FMI
Overview of Market Participants &
Financial innovation
Chap 2
Financial Market Participants
Households
Business units
Federal, state, and local governments
Government agencies
Supranationals
Regulators
Financial Innovation
Categorizations of Financial Innovation
Market-broadening Instruments- Increase
liquidity of markets and availability of funds by
attracting new investors and offering new
opportunities for borrowers
Risk- management instruments
reallocate risk to those who are less risk averse.
Financial Innovation
Arbitraging instruments and processes- enable
investors and borrowers to take advantage of
differences in costs and returns between
markets.
Motivation for Financial
Innovation
Causes of Financial Innovation
Increased volatility of interest rates , inflation , equity prices and
exchange rates
Advances in computer and telecommunication technologies
Greater sophistication and educational training among professional
market partcipants
Financial intermediary competition
Incentives to get around existing regulation and tax laws
Changing global patterns of financial wealth..
Financial institutions
Financial institutions are businesses which
offer multiple services in banking and
finance. The services, that customers receive
may include savings and checking
accounts, loans, investments, and financial
counseling. The benefits consumers gain
by using financial institutions includes
convenience, cost savings, safety, and
security.
Types of Financial Institutions
1. Depository institutions: Those that accept deposits from customers
— include commercial banks, savings banks, and credit unions
2. Non depository institutions: Those that don’t accept deposits from
customers —include finance companies, insurance companies, and
brokerage firms.
The banking sectors and non-banking sectors are regulated by the
central bank, State Bank of Pakistan.
While rest of the market (lease, stock exchanges, modarba, mutual
funds and insurance) is regulated by Securities and Exchange
Commission of Pakistan.
Characteristics of Financial institutions:
Accept deposits
Transfer funds
Lend money
Storing valuables
Provide financial advice and investment services
Manage trusts
Types of Depository Financial Institutions
Commercial Banks
Savings and Loans
Credit Unions
Take deposits and make loans
Depository institutions
Banks
A bank is a commercial or state institution that
provides financial services, including issuing money in
various forms, receiving deposits of money, lending
money and processing transactions and the creating of
credit.
Central Bank
A central bank, reserve bank or monetary authority, is an
entity responsible for the monetary policy of its country or
of a group of member states, such as Pakistan State Bank
Primary responsibilities
Maintain the stability of the national currency and money
supply,
Control subsidized-loan interest rates,
Act as a “lender of last resort” to the banking sector during
times of financial crisis.
Commercial Banks
Commercial banks are the most important source of
funds for business firms in aggregate.
Banks acquire deposits from individuals, companies
and government and in turn makes loan and
investments.
Besides performing a banking function, commercial
banks also invest in corporate bonds and stocks
Savings and Loans
Savings and loans’ primary purpose is to take in
deposits from households and to lend funds for home
and consumer loans.
Saving Banks
A saving bank is a financial institution whose primary
purpose is accepting savings deposits. It may also
perform
some other functions
Credit Unions
Credit Unions are owned by depositors (actually share
owners) who are individuals, not businesses. Credit
Unions take in funds and primarily make personal
loans.
Services of Financial Institutions
Transforming Financial Assets
Exchanging Financial Assets on Behalf of
Customers
Exchanging Financial Assets for Own Account
Assisting in the Creation of Financial Assets
Providing Investment Advice
Managing Portfolios
Financial non depository
institutions
Financial non depository institutions
are financial intermediaries that do not
accept deposits but do pool the payments of
many people in the form of premiums or
contributions and either invest it or provide
credit to others.
Investment banks
Investment banks help companies and governments
and their agencies to raise money by issuing and
selling securities in the primary market.
They assist public and private corporations in raising
funds in the capital markets (both equity and debt),
providing strategic advisory services for mergers,
acquisitions and other types of financial transactions.
Islamic Banks
Islamic banking refers to a system of banking or
banking activity that is consistent with Islamic law
(Sharia) principles and guided by Islamic economics.
In particular, Islamic law prohibits usury, the
collection and payment of interest, also commonly
called riba in Islamic discourse.
Specialized Banks
ZTBL
– The Zarai Taraqiati Bank Limited It is also known as
Agricultural Development Bank of Pakistan (ADBP).
– It is the premier financial institution geared towards
the development of the agricultural sector through the
provision of financial services and technical know-
how.
DEVELOPMENT BANKS
These banks provide guidance in selection of industrial units and
extend direct financial assistance to partly cover their financial
requirements,
Responsible for speeding up the pace of economic growth in the
country in conformity with the national objectives, plans and
priorities.
