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International Treasurer

The Corporate Treasurer's Guide to Global Financial Management


October 31, 1 994
Country profil e
India Eases
Lending Restrictions
October 17 Reserve Bank of India Meeting
eases lending restrictions.
In our last issue, we mentioned how financi al
controls on i nterest rates were forcing Indi a' s
blue-chi p compani es to off-shore f inanci al
markets. Euroissues and other forms of exter-
nal funding are still cheaper, but progress is
being made to lower local funding costs. On
October 17, th e Reserve Bank of Indi a
announced the easing of controls on l arge
loans of RS200,000 or more. The cost of bank
lines will hereby be reduced by 50-200 basi s
points from current levels of 14-15%.
Th e extent of th e decline will depend to
some degree on the financial healt h of each
individual bank. Wi th fixed deposit rates (now
4.5%) most banks, especi all y government-
owned Indian ones, cannot afford to narrow
their l ending spreads muc h more. Falling
interest rates and competition, however, will
pressure them to do so. Counterparty ri sk in
the current environment is a huge concern .
Many banks in trouble
Indi a' s banking system 1s m poor shape and
many of its most f inanci all y st rained banks
belong to the publi c sector. Thus, the govern-
ment must seek to manage the pace of f inan-
cial sector reforms, as it moves to consoli date,
moderni ze, and privati ze the banking system.
Most import antly, it must c ut banks l oose
from pu bli c coffers befor e market- d ri ven
insolvencies bust any semblance of a budget.
Meanwhil e, large corporati ons are pressing
ahead with their own finance arms to funnel
f unds sou rced off-shore. Th ese cor po rate
banks are joining foreign banks, the IMF, and
Indi an industry to press for reform to free-up
credit. Thi s competiti on means that, even with
government paternal ism, each new reform
measure, including t hi s one on lending con-
continued on back page
Fi nancial risk management
JP Morgan's
RiskMetrics
By j oseph Neu
Understanding the methodology behind Risk
Metrics is an important first step for corporate
risk managers.
Whil e or iginall y intended primaril y for finan-
c i al in sti t utio ns and f und manager s, th e
release of jP Morgan's Ri skMetri cs data and its
accompanying risk methodology comes at a
time when many corporates are l ooking t o
move up the ri sk management learning curve.
"That was our bi ggest surpri se," notes j acques
Longe rst aey, w ho heads th e Mark et Ri sk
Research team that created Ri skMetri cs, "we
expected commercial banks to be the bi ggest
users and we ended up f inding as much if not
more corporate interest. "
Th e fact th at co r po rates are eage r to
improve their ri sk management is good news
for many reaso ns. However, as good as
Ri skMetri cs is, it is does not provide a com-
pl ete ri sk management solution, nor should
corporates seek to use it without f irst under-
standing the methodol ogy behind it.
Highlights from the "Technical Document"
JP Morgan has done a laudable j ob of present-
i ng its methodol ogy for quanti fying market ri sk
and generall y expl aining Ri skMet ri cs in it s
1 00-page "Techni cal Document" (soon to be
posted on-line). The Ri skMetri cs methodology
is a near equi valent of t he classic portfolio the-
ory approach (what academi cs call a mean
cova ri ance t ec hniqu e), w hi c h i s w id el y
accepted as a standard for prudent ri sk man-
agement. The foll owing are questions whi ch
summari ze the methodology and prompt gen-
eral considerations for corporate risk manage-
ment frameworks.
What is our definition of risk? Morgan
defines ri sk as " the degree of uncertainty of
continued on page 2
India Eases
Lending Restrictions
Banks in India are
being pressured to
cope with market
reali ties.
page 7
JP Morgan's
RiskMetrics
Use the Morgan
methodology to
improve your under-
standing of financial
ri sk management.
page 7
PW's Financial
Risk System
A new PC appli cation
from Pri ce
Waterhouse makes
use of RiskMetri cs.
page3
New UK Tax
Regime for FX
Pl anni ng advice to
get book and tax
treatment for all FX
gains and losses to
match.
page4
FX Forecasting
Fundamentals (Ill)
A survey of empiri cal
evi dence from acade-
mi a showi ng how
forecasting works.
page6
Brazil Under the Real
What Cardoso must
do to keep inflation
down.
pageB
The Back Page
continued from page 7
trois, wi ll be pushed to the limit. Thi s process
will create a great deal of volatility in rupee
interest rates and increase the level of f inan-
cial innovation.
Unfortunately many banks in India, already at
their limits financially, have little margin for
error. Hence, corporates should consider the
financial health of banks and its impact on
credit line availability and counterparty risk.
Get credit assessments
For a cu rr ent road map of the best rated
sources (and users) of l ocal funds in Indi a,
readers may wish to refer to the Credit Rating
Information Services of Indi a Ltd. (CRISIL)[ Mr.
