BOND ADRs FCCB ECB .
International Equity Markets: Funds can be raised in the primary market from the domestic market as well as from international markets. Issue of equity in the form of GDR/ADR is possible only for the few top notch corporates of the country. Depository Receipts (GDRs and ADRs) “Global Depositary Receipts mean any instrument in the form of a depositary receipt or certificate (by whatever name it is called) created by the Overseas Depositary Bank outside India and issued to non-resident investors against the issue of ordinary shares or Foreign Currency Convertible Bonds of issuing company. Every publicly traded company issues shares – and these shares are listed and traded on various stock exchanges. . one of the major policy changes was allowing Indian companies to raise resources by way of equity issues in the international markets. GDR stands for Global Depository Receipt. Thus. Mumbai). Hence allowing companies to tap the equity and bond market In Europe seemed a more sensible option. This permission encourages Indian companies to become global.But to list on a foreign stock exchange. Foreign Currency Convertible Bonds (FCCBs) 4. the company has to comply with the policies of those stock exchanges. etc. In the early 1990s foreign exchange reserves had depleted and the country’s rating had been downgraded. only debt was allowed to be raised from international markets. Among the Indian companies. Earlier. Similarly. India companies have raised resources from international capital markets through 1. Global depository receipts (GDRs) / 2. NSE (National Stock Exchange). This resulted in a foreign exchange crunch and the government was unable to meet the import requirement of Indian companies. American Depository Receipts (ADRs) 3. External Commercial Borrowings (ECBs). Reliance Industries Limited was the first company to raise funds through a GDR issue.” A GDR issued in America is an American Depositary Receipt (ADR). After the reforms were initiated in 1991. Introduction: ADR stands for American Depository Receipt. These shares are sometimes also listed and traded on foreign stock exchanges like NYSE (New York Stock Exchange) or NASDAQ (National Association of Securities Dealers Automated Quotation). companies in India issue shares which are traded on Indian stock exchanges like BSE (The Stock Exchange.
2. They behave exactly like regular stocks – their prices fluctuate depending on their demand and supply. it stores the shares on behalf of the receipt holders. the policies of these exchanges in US or Europe are much more stringent than the policies of the exchanges in India. But many good companies get listed on these stock exchanges indirectly – using ADRs and GDRs. These receipts. These receipts are then sold to the people of this foreign country (and anyone who are allowed to buy shares in that country). which are traded like ordinary stocks. The bank issues receipts against these shares. The issuing bank acts as a depository for these shares – that is. This deters these companies from listing on foreign stock exchanges directly. 3. and depending on the fundamentals of the underlying company. are called Depository Receipts.Many times. Each receipt amounts to a claim on the predefined number of shares of that company. Process of issue of ADR/GDR: 1. . These receipts are listed on the stock exchanges. 4. each receipt having a fixed number of shares as an underlying (Usually 2 or 4). The company deposits a large number of its shares with a bank located in the country where it wants to list indirectly.
1. Individual shares of a foreign corporation represented by an ADR are called American Depositary Shares (ADS). one share or a bundle of shares of a foreign corporation. If the ADR . Depository banks have numerous responsibilities to the holders of ADRs and to the non-U. equity markets (the NYSE. usually by a branch or correspondent in the country of issue. An American Depositary Receipt (ADR) is how the stock of most foreign companies trades in United States stock markets. Pricing of ADR: The prices of ADRs in the secondary market are.S. then more shares of the company will be bought and held in the custodian bank. determined by supply and demand. AMEX or Nasdaq). One ADR may represent a portion of a foreign share.S.S. bank. Through this system. Security representing the ownership interest in a foreign company's common stock.American Depositary Receipt Definitions: It is a receipt for shares bought in the US of a foreign-based corporation in an overseas market. but U. company the ADRs represent.S. Each ADR is issued by a U. The foreign shares are usually held in custody overseas.S. but the certificates trade in the U. representing foreign shares held by the bank. ADRs allow foreign shares to be traded in the United States Certificates issued by a US depository bank. adjusted for the ratio of ADRs to foreign company shares. Meaning: American Depository Receipts (ADRs) are certificates that represent shares of a foreign stock owned and issued by a U. The receipt is held by a US bank. If the ADR is trading at a higher price than the equivalent foreign shares of the company. depositary bank and represents one or more shares of a foreign stock or a fraction of a share. investors usually find it more convenient to own the ADR.S. If investors own an ADR they have the right to obtain the foreign stock it represents. The largest depositary bank is The Bank of New York. and more ADRs will be created. The price of an ADR is often close to the price of the foreign stock in its home market. a large number of foreign-based companies are actively traded on one of the three major U. ADR . of course. but shareholders are entitled to any dividends and capital gains. but the price will not deviate too much from the price of the underlying stock.
then the amount of dividend in U. and market conditions. By contrast. If the dollar falls. . broker/dealer then deposits those shares in a bank in that market. foreign companies that wish to make their shares available to U. The U. and the market price of the ADR will drop. How It Works/Example: Investors can purchase ADRs from broker/dealers.S. it is referred to as an unsponsored ADR program (meaning the foreign company itself has no active role in the creation of the ADRs). Dividend payments: When dividends are paid.S.S. This maintains parity between the price of the ADR and the foreign shares. A broker/dealer's decision to create new ADRs is largely based on its opinion of the availability of the shares.S. exchanges it for U. handles most of the interaction with the U.S. currency. a U. which then sends it to the investors.S. which can then apply them to the client's account.S. There is also political risk because the ADR still derives its value from the foreign stock. which could be adversely affected by unfavorable changes in politics or the law of the country.S. but when they do. for instance. such as financial statements. stock splits. These broker/dealers in turn can obtain ADRs for their clients in one of two ways: they can purchase alreadyissued ADRs on a U. then sends it to the depositary bank. such as rights offerings. Risks involved: Although ADR transactions are in U. after accounting for the currency exchange rate. or they can create new ADRs. and the corresponding shares of the company will be released by the custodian bank. dollars.S. being a U. the custodian bank receives it and withholds any foreign taxes. and stock dividends. exchange. Most ADR programs are sponsored.trades below the equivalent price. The bank then issues ADRs representing those shares to the broker/dealer's custodian or the broker-dealer itself. bank. investors. but sponsored ADR investors may receive communications. dollars will be reduced. there still is a currency exchange risk. investors can initiate what are called sponsored ADR programs. directly from the company. the pricing and market for the ADRs. then some ADRs will be canceled. The depositary bank. Broker/dealers don't always start the ADR creation process.-based broker/dealer purchases shares of the issuer in question in the issuer's home market. To create an ADR.
