Each entity has a different access and different needs in the international financial markets. Companies receive more favorable credit ratings in their country of domicile than in the country in which they need to raise capital. Investors are likely to demand a lower return from a domestic company, which they are more familiar with than from a foreign company. In some cases a company may be unable to raise capital in a certain currency. Currency swaps are also used to lower the risk of currency exposure or to change returns on investment into another, more favorable currency. Therefore, currency swaps are used to exchange assets or capital in one currency for another for the purpose of financial management.
A currency swap transaction involves an exchange of a major currency against the U.S. dollar. In order to swap two other non- U.S. currencies, a dealer may need to arrange two separate swaps. Although, any currency can be used in swaps, many counter-parties are unable to exchange their currencies due to a lack of demand. Since currency swaps involve die exchange of two or more types of currencies, the actual exchange of principals takes place at the commencement and the termination of the swaps. On certain occasions, the exchange occurs only at the inception of the swap depending on the nature of the swap. The exchange of principals is necessary because of the fluctuation of currencies. Also, counter parties may need to utilize the respective exchanged currencies. Principals and interest payments are exchanged based on the spot rate agreed at the inception of the swaps.… Read the rest
Three interrelated developments in global capital markets are:
- The sustained rise in gross capital flows relative to net flows;
- The increasing importance of securitized forms of capital flows; and
- The growing concentration of financial institutions and financial markets.
Taken together these trends may signal what some others have referred to as a ‘quiet opening’ of the capital account of the balance of payments, which is resulting in the development, strengthening and growing integration of domestic financial systems within the international financial system. Finance is being rationalized across national borders, resulting in a breakdown in many countries in the distinction between onshore and offshore finance. It is particularly evident and most advanced in the wholesale side of the financial industry, and is becoming increasingly apparent in the retail side as well.
Taken together these three effects have contributed to a sharp rise in volatility – in both capital flows and asset prices – which may be characterized as periods of turbulence interspersed with periods of relative tranquility. Investor behavior (the supply of international capital) is a critical reason behind the rise in volatility. These broad trends have some important implications for the ongoing development of capital markets and institutions, including those in developing countries.
1. The Sharp Rise in Gross Capital Flows
The evidence points to an acceleration of capital account opening in most regions of the world since the late 1980s. The effects of opening in the formal sense of liberalizing transaction taxes and regulatory and legal restrictions on capital movements have been augmented by the liberalization of domestic financial sectors and by technologically induced reductions in transaction costs.… Read the rest
Of late emerging markets have become a buzzword among the international investors for reaping greatest potential rewards which would be impossible if they stayed put in their affluent hinterlands. The term emerging markets (EMs) is a collective reference to the stock markets of the developing nations. A question, which overpowers a discerning mind, is why the international investors are looking towards emerging markets for investing their funds instead of established markets like US? Three reasons can be given to answer this question.
First, the average total return of emerging markets has outstripped those of developed markets. Investments total return index computed by the IFC (International Finance Corporation) which measures the total return for each country based on those stock available to foreign investors shows that return on investment in IFC composite of EMs is 61.64 per cent higher than the return on investment in US market over the years. The institutional investors like the corporate pension funds; insurance companies and international mutual funds are looking towards investments in EMs to magnify their earnings.
Secondly the emerging markets provide excellent scope for diversification, as their correlation with the US and other developed markets is often exceptionally low. The EMs has low correlations not only with the developed markets, but also with each other. The fact that EMs (individually and as a group) has low correlations with the developed markets implies that there is an opportunity for diversification for the global investor.
Thirdly as the emerging markets are generally inefficient markets, the opportunity of finding bargain stocks increase for the highly knowledgeable money managers. … Read the rest
Capital flows have traditionally focused on the ‘demand side’ of emerging market financing by examining current account balances, which are equal to the net external financing needs of countries, and then seeking to identify ways in which these financing needs could be met and on what terms. However, this approach ignores trends in capital flows into and out of the major advanced economies, which are the source of most cross-border capital and the main reason why gross flows have risen so dramatically relative to net flows. These flows are typically in a securitized form and, as such, are susceptible to trading in active secondary markets. By one estimate, investors in the mature markets of Europe, the United States and Japan have been accumulating securities issued outside their own countries at the rate of about US$1 trillion a year (Smith 2000). This means that international capital flows are increasingly determined by global asset-allocation decisions made by globally active financial institutions in major industrialized countries. These institutions are becoming increasingly concentrated as a result of the global trend toward consolidation. Understanding capital movements increasingly requires an analysis and understanding of the underlying investor base.
A case in point relates to the on-off nature of the market for emerging market dollar denominated bonds. The dedicated investor base for emerging market securities has contracted in recent years, reflecting the closure of several large hedge funds, the orientation of other hedge funds toward mature market investments and reductions in the capital allocated to support the activities of the proprietary trading desks of some international investment banks.… Read the rest
International money managers attempt to attain on a worldwide basis the traditional domestic objectives of cash management: (1) bringing the company’s cash resources within control as quickly and efficiently as possible and (2) achieving the optimum conservation and utilization of these funds.
Accomplishing the first goal requires establishing accurate, timely forecasting and reporting systems, improving cash collections and disbursements, and decreasing the cost of moving funds among affiliates. The second objective is achieved by minimizing the required level of cash balances, making money available when and where it is needed, and increasing the risk-adjusted return on those funds that can be invested. Restrictions and typical currency controls imposed by governments inhibit cash movements across national boundaries. These restrictions are different from one country to other. Managers require lot of foresight, planning, and anticipation. Other complicating factors in international money management include multiple tax jurisdictions, multiple currencies, and relative absence of internationally integrated interchange facilities for moving cash quickly from one place to other. However, by adopting advanced cash management techniques MNCs are able to take advantage of various opportunities available in different countries. By considering all corporate funds as belonging to a central reservoir or ‘pool’ and managing it as such, overall returns can be increased while simultaneously reducing the required level of cash and marketable securities worldwide.
Advantages of Centralized Cash Management System
When compared to a system of autonomous operating units, a fully centralized international cash management program offers a number of advantages, such as;
- The corporation is able to operate with a smaller amount of cash; pools of excess liquidity are absorbed and eliminated; each operation will maintain transactions balances only and not hold speculative or precautionary ones.
… Read the rest
Forfaiting is a specialized form of trade finance that allows the exporter to offer extended credit to the importer. Under forfaiting , the importer gives the exporter a bundle of bills of exchange or promissory notes covering the principal amount as well as the interest. Each tranche of the notes fall due at different points of time in the future, e.g. every six months, extending up to several years. The notes are backed by an aval or guarantee provided by a reputed bank in the importer’s country. The exporter can then discount these notes without recourse with banks who specialize in the forfaiting business to generate an immediate cash flow. This means that if either the importer or the guaranteeing bank fails to pay when notes fall due, the forfaiter cannot ask the exporter for reimbursement. The credit risk is assumed entirely by the forfaiter. The forfaiter in turn, may hold the notes in its own portfolio or sell different tranches in the secondary market (obviously at a discount smaller than what was charged to the exporter). Forfaiting tends to be a specialized business because each underlying export-import transaction generally has unique features.
- Forfaiting in Export Finance
- Export Bills of Exchange
… Read the rest