Transcript No Slide Title

Slide 1 of 48
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 2 of 48
Overview
Corporate use of:
 Foreign
exchange market
 Eurocurrency market
 Eurocredit market
 Eurobond market
 International stock markets
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 3 of 48
Motives for Investing in a
Foreign Market
Which would therefore require
financial considerations to
assist in the investment
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Why FDI Exits
Slide 4 of 48
 Land,
Resources and some types of business
cannot be relocated
 If a company wants access, they have to go
there
 eg.
Mining operations, forest harvesting
 If
your customer moves overseas, you may
follow to continue to be able to supply
 eg.
Autoparts companies
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Why FDI Exits
Slide 5 of 48
 Some
companies set up operations overseas
because manufacturing locally is cheaper
than exporting and paying the shipping costs
 Companies also setup mfg. Overseas in lowwage areas to make products that are then
sent back to customers in the Home Country,
or to a 3rd market
 eg.
Japanese companies mfg. Electronic goods
in Malaysia, and export to the USA
Page 63~64
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 6 of 48
Why would you want to provide
Credit in Foreign Markets
 Some
countries have higher interest rates so
the businesses in those countries find it
expensive to borrow
 eg. Japanese interest rate is low,
mathematically it is cheaper for North
American businesses to sometimes borrow
money from Japanese banks, than North
American banks
Page 64
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 7 of 48
Why would you want to provide
Credit in Foreign Markets
 Exchange
rate expectations
 Japanese banks would lend money to U.S.
companies if the U.S. dollar goes up
 - it means when they get paid back, they
make more money because the U.S. dollar
rose in the meantime
Page 64
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 8 of 48
Why would you want to provide
Credit in Foreign Markets
 International
diversification
 Some lenders might want to lend money to
business in several different countries to
reduce the risk
 If a lender in one country goes bankrupt
because of the situation in that country - they
still have income from businesses in other
countries
Page 64
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 9 of 48
Why would you want to borrow
money from Foreign Markets
 Low
Interest Rates
 Some banks in some countries have a lot of
money to lend at low interest rates - and
nobody to lend to because the businesses in
that country cannot, or do not borrow this
money
 These banks make effort to attract foreign
lenders - especially those with currency
exchange rates that are going up
Page 65
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 10 of 48
Why would you want to borrow
money from Foreign Markets
 Exchange
rate expectations
 If you expect a foreign currency to go down,
it would be advantageous to borrow that
money, then you have less to pay back
Page 65
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 11 of 48
Why would you want to borrow
money from Foreign Markets
 Exchange
rate expectations
 If an American company borrowed $
1,000,000 from a Canadian bank, it might
cost them $800,000 US to do this
 If the Cdn currency goes down, they might
only have to pay back $750,000 because at
the time of paying back, their US dollars are
worth more
Page 65
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 12 of 48
Foreign Exchange Market
 Facilitates
trade with exchange of currencies
 Developed over long period of time
– gold standard, 1876-1913
– pegged rates in 1930s
– fixed exchange rates 1944-1973
– market determined exchange rates 1973present
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 13 of 48
Foreign Exchange Market:
 No
specific trading market
 Market is just a word for the global
collection of various buyers and sellers
– US banks’ opening exchange rates use
prevailing rates of London banks
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 14 of 48
Foreign Exchange Market:
Page 66
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Slide 15 of 48
Foreign Exchange Market:
 Spot
Contract
a
4X transaction with funds delivered for
immediate value
 the rate “on the spot”
 in practice, this means settlement within 2
days