They must partially adhere to Generally Accepted Accounting Principles (GAAP) used in the USA. XYZ Company's dividend payment would therefore equal $3 from the perspective of a U.as foreign firms often choose to actively create ADRs in an effort to gain access to American markets. ADRs are issued and pay dividends in U. the value of the dividend changes.to ADR shareholders.S. If the euro were to strengthen to $1. . making them a good way for domestic investors to own shares of a foreign company without the complications of currency conversion. a French company. then the dividend payment for ADR investors would effectively fall to $2.50.50. pay an annual cash dividend of 3 euros per share.S. When the exchange rate changes. However. if the euro were to suddenly decline in value to an exchange rate of one euro per $0. investor. Levels of ADRs There are three levels of ADRs depending on their adherence to Generally Accepted Accounting Principles For a Level I ADR program the receipts issued in the US are registered with the SEC. dollars. but the underlying shares are held in the depositary bank are not registered with the SEC. The reverse is also true. then XYZ Company's annual dividend payment would be worth $4. this does not mean ADRs are without currency risk. Let's also assume that the exchange rate between the two currencies is even -. For example. Level III ADRs must adhere fully to the GAAP and the underlying shares held at the Depositary Bank are typically new shares not those already trading in the foreign company’s domestic currency.meaning one Euro has an equivalent value to one dollar.75.net of conversion costs and foreign taxes -.25. Rather. the company pays dividends in its native currency and the issuing bank distributes those dividends in dollars -. Level II ADRs are those in which both the ADRs and the underlying shares (that already trade in the foreign company’s domestic market) are registered with the SEC. let's assume the ADRs of XYZ Company. They must also partially adhere to the Generally Accepted Accounting Principles. However.
(2) The Foreign Currency Convertible Bonds and Global Depository Receipts may be denominated in any freely convertible foreign currency. Prices of GDRs are often close to values of related shares. which purchases shares of foreign companies and deposits it on the account. possessed and freely transferable Issue structure of the Global Depositary Receipts (1) A Global Depository Receipt may be issued for one or more underlying shares or bonds held with the Domestic Custodian Bank. Normally 1 GDR = 10 Shares Several international banks issue GDRs. but they are traded and settled independently of the underlying share. such as JP Morgan Chase. They trade on the International Order Book (IOB) of the London Stock Exchange. Bank of New York. Citigroup. (3) The ordinary shares underlying the Global Depository Receipts and the . Listing of the Global Depositary Receipts The Global Depository Receipts issued may be listed on any of the Overseas Stock Exchanges. which purchases shares of foreign company Global Depository Receipts (GDRs) may be defined as a global finance vehicle that allows an issuer to raise capital simultaneously in two or markets through a global offering. GDRs may be used in public or private markets inside or outside US. and are commonly used to invest in companies from developing or emerging markets . GDR. GDRs represent ownership of an underlying number of shares. Deutsche Bank.2. Global Depository Receipts facilitate trade of shares. Meaning: A Global Depository Receipt or GDR is a certificate issued by a depository bank. GDRs Global Depository Receipts Definitions: A Global Depository Receipt or Global Depositary Receipt (GDR) is a certificate issued by a depository bank. The underlying shares correspond to the GDRs in a fixed ratio say 1 GDR=10 shares. or Over the Counter Exchanges or through Book Entry Transfer Systems prevalent abroad and such receipts may be purchased.especially RUSSIA. a negotiable certificate usually represents company’s traded equity/debt.
The end of 1993 saw a flood of Indian paper hit the Euro markets with Bombay Dyeing.pulled down the GDR market again. with the first GDR issue by Reliance Industries Limited. Procedure for an Initial Issue of GDR GDRs are marketed through a syndication process which is the responsibility of lead managers. (c) The issue price. This boom continued till mid-1995. coupon. which collected US b$150 million. till the end of 1996. the only notable exception was the US $370 million offering by the State Bank of India. SPIC and Sterlite Industries raising funds. after which a combination of factors – political instability. (5) There would be no lock-in-period for the Global Depository Receipts issued under this scheme History of GDRs in India India entered the international arena in May 1992. The lead manager also prepares in-depth research and offer documents for circulation to prospective institutional investors. namely:(a) Public or private placement. and the pricing of the conversion options of the Foreign Currency Convertible Bonds. The lead manager is involved in the issue structuring. during which time. Then. which raised US $72 million. The steps in Euro issue management in chronological order are as follows: . the GDR markets witnessed a lull till 1993-end in the wake of the securities scam and the consequent fall in the domestic markets. This was followed by Grasim Industries’ offer of US $90 million in November. foreign legal advisors and compliance with the listing requirements of the stock exchanges.shares issued upon conversion of the Foreign Currency Convertible Bonds will be denominated only in Indian currency. during which time the only Indian offering came from HINDALCO in July 1993. (d) The rate of interest payable on Foreign Currency Convertible Bonds. pricing and obtaining market feedback on the issue timing. (b) Number of Global Depository Receipts to be issued. falling markets. reduced profitability due to a liquidity crunch . and (e) The conversion price. Mahindra and Mahindra. He/she also assists in the selection of the foreign depository. (4) The following issue will be decided by the issuing company with the Lead Manager to the issue.
