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© McGraw Hill Companies, Inc., 2000 The Global Capital Market Chapter 11
© McGraw Hill Companies, Inc., 2000 Functions of a Generic Capital Market Brings together: Those who want to invest: corporations, individuals, nonbank financial institutions. Those who want to borrow: individuals, companies, governments. Market makers: Commercial and investment banks that connect investors with borrowers. 11-1
© McGraw Hill Companies, Inc., 2000 The Main Players in a Generic Capital Market Investors: Companies Individuals Institutions Market makers: Commercial bankers Investment bankers Borrowers: Individuals Companies Governments 11-2 Figure 11.1
© McGraw Hill Companies, Inc., 2000 Attraction of the Global Capital Market? Increases the supply of funds available for borrowing. Borrower’s perspective Lowers the cost of capital. Investor’s perspective Provides a wider range of investment opportunities. 11-3
© McGraw Hill Companies, Inc., 2000 Market Liquidity and the Cost of Capital SS B D l D DD 21 Dollars 0 9 10% Cost of Capital 11-4 Figure 11.2
© McGraw Hill Companies, Inc., 2000 Risk Reduction Through Portfolio Diversification (a) Risk reduction through domestic diversification 0.27 1.0 1 10 20 30 40 50 U.S. Stocks Total Risk Systematic Risk Number of stocks Variance of portfolio return Variance of return on typical stock 11-5 Figure 11.3a
© McGraw Hill Companies, Inc., 2000 Risk Reduction Through Portfolio Diversification (b) Risk reduction through domestic and international diversification 0.27 1.0 1 10 20 30 40 50 U.S. Stocks International Stocks Number of stocks Variance of portfolio return Variance of return on typical stock 0.12 11-6 Figure 11.3b
© McGraw Hill Companies, Inc., 2000 Net International Bank Lending 11-7 Figure 11.4
© McGraw Hill Companies, Inc., 2000 International Bond Issues and the US Dollar Exchange Rate Left-hand Scale (31 Dec 1993=100): Exchange Rate against US$ Right-hand Scale ($ Billion): announced Issues US Dollar Yen European Currencies Other 100 200 300 11-8 Figure 11.5
© McGraw Hill Companies, Inc., 2000 International Equity Offerings and Equity Price Developments 20 60 40 80 Left-Hand Scale (US$) M.S.C.I. World Index Right-hand Scale ($ Billions) US$ Yen 11-9 Figure 11.6
© McGraw Hill Companies, Inc., 2000 Why The Growth? TECHNOLOGY. Deregulation by governments of capital flows and financial services. Risk: Nations may be more vulnerable to speculative capital flows. Short term investing. 11-10
© McGraw Hill Companies, Inc., 2000 Index of Capital Controls in Emerging Markets 0 = No Capital controls 1 = Tight Capital Controls 11-11 Figure 11.7
© McGraw Hill Companies, Inc., 2000 Eurocurrency It’s not the Euro! It is any currency banked outside its country of origin. 1950s. Eastern Europeans afraid US would seize deposits to reimburse claims for business losses as a result of Communist takeover of Eastern Europe. 11-12
© McGraw Hill Companies, Inc., 2000 Growth in Eurocurrency Funds One Billion 1.5 Trillion 11-13
© McGraw Hill Companies, Inc., 2000 The Eurocurrency Market Characterized by a lack of regulation compared to domestic financial markets. This means that you don’t have to pay for the cost of regulation. Hence, cheap (or cheaper) money. Downside: Banks could be more likely to fail (not probable) Because you are getting foreign money, you have currency exchange risks. 11-14
© McGraw Hill Companies, Inc., 2000 Interest Rate Spreads in Domestic and Eurocurrency Markets Rate of interest Domestic lending rate Domestic deposit rate Eurocurrency lending rate Eurocurrency deposit rate 0% 11-15 Figure 11.8
© McGraw Hill Companies, Inc., 2000 The International Bond Market Bonds tend to be fixed rate. Foreign bonds Sold outside the borrower’s country and in currency of country where issued. Eurobonds underwritten by an international syndicate. issued by large corporations, international institutions and governments. placed in country other than country of currency and its residents. 11-16
© McGraw Hill Companies, Inc., 2000 Euro vs Foreign Bonds (Billions of Dollars) 11-17
© McGraw Hill Companies, Inc., 2000 Attraction of the Eurobond Market? No government interference. Few disclosure requirements. Favorable tax status. 11-18
© McGraw Hill Companies, Inc., 2000 Global Equity Markets Where investors can buy/sell stocks. Made up of many stock exchanges around the world. 11-19
© McGraw Hill Companies, Inc., 2000 Trading in Non-US Stocks US Billions 11- 20
© McGraw Hill Companies, Inc., 2000 Who Uses These Markets? Investors seeking to diversify their portfolios. Companies seeking to issue stock in the country use stock and options as a form of employee incentives satisfy local ownership requirements create funding for future acquisitions increase the visibility of the company. 11-21
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