see http://www.mellon.com/inst/fx/tools/services.html
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 16 of 48
Foreign Exchange Market:
Role of Banks
– immediate exchanges made at banks
– volume of exchange linked to international
trade and finance
– 20 large banks handle 50% of the volume
 six
currencies comprise 90% of US exchange
volume
– Japanese yen, German mark, British pound
– Canadian dollar, French franc, Swiss franc
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 17 of 48
?
Why would it be that the chart on page 67
shows German Marks, Japanese Yen and British
Pounds being used much more than Canadian
dollars - cause isn’t Canada the largest trading
partner with the U.S.?
Because Cdn dollar business done by Canadian
banks
and because Cdn business with the U.S. is more
frequently quoted in U.S. dollars anyway negating the need for conversion
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 18 of 48
Foreign Exchange Market:
Role of Banks
 “…
the exchange rate between 2
currencies should be similar across the
various banks that provide 4X - cause
 if there was a large difference,
customers, or other banks would
immediately start trading currency
page 66
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Slide 19 of 48
Foreign Exchange Market:
Role of Banks
 “…
if a bank begins to experience a
shortage of a particular foreign currency
it can purchase this from other banks.
This trading is called the Interbank
Market…”
page 67
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 20 of 48
Foreign Exchange Market:
Role of Banks
 US
banks’ opening exchange rates use
prevailing rates of London banks
 sometimes change happen the world
over night which negate the exchange
rate used the previous day
 due to time zones, people trade 24hrs a
day around the planet
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 21 of 48
Attributes of Banks
- things you look for in deciding to
use a particular bank for 4x





Competitiveness
Special Relationship
Speed of Execution
Advice about current market conditions
Forecasting advice
page 68
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 22 of 48
Foreign Exchange Market:
Bid/Ask Spread
 Represents
fee for bank’s service in
currency exchange
– difference between a bank’s bid (buy)
quote and ask (sell) quote
 remember:
banks buy low, sell high
bid/ask spread = (ask-bid)/ask
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 23 of 48
Foreign Exchange Market:
Bid/Ask Spread
 In
currencies that are bought and sold
frequently, the bid / ask spread is usually not
too big
 In currencies that are NOT bought and sold
frequently, the bid / ask spread is larger so
the bank can have a better chance of making
some money
 This also helps them if they cannot sell some
currencies
page 71
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 24 of 48
Foreign Exchange Market:
Forward Contracts
 Agreement
made today to buy or sell
currency at a specific time in the future
 “… allow for the purchasing or selling of
currencies in future periods…”
 “… establishes a firm rate today, for
settlement at a future day” Mellon Bank
 Bank acts as middle agent
Page 70
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Slide 25 of 48
Foreign Exchange Market:
Forward Contracts
 MNCs
use forward contracts for:
– hedging against currency fluctuations
– bypassing cashflow constraints
– they might not have the money right now
– MNCs cannot always plan exactly when the
product will be finished, and need to be
shipped and paid for, so forward contracts are
sometimes bought and sold if the planning
time changes
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 26 of 48
Foreign Exchange Market:
Forward Contracts
 “MNCs
also use forward contracts to
lock in the rate at which they can sell
currencies - this is used to hedge
against the possibility of the
currencies depreciating over time”
page 71
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 27 of 48
Foreign Exchange Market:
Forward Contracts

Forward contracts have premiums,
discounts
– premium: forward > spot rate
– discount: forward < spot rate
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 28 of 48
Foreign Exchange Market:
Forward Contracts