underwriters. price as a result of global demand/ trading through a broadened and a more diversified investor exposure. there are over 1600 Depository Receipt programmes for companies from over 60 countries. co-managers. obtain approvals. services or financial instruments in a marketplace outside its home country. enhancement of image of the company’s products. . Agreement documentation finalized after final discussions between concerned parties. Preparation of offer circular completed.Pre-issue: Discuss strategy. Week 10 Launch and syndication by the lead managers and. legal advisors and auditors and the issuers executives. obtain legal advice. Enhancement of company visibility by. Expanded shareholder base which may increase or stabilize the share price May increase local share. Lead managers and is seller decide to-send different teams to focus on geographical locations. Prepare tentative plan and size of the issue. The primary reasons why a company would establish a depository receipt programme can be divided into. Adjust share price to trading market comparables through Ratio Enhance shareholder communications and enable employees to invest easily in the parent company. Companies have round that the establishment of a depository receipt programme offers numerous advantages. investor meets abroad. Week 8: Lead manager completes and sends preliminary offer documents to comanagers and other . Foreign listing and trading approvals received. Week 0-4: Nominate lead manager. Depository/bankers/auditors to the issue provide information to the lead manager for drafting of offer documents and agreements. Benefits and Uses of a GDR Benefits to an Issuing Company Currently. the following considerations: Access to capital markets outside the home market to provide a mechanism for raising capital or as a vehicle for an acquisition. Discuss plan and other roles with lead manager/ co-manager. Week 5-7: Meetings between lead managers. Increase potential liquidity by enlarging the market for the company’s shares. Week 9: Road shows.
they are also increasingly being used by governments to facilitate the process of privatization. But the ADRs and GDRs are an excellent means of investment for NRIs and foreign nationals wanting to invest in India. they can invest directly in Indian companies without going through the hassle of understanding the rules and working of the Indian financial market – since ADRs and GDRs are traded like any other stock. it is called an American Depository Receipt. In addition to the benefits GDRs have to offer to the issuing company and the investor.Trade. By buying these. the GDRs are usually listed on a European stock exchange. While ADRs are listed on the US stock exchanges. NRIs and foreigners can buy these using their regular equity trading accounts! . investors also benefit from accessibility of price and trading information and research. or an ADR. How can you use an ADR / GDR? ADRs and GDRs are not for investors in India – they can invest directly in the shares of various Indian companies. it is called a Global Depository Receipt.Benefits to an Investor They facilitate diversification into foreign securities. clear and settle in accordance with requirements of the market in which they trade. What is the difference between ADR and GDR? Both ADR and GDR are depository receipts. Permit prompt dividend payments and corporate action notifications. or a GDR. The only difference is the location where they are traded. If GDRs are exchange listed.If the depository receipt is traded in the United States of America (USA). Can be easily compared to securities of similar companies. and represent a claim on the underlying shares. They have also been used to raise capital in the process of acquisition of other companies by the issuer. Eliminate custody charges. If the depository receipt is traded in a country other than USA.
Below is a partial list.Which Indian companies have ADRs and / or GDRs? Some of the best Indian companies have issued ADRs and / or GDRs. Reddys HDFC Bank Hindalco ICICI Bank Infosys Technologies ITC L&T MTNL Patni Computers Ranbaxy Laboratories Tata Motors State Bank of India VSNL WIPRO ADR No Yes Yes No Yes Yes No No Yes Yes No Yes No Yes Yes GDR Yes Yes Yes Yes Yes Yes Yes Yes Yes No Yes No Yes Yes Yes . Company Bajaj Auto Dr.
5 dated August 1. (DIR Series) Circular No. Further they must be meeting the requirements of the ECB guidelines. External Commercial Borrowings (ECBs): Indian corporate companies are allowed to raise foreign loans for financing infrastructure projects. 1993 (hereinafter ‘the Scheme’). FCCB (Foreign Currency Convertible Bonds): FCCBs are quasi-debt instruments issued by a company to the investors of some other country denominated in a currency different from that of domestic country. 4. The comprehensive guidelines issued on External Commercial Borrowings (ECB) vide A. They carry an option for the investor to convert them into ordinary equity shares of the company at a later stage in accordance with the terms of the issue. Government of India. In India FCCB are issued in accordance with guidelines and regulations framed under FEMA Act by the RBI and schemes notified by the Ministry of Finance. . In other words the FCCB are required to be issued in accordance with the Scheme. 2005 (hereinafter ‘ECB Guidelines’) are also applicable to FCCB issue.3. An FCCB issue by a company is governed by FEM (Transfer or Issue of any Foreign Security) Regulations.P. The last are used as a residual source after exhausting external equity as a main source of finance for large value projects. Principal and interest both are payable in the foreign currency. 2004 (hereinafter ‘Regulations’) and Issue of Foreign Currency Convertible Bonds and Ordinary Shares (through Depository Receipt Mechanism) Scheme. They will also have to adhere to the Regulations.
However. And. the size of the international bond market is an estimated $45 trillion. Average daily trading volume in the U. usually in the form of bonds. As of 2006.is a lender. bond market takes place between broker-dealers and large institutions in a decentralized.S. The Bond Market The bond market (also known as the debt. They are debt because when an investor buys a bond they are effectively loaning the bond’s issuer a sum of money and that issuer is incurring a debt. So the issuer – or seller of the bond .is a borrower and the investor . are listed on exchanges. like most other loans. primarily corporate. of which the size of the outstanding U.2 trillion. or fixed income market) is a financial market where participants buy and sell debt securities.S. . credit. when you buy a bond the borrower pays you interest for as long as the loan is outstanding and then – at the end of the agreed period of the loan – pays you the loan back. over-thecounter (OTC) market. The price paid for the bond is the money the investor is loaning the issuer.or buyer of the bond . bond market debt was $25. a small number of bonds.International Bond Markets: What is a bond? Bonds are debt.
