CAPITAL MARKET GROUP 2

• Depository Institutions


  • Commercial banks
  • Savings & loans association (SSL)
  • Savings banks
  • Credit unions
• Depository Institutions


  • Make direct loans to various entities
  • Invest in securities
• Thrifts


  Specialized types of depository institutions (S&Ls, savings banks, credit unions)
• Depository institutions are highly regulated because of the important role they play in the financial system
• Spread income or margin


  Allows the institution to meet operating expenses & earn a fair profit on its capital
• Credit risk


  The risk that a borrower will default on a loan obligation
• Regulatory risk


  The risk that regulators will change the rules and affect the earnings of the institution unfavorably
• Funding risk


  No manager of a depository institution can accurately forecast interest rate moves so consistently that the institution can benefit in the long-run
• Settlement risk


  According to the International Financial Risk Institute, the risk when there is a settlement obligation of a trade and the transfer fails to take place as expected
• Settlement Risk consists of

  • Counterparty risk that a counterparty in a trace tails to satisfy its obligation
  • Liquidity Risk Counterparty can eventually meets its obligation, but not on the due date
• Market Risk


  Risk to a financial institution's economic well being that results from on adverse movement in the price of assets
• Value-at-Risk


  A measure of a potential loss in a financial institution's financial position associated with an adverse price movement of a given probability over a specified time horizon
• Liquidity Risk has 2 forms

  • Market liquidity risk-financial institution unable to transact in a financial instrument at a price near its market value
  • Funding liquidity Risk risk that financial institution will be unable to obtain funding to obtain cash flow necessary to satisfy its obligations
• Operational Risk


  The risk of loss resulting from inadequate or failed internal processes
• Legal Risk


  The risk of loss resulting from failure to comply with laws as well as prudent ethical standards & contractual obligations
• Major categories of Operational Risk (suggested by Global Association of Risk Professionals)


  • Employee loss events resulting from the actions or inactions of a person who work for a firm
  • Business Process loss events arising from a firm's execution of business operations
  • Relationships-loss events caused by the connection or contact
  • Technology- loss events due to privacy, theft, failure, breakdown
  • External loss events caused by people or entities outside a firm
• Commercial Banks Services


  • Individual Banking
  • Institutional Banking
  • Global Banking
• Individual Banking


  Encompasses consumer lending, residential mortgage lending, consumer installment loans
• Institutional Banking


  Includes commercial real estate financing, Leasing activities, and factoring
• Global Banking


  Covers a broad range of activities involving corporate financing and capital market
• Deposit Types


  • Demand Deposit
  • Saving Deposit
  • Time Deposit
  • Money Market Demand Account
• Banking Act of 1933 contained 4 sections


  1933
• Glass-Steagall Act


  After decades of debate regarding the need for such restrictions, the Glass Steagall Act was repealed with the enactment of Gramm-Leach-Bliley Act in November 1999
• Gramm-Leach-Bliley Act


  Expanded the permissible activities for banks and bank holding companies
• Sources of funds for banks

  • Deposits
  • Non-deposit Borrowing
  • Common stock retained earnings
• Reserve requirements for banks

  1. All banks must maintain a specified percentage of their deposit in a non interest bearing account at 1 of the 12 Federal Reserve Banks

  2. These specified percentages are called reserve ratios

  3. The dollar amounts based on them that are required to be kept on deposit at Federal Reserve Bank are called required reserves
• Deposit computation period


  The Federal Reserve uses an established 2 week period
• Demand Deposit


  Pay no interest and can be withdrawn upon demand
• Saving Deposit


  Pay interest, do not have specific maturity, usually can be withdrawn upon demand
• Reserve requirements in each period are to be satisfied by

  Actual reserves
• Excess reserves


  The difference if actual reserves exceed required reserves
• Federal Funds Market


  The market where banks borrow or lend reserves
• Federal Funds rate


  The interest rate charged to borrow funds in the Federal Funds Market
• Time Deposit


  Also called certificate of deposits, set a fix maturity date and either pay fixed or floating interest rate
• Money Market Demand Account


  Pays interest based on short-term interest rates
• Federal Reserve Bank


  Banker's bank or the bank of last resort
• Discount rate


  The interest rate that the Federal Reserve charges to borrow funds
• Tier 1 capital

  Core capital
• Tier 2 capital

  Supplementary capital
• Savings and Loans Association (S&L)

  A fairly old institution