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10e
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Chapter 12
12-3
Who Are the Main Players
in Capital Markets?
The Main Players in the Generic Capital Market
12-4
What Makes the Global
Capital Market Attractive?
Today’s capital markets are highly
interconnected and facilitate the free flow
of money around the world
Borrowers benefit from the additional
supply of funds global capital markets
provide
lowers the cost of capital
the price of borrowing money or the rate of
return that
borrowers pay investors
12-5
What Makes the Global
Capital Market Attractive?
Market Liquidity and the Cost of Capital
12-6
What Makes the Global
Capital Market Attractive?
Investors benefit from the wider range of
investment opportunities
diversify portfolios and lower risk
But, volatile exchange rates can make
what would otherwise be profitable
investments, unprofitable
12-7
What Makes the Global
Capital Market Attractive?
Risk Reduction through Portfolio Diversification
12-8
How Have Global Capital
Markets Changed Since 1990?
Global capital markets have grown rapidly
the stock of cross-border bank loans was just
$3,600 billion in 1990, $7,859 billion in 2000,
$33,913 billion in 2012
the international bond market has grown from
$3,515 billion in 1997, $5,908 billion in 2000,
$21,979 billion in 2012
12-9
Why Is the Global Capital
Market Growing?
Two factors are responsible for the
growth of capital markets
1. Advances in information technology
the growth of international communications
technology and advances in data processing
capabilities
24-hour-a-day trading
so, shocks that occur in one financial market
spread around the globe very quickly
12-10
Why Is the Global Capital
Market Growing?
2. Deregulation by governments
has facilitated growth in international capital
markets
governments have traditionally limited foreign
investment in domestic companies, and the
amount of foreign investment citizens could make
since the 1980s, these restrictions have been
falling
12-11
Why Is the Global Capital
Market Growing?
Deregulation began in the U.S., then moved to
Great Britain, Japan, and France
Many countries have dismantled capital controls
making it easier for both inward and outward
investment to occur
The 2008-2009 global financial crisis raised
questions as to whether deregulation had gone
too far
Question: Are new regulations for the financial
services industry needed?
12-12
What Are the Risks of the
Global Capital Markets?
Question: Could deregulation of capital markets
and fewer controls on cross-border capital flows
make nations more vulnerable to the effects of
speculative capital flows?
can have a destabilizing effect on economies
Speculative capital flows may be the result of
inaccurate information about investment
opportunities
if global capital markets continue to grow, better
quality information is likely to be available from
financial intermediaries
12-13
What Is a Eurocurrency?
A Eurocurrency is any currency banked outside
its country of origin
About two-thirds of all Eurocurrencies are Eurodollars
dollars banked outside the U.S.
Other important Eurocurrencies are the euro-yen, the
euro-pound, and the euro-euro
The Eurocurrency market is an important
source of low-cost funds for international
companies
12-14
Why Has the Eurocurrency
Market Grown?
The eurocurrency market began in the
1950s when the Eastern bloc countries
feared that the United States might seize
their dollars
so, they deposited them in Europe
additional dollar deposits came from Western
European central banks and companies that
exported to the U.S.
could earn a higher rate of interest in London
12-15
Why Has the Eurocurrency
Market Grown?
In 1957, the market surged again after
changes in British laws
under the new laws, British banks had to
attract dollar deposits and loan dollars rather
pounds to finance non-British trade
London became the leading center of the
eurocurrency market
continues to hold this position today
12-16
Why Has the Eurocurrency
Market Grown?
In the 1960s, the market grew once again
Changes in U.S. regulations discouraged
U.S. banks from lending to non-U.S.
residents
would-be borrowers of dollars outside the
U.S. turned to the Euromarket as a source of
dollars
12-17
Why Has the Eurocurrency
Market Grown?
The next big increase came after the
1973-74 and 1979-80 oil price increases
Arab members of OPEC accumulated
huge amounts of dollars
avoided potential confiscation of their dollars
by the U.S. by depositing them in banks in
London
12-18
What Makes the Eurocurrency
Market Attractive?
The Eurocurrency market is attractive
because it is not regulated by the
government
banks can offer higher interest rates on
Eurocurrency deposits than on deposits
made in the home currency
banks can charge lower interest rates to
Eurocurrency borrowers than to those who
borrow the home currency
12-19
What Makes the Eurocurrency
Market Attractive?
The spread between the Eurocurrency
deposit and lending rates is less than the
spread between the domestic deposit and
lending rates
Gives Eurocurrency banks a competitive
edge over domestic banks
12-20
What Makes the Eurocurrency
Market Attractive?
Interest Rate Spreads in Domestic and Eurocurrency Markets
12-21
What Makes the Eurocurrency
Market Unattractive?
The Eurocurrency market has two significant
drawbacks:
1. Because the Eurocurrency market is
unregulated, there is a higher risk that bank
failure could cause depositors to lose funds
can avoid this risk by accepting a lower return on a
home-country deposit
2. Companies borrowing Eurocurrencies can be
exposed to foreign exchange risk
can minimize this risk through forward market
hedges
12-22
What Is the
Global Bond Market?
Bonds are an important means of
financing for many companies
the most common bond is a fixed rate which
gives investors fixed cash payoffs
The global bond market grew rapidly
during the 1980s and 1990s and
continues to do in the new century
12-23
What Is the
Global Bond Market?
There are two types of international bonds
1. Foreign bonds are sold outside the borrower’s
country and are denominated in the currency of
the country in which they are issued
used by companies when they think it will reduce the
cost of capital
2. Eurobonds are underwritten by a syndicate of
banks and placed in countries other than the
one in whose currency the bond is
denominated
12-24
What Makes the Eurobond
Market Attractive?
The Eurobond market is attractive because
1. It lacks regulatory interference
since companies do not have to adhere to strict
regulations, the cost of issuing bonds is lower
2. It has less stringent disclosure requirements
than domestic bond markets
it can be cheaper and less time consuming to offer
Eurobonds than dollar-denominated bonds
3. It is more favorable from a tax perspective
Eurobonds can be sold directly to foreign investors
12-25
What Is the
Global Equity Market?
The global equity market allows firms to
1. Attract capital from international investors
many investors buy foreign equities to
diversify their portfolios
2. List their stock on multiple exchanges
this type of trend may result in an
internationalization of corporate ownership
12-26
What Is the
Global Equity Market?
3. Raise funds by issuing debt or equity
around the world
by issuing stock in other countries, firms
open the door to raising capital in the foreign
market
gives the firm the option of compensating
local managers and employees with stock
provides for local ownership
increases visibility with local stakeholders
12-27
How Do Exchange Rates
Affect the Cost of Capital?
Adverse exchange rates can increase the cost
of foreign currency loans
While it may initially seem attractive to borrow
foreign currencies, when exchange rate risk is
factored in, that can change
firms can hedge their risk by entering into forward
contracts
but this will also raise costs
Firms must weigh the benefits of a lower
interest rate against the risk of an increase in
the real cost of capital
12-28
What Do Global Capital
Markets Mean for Managers?
Growth in global capital markets has
created opportunities for firms to borrow
or invest internationally
firms can often borrow at a lower cost than in
the domestic capital market
firms must balance the foreign exchange risk
associated with borrowing in foreign
currencies against the costs savings
12-29
What Do Global Capital
Markets Mean for Managers?
Growth in capital markets offers
opportunities for firms, institutions, and
individuals to diversify their investments
and reduce risk
again though, investors must consider
foreign exchange rate risk
Capital markets are likely to continue to
integrate providing more opportunities for
business
12-30