but the issuer is a non-resident. Dollar denominated bonds issued in US domestic markets by non US companies are known as Yankee bonds Yen denominated bonds issued in Japanese domestic markets by non Japanese companies are known as Samurai bonds Pound denominated bonds issued in UK domestic markets by non UK companies are known as Bulldog bonds 2. The bonds can be broadly classified as: 1. foreign bonds are denominated in the currency of that country. Foreign bonds: These bonds are issued within a particular country and denominated in the currency of that country. future and commodity markets. This has occurred. The NYSE migrated from the Automated Bond System (ABS) to the NYSE Bonds trading system in April 2007 and expects the number of traded issues to increase from 1000 to 6000.Market structure: Bond markets in most countries remain decentralized and lack common exchanges like stock. the New York Stock Exchange (NYSE) is the largest centralized bond market. because no two bond issues are exactly alike. Russians were earning dollars from the sell of gold and other commodities and wanted to use them to buy grains and other products from the . However. in part. For instance US dollars denominated bonds issued in Europe. and underwritten by a syndicate of members from that country. and the number of different securities outstanding is far larger. called as “Eurodollar Bonds. Foreign bonds are bonds which are sold in a particular country by a foreign borrower. Evolution of euro currency During 1950s. representing mostly corporate bonds. Eurobonds: These are bonds issued outside the country of the currency in which such bonds are denominated.” What is the difference between Eurobonds and foreign bonds? Eurobonds are bonds which are underwritten by a multinational syndicate of banks and sold simultaneously in many countries other than the country of the issuing entity.
banks accept deposits from depositors. The Eurocurrency markets enables investors to hold short-term claims on commercial banks. Eurocurrency transactions may be classified as corporate to bank on one hand and bank to another bank on the other hand. the markets have expanded geographically and also in volume. Later on till 1980s. mainly from the US. Citibank would place this as a deposit to Barclays bank. For example. These deposits were in Europe. . ‘EuroDollar’ deposits. Thus US dollars on deposit in London become Eurodollars.increased in importance. which then act as intermediaries to these deposits into long term claims on final borrowers. However. as they were apprehensive that the US government might freeze the deposits if the cold war intensified. Euro currency market is the market for such deposits. It strictly and really means ‘offshore’ and not necessarily always referred to Europe. EUROCURRENCY MARKETS: A Eurocurrency is a dollar or other freely convertible currency deposited in a bank outside the country of its origin. Since 1990. but the prefix ‘Euro’ has still remained. Global bonds are bonds sold inside as well as outside the country in whose currency they are denominated. dollar-denominated bonds sold in New York and Tokyo are called dollar global bonds.west. The dominant euro currency is US dollars with dollar weakness other currency particularly the Deutcshe mark and Swiss Frank. Euronotes are notes issued outside the country in whose currency they are denominated. In Eurodollar markets. They approached the banks in Britain and France who accepted these dollar deposits. they didn’t want to keep these dollars on deposits with the banks in New York. For instance. Barclays to Chase bank. so ‘euro’ and were dollar deposits so. The Eurocurrency market consists of those banks – called Euro banks. a corporate house. Citibank may accept deposit from a company Alcoa. such deposits were by and large in Europe only. Euronotes consist of Euro-commercial paper (ECPs) and EuroMedium-term notes (EMTNs). Eurodollar or Eurocurrency refers to bank time deposits in a currency other than that of the country in which the bank or bank branch is located. mainly corporate depositors. EMTNS are medium-term funds guaranteed by financial institutions with the short-term commitment by investors. They also place these Eurodollars to other banks. Chase may ultimately lend it to Unilever group.that accept deposits and make loans in foreign currencies. Commercial papers are unsecured short-term promissory notes issued by finance companies and some industrial companies.
the exporter draws a draft (or bill) on the importer’s bank and gets paid the discounted value of the draft. Euro CDs are issued by London banks. EURO CERTIFICATE OF DEPOSIT (ECD) A certificate of deposit is an evidence of a deposit with a bank. usually there is a single period maturity when principal and interest are paid. These instruments may be issued in sum like $1. a CP or ECP is a discount redeemed at face value on maturity. CD is a negotiable or marketable instrument. Investor in ECP may be money market funds. They permit importers and other users to obtain credit on better terms than simple borrowing. At the same time. 00. On completing the transaction. pension funds and other corporate bodies having short-term cash surpluses. As mentioned above.4 with a maturity of 180 days will have a face value of $1. unlike a time deposit with financial institution. . 2.Banker’s acceptance BA This instrument is used to finance domestic as well as international trade. The interest on floating rate CDs is indexed to LIBOR and Treasury Bill rate.Short term debt instrument 1. a CD can be sold in the secondary market whenever cash is needed. 4. REPURCHASE OBLIGATION ( REPO) This is a form of short-term borrowing in which the borrower sells securities to the lender with an agreement to buy them back at a later date. the exporter hands over the shipping documents and letter of credit LC issued by the importer’s bank to its own bank. it is a cheap and flexible source of funds. For borrowers. insurances companies. if the discount rate is 10 % pa. Repos may be overnight repos or of longer maturity. it represents an attractive short-term investment opportunity. A banker’s acceptance (BA) is created when the exporter’s bank presents the draft to the importers bank which accepts it. Who ever is holding it at the time of maturity receives its face value in addition to the interest due. 3.000 or more. Euro commercial paper Euro commercial paper is a short term Euro note issued by corporates on a discount–to-yield basis. The amount of interest depends on demand–supply conditions. etc. Bas are highly standardized negotiable instruments and are available in varying amounts. For example. This BA may be sold (or discounted) as a money market instrument or the exporter may keep it as an asset with himself. For investor s. an ECP issued at $952. That is why it is called REPO. For fixed rate CDs. cheaper than bank loans.000. But the original seller has to pay interest while repurchasing the securities. Unlike a bank term deposit. The repurchase price and selling price are the same.