G.F.R.K. Rao, executi ve director, phone: (9 1
22) 4939-445, fax: (91 22) 4939-441]. CRISIL
offers debt rating services, credit advisory ser-
vices, company reports, and mi cro-economic
data, according to Managing Di rector Reavi
Mohan. One of three rating services in Indi a,
CRISIL has been at it the longest-since 1987.
Credit rating services l ook to be a growth
industry. Especiall y, if as Mr. Mohan predicts,
partial convertibility of the rupee extends from
the cu rr ent account to t he capital account,
"prompti ng more interplay between the Indi an
and international debt markets. " Thi s increased
interpl ay will add further volatility to interest
rates and rupee/ dollar parity, stoking market
risk in addition to credit risk.
The Best Banks in India
CRISIL last ranked Indi a's commercial banks for
Business Toda y, a local magazine. The results,
publi shed in its December 22, 1993- j anuary 6,
1994 issue li st banks according to a weighted
average score compri sed of financial resul ts,
operational ratios, physical parameters, and pro-
ductivi ty ratios. The top ten were all foreign:
1. Bank of America
2. Bank of Tokyo
8
3. ABN-AMRO Bank
4. American Express Bank
5. Citibank
6. Credit Lyonnais
7. HongKong Bank
8. Sakura Bank
9. Societe Generale
10. BNP
Correction: Branch coverage for the State Bank
of Indi a li sted in the last issue as 11 should have
read 8,691.
Country bri efing
Brazil Under the Real
How long can Cardoso keep inflation at bay?
Cardoso was elected to presidential office this
month thanks to initi al success of the strong
currency/ant i- infl ation pl an he introduced as
Brazil's finance minister. The introduction of a
new currency, th e Rea l , has succeeded in
bringing infl ation down from a rate of 50% a
month to 5%. Can this low inflation last ?
Yes, say treasurers in Brazil , infl ation will be
tame for until year end, but in 1995 it will start
to creep up. How quickly it returns " to nor-
mal ," will depend on how we ll Cardoso
makes use of hi s current political leverage.
Though unlikely, if Cardoso can move within
the next six months to solve st ructural fiscal
problems, he may end chroni c defi c its and
spiraling inf l ati on for good. Three things are
worth watching for:
Fiscal reform. Government spendin g
needs to be shifted to new sectors of the econ-
omy and away from the local pork projects.
Tax reform. About 80-85% of the taxes
coll ected in Brazil are pre-allocated to specific
programs, making fiscal reform impossibl e
without an overhaul of the tax regime.
Acceleration of privatization. Tax reform,
will not help until next year, so to pay for this
year' s budget the government needs to sell $7-
1 0 bi II ion worth of assets.
Stay short and keep the flexibility to move as
fast as possibl e as inf l ation grows , say
Brazilians, whose inflation expectations have
not fallen with near-term inf lation rates. .a
Masthead Changes: Several changes are taking
pl ace on our masthead at right. First,
International Treasurer is pl eased to welcome
two new corporate advisors: juanita Hinshaw,
vi ce president and treasurer at Monsanto and
Hans Poh!schroeder, ass istant treasurer at
Colgate-Palmoli ve. These two advi sors replace
Jean-Pierre Bourtin, who is now a fund manager
with Bridges Capital (an emerging markets bou-
tique, in Greenwich, Connecticut) and no longer
with Xerox, and Michael O'Donnell, who is
moving from hi s regional cash management post
in Singapore to head a broader effort for
Citibank in Korea. We wish to take this opportu-
nity to thank Messrs. Bourtin and O'Donnell for
their valuable support in launchi ng this publi ca-
tion.
Editor & Publisher
j oseph Neu
Associate Editor
Donald Dunn
Professional Contributors
Robert Herz
Associate Nati onal Director of
Accounting and SEC Services
Coopers & Lybrand
Peter Connors
Director, Tax Services
International Capi tal Markets
Ernst & Young
Jeffrey Wallace
Managing Director
Greenwich Treasury Advisors
Davi d Veres
Partner
Rogers & Wells
Corporate Advisors
Hans Pohlschroeder
Assistant Treasurer
Colgate-Palmol ive
David Rusate
Assist ant Treasurer
General El ectri c
Arvind Sodhani
Vi ce President and Treasurer
Intel Corp.
A. j ohn Kearney
Assistant Treasurer
Merck & Co.
Juanita Hinshaw
Vice President and Treasurer
Monsa nto
Academic Advisors
Lee Remmers
Professor
INSEAD
Donald Lessard
Professor
Massachusetts
Institute ofT echnology
Richard Levich
Professor
Stern School of Business
New York Universi ty
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International Treasurer/ October 31 , 1994