Their core functions are:
• Direct financial assistance
• Mobilization of domestic savings
• Expanding entrepreneurial base by encourage new comers
Micro Finance Banks
For the purpose of poverty reduction program, such
kind of banks are working in the different countries
with the contribution of UNO or World Bank.
The main aim of microfinance institutions is
alleviation of poverty through helping poor persons to
earn some money especially the women.
Insurances Companies
Insurance is a hedge against the risk of a contingent and
uncertain loss.
In other words, it is the equitable transfer of the risk of a loss,
from one entity to another, in exchange for payment.
For this service, the insurer charges a fee called premium
depending upon the risk involved.
Insurance companies may be classified as:-
1. Life insurance companies, which sell life insurance,
annuities and pensions products.
2. Non-life or general insurance companies, which sell other
types of insurance.
Pawnshops
pawnshops that make loans based on the value of
property such as jewelry, electronics, or other valuable
items.
Pawnshops charge much higher fees than other
lending institutions.
Pension Funds
Workers and/or employers contribute funds for the
pension fund to invest. The accumulated funds are
used to pay benefits at retirement.
Because of the long nature of the liabilities pension
funds are able to invest in long term securities. As a
result they invest heavily in corporate bondsand stock.
MODARBA
If is a form of partnership which has two distinct
parties:
(i) the financier
(ii) the manager.
The financer takes no part of management of the
business. The profits are distributed among the
subscriber while the manager is paid the usual salary.
Modarba is one the modes of Islamic finance. It is like
mutual fund minus its un-Islamic features
Non-banking financial company
Non-bank financial companies (NBFCs) also known as
a non-bank or a non-bank bank, are financial
institutions that provide banking services without
meeting the legal definition of a bank, i.e. one that does
not hold a banking license.
Acts as suppliers of loans and credit facilities,
supporting investments in property,
Providing services relating to events within peoples
lives such as funding private education, wealth
management and retirement planning
DISCOUNT HOUSES
These are firms which buys and discounts bills of
exchange, banker‘ acceptance, commercial paper, etc.
Discount houses also tender for treasury bills, deal in
short-dated government bonds, and are an important
part of the short-term money markets.
Leasing Companies
A lease or tenancy is the right to use or occupy personal property or
real property given by a lessor to another person (usually called the
lessee or tenant) for a fixed or indefinite period of time, whereby the
lessee obtains exclusive possession of the property in return for paying
the lessor a fixed or determinable consideration (payment).
It is a contract where owner of an asset agrees to allow someone to use
it for a fixed rental. It can be for fixed or indefinite period of time. It is
a binding contract which sets out terms of lease agreement between the
owner and the user.
• Asian Leasing Corporation Ltd
• ASKARI LEASING LIMITED
Finance Companies
Non-bank firms that borrow funds to make short
and medium term loans to higher risk borrowers.
These companies raise capital through stock issues
as well as through borrowing some of which are
long term but most of it comes from commercial
banks, in turn financial companies makes loans.
Mutual Fund
An investment which is comprised of a pool of funds
collected from many investors for the purpose of
investing in
securities such as stocks, bonds, money market
securities and similar assets
Closed-end fund has a fixed number of shares offered
by an investment company through an initial public
offering.
Open-end funds are offered through a investment
company that sells shares directly to investors.
Brokerage Houses
Stock brokers assist people in investing, online only
companies are called 'discount brokerages', companies
with a branch presence are called 'full service
brokerages' or 'private client services.
Investment company
Generally, an "investment company" is a company that
issues securities and is primarily engaged in the
business of investing in securities.
Financial Intermediaries
Types of Intermediary Primary Liabilities Primary Assets
Depository Institutions Deposits Business, consumer loans, mortgages,
Commercial Banks govt securities, municipal bonds
Savings and loan association Deposits Mortgages
Mutual Saving banks Deposits Mortgages
Credit unions Deposits Consumer loan
Contractual saving institutions
Life insurance companies Premium from policies Corporate bonds and mortgage
Fire and causality insurance Premium from policies govt securities, municipal and
companies corporate bonds
Pension fund, govt retirement fund Employer and employee contribution corporate bonds and stocks
Investment intermediaries
Finance Companies Commercial papers, stocks,bonds Consumer and business loans
Mutual funds Shares Stocks, bonds
Money market mutual fund Shares Money market instruments
Role of Financial Intermediaries
Engage in process of indirect finance--Transfer of funds from savers
to investors
Needed because of transactions costs and asymmetric
information
Financial intermediaries have evolved to
reduce transaction costs
– Economies of scale
– Expertise
Providing Maturity Intermediation
Reducing Risk Through Diversification
Reducing Costs of Contracting and
Information Processing
Providing a Payments Mechanism