information about the promoters. . use of proceeds. Generally the terms are grouped into financial & non-financial information. 6. Depository Agreement: This is the agreement between the issuing company & the overseas depository providing a set of rules for withdrawal of depositors & for their conversion into shares. Prospectus: The prospectus is a major document containing all the relevant information concerning the issues viz investment consideration. 4. etc. Voting rights are also defined. this agreement enables the paying & conversion agency ( performing banking function) undertaking to service the bonds till conversion. The depository & the custodian determine the process of conversion of underlying shares into DRs & vice versa. directors. issue particulars & others viz statement of accounting showing the significant differences between Indian accounting & US/UK GAAP. 3. directors. Custodian Agreement: It is an agreement between the depository & the custodian. The issue particulars talks about the issue size. The non financial part includes the background of the company. Trust Deed & Paying & Conversion Agreement: While the trust deed is a standard document which provides for duties & responsibilities of trustees.. share information etc. the domestic ruling price. capitalization details. 5. the number of shares for each GDR etc. terms & conditions. industry review. activity.DOCUMENTATION: The following are the documents generally needed for an euro issue: 1. Underwriting agreement: The underwriters play the role of ‘assurers’ as they undertake to pick up the GDRs at a predetermined price depending on the market response. 2. promoters. Subscription Agreement: The Lead manager & the syndicated members form a part of the investors who subscribe to GDRs or bonds as per this agreement...
and host government. suppliers. (3) provide another market to support a new issuance in the foreign market.7. and Individuals . The listing agents have the responsibility of fulfilling the listing requirement of a chosen stock exchange. and (6) compensate local management and employees in the foreign affiliates. What are some reasons for a company to cross list its shares? A company hopes to: (1) allow foreign investors to buy their shares in their home market. Listing Agreement: Most of the companies prefer Luxemburg stock exchange for listing purposes. (5) increase its visibility to its customers. Governments. Participants include: • • • • Institutional investors. Types of bond markets: The Securities Industry and Financial Markets Association classifies the broader bond market into five specific bond markets. and Collateralized debt obligation Funding Bond market participants Bond market participants are similar to participants in most financial markets and are essentially either buyers (debt issuer) of funds or sellers (institution) of funds and often both. creditors. Asset Backed. Traders. (4) establish a presence in that country in the instance that it wishes to conduct business in that country. as the modalities are simplest. • • • • • Corporate Government & Agency Municipal Mortgage Backed. (2) increase the share price by taking advantage of the home country’s rules and regulations.
Because of the specificity of individual bond issues. buy an entire issue of bonds from an issuer and re-sell them to investors. When interest rates increase. the value of existing bonds falls. Likewise when interest rates decrease. since new issues pay a higher yield. approximately 10% of the market is currently held by private individuals. In underwriting. The most common American benchmarks are the Lehman Aggregate. most importantly changes in interest rates. one or more securities firms or banks. banks and mutual funds. Citigroup BIG and Merrill Lynch Domestic Master. similar to the S&P 500 or Russell Indexes for stocks. the majority of outstanding bonds are held by institutions like pension funds. collect the coupon and hold it to maturity. companies and supranational institutions in the primary markets. The most common process of issuing bonds is through underwriting. This is the fundamental concept of bond market volatility: changes in bond prices are inverse to changes in interest rates. Bond indices: A number of bond indices exist for the purposes of managing portfolios and measuring performance. forming a syndicate. But participants who buy and sell bonds before maturity are exposed to many risks. market volatility is irrelevant. Government bonds are typically auctioned. or may be further subdivided by maturity and/or sector for managing specialized portfolio Issuing bonds Bonds are issued by public authorities. the value of existing bonds rise since new issues pay a lower yield. . Fluctuating interest rates are part of a country's monetary policy and bond market volatility is a response to expected monetary policy and economic changes. In the United States. and the lack of liquidity in many smaller issues. credit institutions. Bond market volatility: For market participants who own a bond. principal and interest are received according to a pre-determined schedule. Most indices are parts of families of broader indices that can be used to measure global bond portfolios.
The net proceeds that the issuer receives are calculated as the issue price.S.000. Tenure The length of time until the maturity date is often referred to as the term or tenure or maturity of a bond.Features of bonds: The most important features of a bond are: 1. 2. principal or face amount: The amount on which the issuer pays interest and which has to be repaid at the end. Some bonds have been issued with maturities of up to one hundred years. Treasury securities. Maturity date The date on which the issuer has to repay the nominal amount. Issue price The price at which investors buy the bonds when they are first issued. although debt securities with a term of less than one year are generally designated money market instruments rather than bonds. . 3. typically $1. The maturity can be any length of time. In the market for U. In early 2005. Nominal. Most bonds have a term of up to thirty years. less issuance fees. there are three groups of bond maturities: short term (bills): maturities up to one year. the issuer has no more obligations to the bond holders after the maturity date. Long term (bonds): maturities greater than ten years.00. As long as all payments have been made. and some even do not mature at all. medium term (notes): maturities between one and ten years. 4. a market developed in euros for bonds with a maturity of fifty years. times the nominal amount.
These have very strict covenants.S. such as LIBOR. restricting the issuer in its operations. Most callable bonds allow the issuer to repay the bond at par. The name coupon originates from the fact that in the past. In the U. that is. In Europe.. The terms may be changed only with great difficulty while the bonds are outstanding. such as actions that the issuer is obligated to perform or is prohibited from performing. physical bonds were issued had coupons attached to them. Optionality: A bond may contain an embedded option. With some bonds. the issuer can repay the bonds early. the issuer has to pay a premium. it grants option-like features to the holder or the issuer: 9. which are construed by courts as contracts between issuers and bondholders. Callability: Some bonds give the issuer the right to repay the bond before the maturity date on the call dates.5.S. most bonds are semi-annual. In the U. These bonds are referred to as callable bonds.. Indentures and Covenants An indenture is a formal debt agreement that establishes the terms of a bond issue. the so called call premium. . see call option. federal and state securities and commercial laws apply to the enforcement of these agreements. 8. with amendments to the governing document generally requiring approval by a majority (or super-majority) vote of the bondholders. 6.(London Inter Bank Offered Rate) or it can be even more exotic. coupon The interest rate that the issuer pays to the bond holders. while covenants are the clauses of such an agreement. To be free from these covenants. 7. On coupon dates the bond holder would give the coupon to a bank in exchange for the interest payment. but only at a high cost. Covenants specify the rights of bondholders and the duties of issuers. This is mainly the case for high-yield bonds. most bonds are annual and pay only one coupon a year. coupon dates The dates on which the issuer pays the coupon to the bond holders. It can also vary with a money market index. which means that they pay a coupon every six months. Usually this rate is fixed throughout the life of the bond.