Forward contracts have premiums, discounts
– premium: forward > spot rate
– discount: forward < spot rate
 example
 If
McCains foods bought
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 29 of 48
Arbitrage
 “…
capitalizing on a discrepancy in
quoted prices…” page 203
 TR - “taking advantage of the fact that
one thing has two different prices - you
can then buy it at the low price, and sell
it for a profit to the person who is paying
the higher price”
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 30 of 48
Interpreting Foreign
Exchange Quotes
 Direct
quote
– dollar value of foreign currency per one
unit of the foreign currency
 e.g.,
 Indirect
British pound = $1.5205
quote
– number of currency units per one US
dollar
 e.g.,
British pound = 0.6557
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 31 of 48
Interpreting Foreign
Exchange Quotes
 Direct
quote YEN
– one unit of that currency equal to the number of
dollars
– one Yen = 0.01179 CDN $
 Indirect
quote
– the number of units of that currency per one dollar
– 80.45 Yen = 1 $ CDN
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 32 of 48
Interpreting Foreign
Exchange Quotes
For consistency,
Direct Quotes are used
in Madura’s Text
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 33 of 48
Refer to your green handout on the IMF
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Slide 34 of 48
Foreign Exchange Market:
Exchange Rates
 Cross
exchange rates
– exchange rate between non-US currencies
– value of Canadian dollar in German marks
 value
of one CD in $US = $0.7236
 value of one DM in $US = $0.6077
Value of $CD in DM = $0.7236/$0.6077
= 1.1907
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 35 of 48
Foreign Exchange Market:
Exchange Rates
 Cross
exchange rates
– exchange rate between non-US currencies
– value of Canadian dollar in German marks
 value
of one CD in $US = $0.6757
 value of one DM in $US = $0.5297
Value of $CD in DM = $0.6757/$0.5297
= 1.275 17 May 1999
Using the handout of 17May99, calculate the cross rate
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 36 of 48
Foreign Exchange Market:
Futures and Options
 Futures
– contract for future delivery of a currency
– specific volume of a currency to be
delivered on a specified date at a specified
rate
– volume is a fancy way of saying “how
much” eg, dollars volume = 50,000,000
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 37 of 48
The difference between a Futures Contract
and a Forward Contract is that the
Future Contract specifies the volume on a
specific date
- sold on an Exchange
, the Foward Contract specifies the
exchange rate
- sold by commercial banks
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 38 of 48
Foreign Exchange Market:
Futures and Options
 Options
– contract for the option to buy/sell a
currency at a specified price in a
specified time period
– call option gives right to buy a currency
– put option gives right to sell a currency
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 39 of 48
Eurocurrency Market
 Eurodollar
market
– MNCs depositing $US in European banks
– mostly American companies making
deposits in European banks
– the European banks took this money cause
they could easily lend it to European
customers who needed dollars to buy
American goods and services
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 40 of 48
Eurocurrency Market
 Eurodollar
market
– outgrowth of international banking needs and
circumvention of US banking regulations
 US
limits foreign lending by US banks
 meaning US law doesn’t allow US banks to lend
money easily to non-US customers
 If they do lend money at all, reserve limits are high
 Eurobanks have no reserve requirements
 smaller bid/ask spread exists in the more efficient
European market for US dollars
Page 76
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 41 of 48
Eurocurrency Market
 Composition
of market
– Eurobanks work with deposits and loans in
different currencies
 primarily
work with US dollars
 petrodollars are deposits by OPEC countries, in
dollars
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 42 of 48
Syndicated Loans
 When
you want to borrow a very large
amount of money, several banks form a
temporary alliance to provide the
amount
 this “syndication” allows for very large
projects to be financed, and the people
who lend the money, will proportionately
share in the interest payments
Page 77
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Slide 43 of 48
 Asian
dollar market
– Asian banks (usually in Hong Kong, Singapore)
 accommodate
financing needs of MNCs with $US
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 44 of 48
Eurocredit Market
 Medium-term
funds
– financing for one to five years
 LIBOR
– - London Interbank Offer Rate
– rate commonly charged for loans between
Eurobanks
Page 80
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 45 of 48
Foreign Bonds
 Foreign
bonds
– issued by a MNC in a foreign country
– “… issued by a borrower foreign to the country
in which the bond is placed” page 80
– e.g., US company issues bond in London that
are denominated in British pounds
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 46 of 48
Euro Bonds
 Euro
bonds
– “… sold in countries other than the country
represented by the currency denominating
them” page 80
– e.g., English company issues bond in Germany
that are denominated in British pounds
– issued in bearer form
– coupon payments made yearly
– most are denominated in U.S. dollars
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 47 of 48
International Stock Markets
 Equity
financing in non-domestic countries
 Yankee stock offerings
– issuance in the US by non-US companies
– MNCs attracted by the liquidity of US market
 American
Depository Receipts (ADR)
– certificates traded in US
 represent
bundles of stock in foreign countries
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson
Slide 48 of 48
Summary
 Foreign
exchange market
– facilitates financial trade/transactions by
exchanging currencies
 Eurocurrency
market
– provide services for deposits, short-term loans
 Eurobond
market
– facilitates int’l business with long-term credit
 International
stock markets
– provides equity financing in different countries
Slides developed by Jeff Madura, with additions and enhancements by Tim Richardson