("Puttable" denotes an embedded put option. alternatively. Sinking fund provision of the corporate bond indenture requires a certain portion of the issue to be retired periodically.10. The entire bond issue can be liquidated by the maturity date. investors expect to earn a higher yield. A European callable has only one call date. An American callable can be called at any time until the maturity date. . usually coinciding with coupon dates. A death put is an optional redemption feature on a debt instrument allowing the beneficiary of the estate of the deceased to put (sell) the bond (back to the issuer) in the event of the beneficiary's death or legal incapacitation. Types of bonds: 1. A Bermudan callable has several call dates. In theory. Call dates and put dates The dates on which callable and Puttable bonds can be redeemed early. Coupon examples: three month USD LIBOR + 0. There are four main categories. High yield bonds are bonds that are rated below investment grade by the credit rating agencies. 2. 3.20%. Also known as a "survivor's option". then return them to trustees.) 11. which in turn call randomly selected bonds in the issue. Floating rate notes (FRN's) have a coupon that is linked to an Index. then the remainder is called balloon maturity. any Index could be used as the basis for the coupon of an FRN. so long as the issuer and the buyer can agree to terms. "Puttable" denotes that it may be putted.50%. such as LIBOR or Euribor. This is a special case of a Bermudan callable. FRN coupons reset periodically. purchase bonds in open market. These bonds are also called junk bonds. If that is not the case. or CPI (the Consumer Price Index). Puttability Some bonds give the holder the right to force the issuer to repay the bond before the maturity date on the put dates. Fixed rate bonds have a coupon that remains constant throughout the life of the bond. or twelve month CPI + 1. Common Indices include: money market indices. typically every one or three months. As these bonds are more risky than investment grade bonds. Issuers may either pay to trustees. or.
24th century)) are sometimes viewed as perpetuities from a financial point of view. the person who has the paper certificate can claim the value of the bond. the payments increase with inflation. They are issued at a substantial discount from par value. The bond holder receives the full principal amount on the redemption date. An example of zero coupon bonds are Series E savings bonds issued by the U. there is a hierarchy of creditors. Often they are registered by a number to prevent counterfeiting. as the principal amount grows. with the current value of principal near zero. for example equity linked notes and bonds indexed on a business indicator (income. Bearer bond is an official certificate issued without a named holder. the risk is higher. The first bond holders in line to be paid are those holding what is called senior bonds. After they have been paid. Some ultra long-term bonds (sometimes a bond can last centuries: West Shore Railroad issued a bond which matures in 2361 (i. Examples of asset-backed securities are mortgage-backed securities (MBS's). government. the separated coupons and the final principal payment of the bond are allowed to trade independently. The interest rate is lower than for fixed rate bonds with a comparable maturity. Some of these were issued back in 1888 and still trade today. collateralized mortgage obligations (CMOs) and collateralized debt obligations (CDOs).4.e. subordinated bonds usually have a lower credit rating than senior bonds. The most famous of these are the UK Consol. etc. 5. added value) or on a country's GDP. In other words. They have no maturity date. Subordinated bonds are those that have a lower priority than other bonds of the issuer in case of liquidation. . In other words. which are also known as Treasury Annuities or Undated Treasuries. but may be traded like cash. Bearer bonds are very risky because they can be lost or stolen. Treasury Inflation-Protected Securities (TIPS) and I-bonds are examples of inflation linked bonds issued by the U. First the liquidator is paid. 8. 7. However. Zero coupon bonds do not pay any interest. and asset-backed securities. Zero coupon bonds may be created from fixed rate bonds by a financial institutions separating "stripping off" the coupons from the principal. Perpetual bonds are also often called perpetuities. As a result. Asset-backed securities are bonds whose interest and principal payments are backed by underlying cash flows from other assets. the subordinated bond holders are paid. Other indexed bonds. government. The government of the United Kingdom was the first to issue inflation linked Gilts in the 1980s. The main examples of subordinated bonds can be found in bonds issued by banks.S. then government taxes. In case of bankruptcy.S. Therefore. 6. 9. Inflation linked bonds: in which the principal amount is indexed to inflation.
even to investors who prefer them. Bear bond. 15. city. usually a European state. 12. Convertible bond lets a bondholder exchange a bond to a number of shares of the issuer's common stock. Exchangeable bond allows for exchange to shares of a corporation other than the issuer. Treasury stopped in 1982.S. but the issuer will redeem randomly selected individual bonds within the issue according to a schedule. are sent to the registered owner. although municipal bonds issued for certain purposes may not be tax exempt. 17. or their agencies.S. Book-entry bond is a bond that does not have a paper certificate. Territory. U. is a bond issued in Russian roubles by a Russian entity in the Russian market. 13. Interest income received by holders of municipal bonds is often exempt from the federal income tax and from the income tax of the state in which they are issued. Municipal bond is a bond issued by a state. often confused with Bearer bond. War bond is a bond issued by a country to fund a war. Some of these redemptions will be for a higher value than the face value of the bond. Lottery bond is a bond issued by a state.S. . Some book-entry bond issues do not offer the option of a paper certificate. 11. 14. local government. bearer bonds were seen as an opportunity to conceal income or assets. U. Interest payments. or by a transfer agent. Interest is paid like a traditional fixed rate bond. It is the alternative to a Bearer bond. corporations stopped issuing bearer bonds in the 1960s. and the principal upon maturity. 16. As physically processing paper bonds and interest coupons became more expensive. Registered bond is a bond whose ownership (and any subsequent purchaser) is recorded by the issuer. issuers (and banks that used to collect coupon interest for depositors) have tried to discourage their use.Especially after federal income tax began in the United States. 10. the U. and state and local tax-exempt bearer bonds were prohibited in 1983.
debt securities maturing in more than 10 years. and long term is over 12 years.Eligibility for issue of Convertible bonds or ordinary shares of issuing company a. Corporate Bonds A company can issue bonds just as it can issue stock. Other variations on corporate bonds include convertible bonds.debt securities maturing in one to 10 years. . The company's credit quality is very important: the higher the quality.paragraph (1) shall have a consistent track record of good performance (financial or otherwise) for a minimum period of three years. a short-term corporate bond is less than five years. on the basis of which an approval for finalising the issue structure would be issued to the company by the Department of Economic Affairs. Ministry of Finance. fixed-income securities are classified according to the length of time before maturity. which allow the company to redeem an issue prior to maturity. intermediate is five to 12 years. and callable bonds. Corporate bonds are characterized by higher yields because there is a higher risk of a company defaulting than a government. An issuing company seeking permission under sub. Generally. An issuing company desirous of raising foreign funds by issuing Foreign Currency Convertible Bonds or ordinary shares for equity issues through Global Depositary Receipt is required to obtain prior permission of the Department of Economic Affairs. the issuing company shall obtain the final approval for proceeding ahead with the issue from the Department of Economic Affairs. Government of India. Government Bonds In general. b. c. which the holder can convert into stock. Bonds . These are the three main categories: Bills . Ministry of Finance. On the completion of finalisation of issue structure in consultation with the Lead Manager to the issue. the lower the interest rate the investor receives.debt securities maturing in less than one year. Notes . Large corporations have a lot of flexibility as to how much debt they can issue: the limit is whatever the market will bear.
Syndicated loans are primarily originated by banks. The group of lenders is called a syndicate. which is a loan made by a single lender to a single borrower. sovereigns or other government bodies. forms the syndicate and processes payments. paying a spread over Libor. The loan is called a syndicated loan. pension plans. Arranger / lead manager The bank that: Is awarded the mandate by the prospective borrower. insurance companies. and hedge funds. Syndicate members play different roles. Fixed-rate term loans. but other structures abound. Players in the syndication process: 1. It is common to speak of an arranger. but a variety of institutional investors participate in syndications. Some just lend money. arrangement fee reputation risk 2. These include mutual funds. They are also used in project finance and to fund leveraged buyouts. May be the arranging bank or another bank. Not all syndicated loans are fully underwritten. Most syndicated loans are floaters. Loans may be structured specifically to appeal to institutional investors. finance companies. and Is responsible for placing the syndicated loan with other banks and ensuring that the syndication is fully subscribed.SYNDICATED LENDING: Syndicated lending is a form of lending in which a group of lenders collectively extend a loan to a single borrower. Others also facilitate the process. revolving lines of credit and even letters of credit are syndicated. . lead bank or lead lender that originates the loan. collateralized loan obligations. Syndicated loans are routinely made to corporations. in contrast to a bilateral loan. Risk: the loan may not be fully subscribed. Underwriting bank The bank that Commits to supplying the funds to the borrwoer -if necessary from its own resources if the loan is not fully subscribed.
Benefits to the lead banks Good arrangement and other fees can be earned without committing capital. issue of bonds or equity). Quicker and simpler than other ways of raising capital (e. Interest and participation fee. disbursements. In larger syndications co-arranger and co-manager may be used.3. Enhancement of bank’s relationship with the client. Acts for the banks. participant banks have equal treatment. Participating bank The bank that participates in the syndication by lending a portion of the total amount required. May be the arranging/underwriting bank. Facility manager / agent The one that takes care of the administrative arrangements over the term of the loan (e. Benefits to the participating banks Access to lending opportunities with low marketing costs. . Participant banks do not find themselves at a disadvantage vis-à-vis a dominant bank or one with high leverage over the client. A participating bank may be led into passive approval and complacency 4. Opportunities to participate in future syndications. Enhancement of bank’s reputation. repayments. compliance).g. Benefits to the borrower Deals with a single bank.g. In case the borrower runs into difficulties. Risks: Borrower credit risk (as normal loans).
Stages in syndication 1. Pre-mandate phase The prospective borrower may liaise with a single bank or it may invite competitive bids from a number of banks. including signing. Placing the loan The lead bank can start to sell the loan in the marketplace. Pricing fees for “front-end activities” Arrangement and underwriting fees. The lead bank needs to: Prepare an information memorandum Prepare a term sheet Prepare legal documentation Approach selected banks and invite participation Negotiations with the borrower may be needed if prospective participants raise concerns. . the lead bank needs to: Identify the needs of the borrower. 3. Develop a persuasive credit proposal. Milestone: closing of the syndication. Agency fees -payable for administrative activity during the term of the loan. Post-closure phase The agent now handles the day-to-day running of the loan facility. 2. Design an appropriate loan structure. Milestone: award of the mandate. Commitment fees for available but undrawn funds. Interest (margin over base rate). Obtain internal approval.
acquisition of the vessel emerald by Louis -usd20m Arranger: hsbc Agent: societe general Construction of Elysium beach resort -arranger/agent: Cyprus popular bank. as with some leveraged buyouts or loans to some sovereigns. like most loans. pose credit risk for the lenders. . Syndicated loans. they have higher seniority in insolvency than bonds. Credit risk is assessed as with any other bank loan. Lenders rely on detailed financial information disclosed by the borrower. Take over of Rocl shares by Louis -usd30m Agent/arranger: hsbc.Examples: Aphrodite hills -cyp30m Arranger/agent: HSBC Take over of the shares of Hilton hotel by Louis group -cyp16m -arranger/agent: hsbc. This can be extreme. As syndicated loans are bank loans.
GAAP is a framework of accounting standards. Why it Matters: Investors should always review a company's GAAP financial results. 10-Q filings. Many companies. For this reason. Because they can vary widely from firm to firm. Examples of GAAP measures include net earnings. depreciation. These details can be found in such places as quarterly balance sheets or income statements. as the standardized methodology provides a reliable means of comparing financial results from industry to industry and from year to year. for example. but should instead be used in conjunction with it. GAAP rules are sometimes subject to different interpretations. taxes. and amortization (EBITDA) as a core measure of performance. companies. rules and procedures. and net cash provided by operating activities. often use earnings before interest. However. non-GAAP financial measures exclude operating and statistical measures such as employee counts and ratios calculated using numbers calculated in accordance with GAAP. which has been adopted by nearly all publicly traded U. which are updated regularly to reflect the latest accounting methodologies. and unscrupulous companies often find a way to bend or manipulate them to their advantage. . defined by the professional accounting industry. However.S. it is commonplace even for accurate results where GAAP principles were conservatively applied for financial results to be restated at some point in the future.GAAP: "GAAP" is an acronym that stands for Generally Accepted Accounting Principles. these alternative measures are not meant to replace GAAP. non-GAAP calculations do not always provide an apples-to-apples comparison. or annual reports. The standards are established and administered by the American Institute of Certified Public Accountants (AICPA) and the Financial Accounting Standards Board (FASB). GAAP principles. are the definitive source of accounting guidelines that companies rely on when preparing their financial statements. gross income. The SEC requires companies to reconcile their non-GAAP financial measures with the closest comparable GAAP measure. Furthermore. GAAP rules and procedures are what govern corporate accountants when they present the details of a company's financial operations.
Assistance declines. . the intrinsic strength of Indian corporate and India well established and well functioning stock exchanges are conductive to a substantial inflow or foreign equity buy not foreign debt. There is a need to be circumspect in respect of such sanguine prognostications. The question really is whether the dramatic levels of the total foreign capital will be available to India? It may not be in the country’s interest if say more equity becomes available but the inflow of bank loans and development.the large size of the Indian market.FUTURE PROSPECTS FOR CAPITAL INFLOWS It has been argued that certain factors. The success of some Indian companies to float GDRs and euro convertibles during the early 1990s is said to indicate this good potential. The trends described above should make it clear that the total availability of foreign capital is likely to be strictly limited.
The bonds floated in the domestic market and domestic currency by a non resident entity is called foreign bonds. 2. . 3. GDRs are essentially equity instruments issued abroad b the overseas depository Bank on behalf of the domestic companies against the equity shares of the latter. The major forms of foreign are bilateral and multilateral (official) concessional assistance and private commercial debt and equity capital. 5.Conclusion 1. Foreign capital is said to fill the domestic saving gap to reduce the foreign exchange barrier and to provide superior physical and managerial technology. Eurodollars are deposits which are US dollar denominated and held at banks located outside the U.S 4.
Federal funds are reserves traded among US commercial banks for overnight use. Certificate of deposit (CD) is a negotiable instrument issued by a bank. Euro commercial paper (ECP) are unsecured short-term promissory notes sold by finance companies and certain industrial companies. Contagion. London interbank offered rate (LIBOR) is British Banker's Association average of interbank offered rates for dollar deposits in the London market based on quotations at 16 major banks. Universal bank is one in which the financial corporation not only sells a full scope of financial services but also owns significant equity stakes in institutional investors. Euro interbank offered rate (EURIBOR) is European Banking Federationsponsored rate among 57 euro-zone banks.Key Terms and Concepts Eurocurrency market consists of banks that accept deposits and make loans in foreign currencies outside the country of issue. Revolving credit is a confirmed line of credit beyond one year. Euronotes are short-term debt instruments underwritten by a group of international banks called a "facility". Eurodollar could be broadly defined as dollar-denominated deposits in banks all over the world except the United States. Bank for International Settlements is a bank in Switzerland that facilitates transactions among central banks. Euronote issue facilities (EIF) are notes issued outside the country in whose currency they are denominated. Keirutsu is a Japanese word that stands for a financially linked group of companies that play a significant role in the country's economy. is where problems at one bank affect other banks in the market. . Euro-medium-term notes (EMTNs) are medium-term funds guaranteed by financial institutions with the short-term commitment by investors. as used in this chapter.
. Secondary market is a market where the previously issued common stock is traded between investors. Foreign bonds are bonds sold in a particular national market by a foreign borrower. European Currency Unit (ECU) was a weighted value of a basket of 12 European Community currencies and the cornerstone of the European Monetary System. Currency-option bonds are bonds whose holders are allowed to receive their interest income in the currency of their option from among two or three predetermined currencies at a predetermined exchange rate. Primary market is a market where the sale of new common stock by corporations to initial investors occurs. Eurobonds are bonds underwritten by an international syndicate of brokers and sold simultaneously in many countries other than the country of the issuing entity. the euro replaced the ECU as a common currency for the European Union in January 1999.Asian Currency Units (ACUs) is a section within a bank that has authority and separate accountability for Asian currency market operations. International capital market consists of the international bond market and the international equity market. underwritten by a syndicate of brokers from that country. International bonds are those bonds that are initially sold outside the country of the borrower. Amortization method refers to the retirement of a long-term debt by making a set of equal periodic payments. Warrant is an option to buy a stated number of common shares at a stated price during a prescribed period. and denominated in the currency of that country. Global bonds are bonds sold inside as well as outside the country in whose currency they are denominated. Currency-cocktail bonds are those bonds denominated in a standard "currency basket" of several different currencies. Zero-coupon bonds provide all of the cash payment (interest and principal) when they mature.
.Privatization is a situation in which government-owned assets are sold to private individuals or groups.
COM ANSWERS.BIBLOGRAPHY INTERNATIONAL BANKING – K VISWANATHAN FINANCIAL MARKETS AND INSTRUMENTS – L M BHOLE INTERNATIONAL FINANCE – APTE FINANCIAL MARKETS AND SERVICES – GORDAN & NATRAJAN WEBLOGRAPHY: GOOGLE.COM IMF.COM .COM YAHOO.
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