Capital Market for Business Process Service Unit - II

Investment Banking - Trade Life cycle - Clearing and Settlement

1. Capital Market for Business Process Service
Unit –II
V Semester
Capital Markets for Business Process Services 1
Dr.D. Moorthy
Head & Associate Professor
Dept. of Commerce –BPS
Sri Ramakrishna College of Arts &
Science, (Autonomous)
Coimbatore –641 006.
Tamil Nadu

2. Investment Banking
Investment banking is a method of
controlling the flow of money. The goal of
investment banking is channeling cash from
investors looking for returns into the hands
of entrepreneurs and business builders who
are long on ideas, but short on bucks.
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3. Investment Banking
Investment bankers raise money from
investors, by selling securities, and then
transfer that money to people who need
cash to start businesses, build buildings, run
cities, or bring other costly projects to
reality.
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•Investment bankers get involved in the very early
stages of funding a new project or endeavor.
•Investment bankers are typically contacted by people,
companies, or governments who need cash to start
businesses, expand factories, and build schools or
bridges.
•Representatives from the investment banking
operation then find investors or organizations like
pension plans, mutual funds, and private investors
who have more cash than they know what to do with
and who want a return for the use of their funds.
•Investment banks also offer advice regarding what
investment securities should be bought or the ones an
investor may want to buy.

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Several key business areas
1.Capital raising
2.Financial advisory
3. Corporate lending
4. Sales and trading
5. Brokerage services
6. Research
7. Investments

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Traditional banks take deposits from savers with
excess cash and lend the
money out to borrowers. The main types of
traditional banks are commercial
banks (which deal primarily with businesses) and
retail banks (which deal
mostly with individuals).

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The difference between traditional banks and investment
banks, though,
•is the way money is transferred between the people
and institutions that need it and the ones who have it.
•Instead of collecting deposits from savers, as traditional
banks do, investment bankers usually rely on selling
financial instruments (such as stocks and bonds), in a
process called underwriting.
•By selling financial instruments to investors, the
investment bankers raise the money that ’ s provided to
the people, companies, and governments that have
productive uses for it.

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The primary forms of financial instruments sold by
investment banks include the following:
Equity
Debt capital
Hybrid securities
Most of what investment banks sell can be classified as either debt
or equity. But some securities take on traits of both, or are an
interesting spin on both.

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The functions of investment banks typically fall into one of two primary
categories: selling or buying.
✓The sell side:
Investment banks are best known for the part of their business
that sells securities, or the sell side. This function of the investment
bank is responsible for finding investors to buy the securities being sold,
which raises the money needed by businesses and governments to grow
and prosper.
✓The buy side:
Investment banks may also take the role of advising the
large investors who are interested in buying financial instruments.
Serving in its role on the buy side, the investment bank can offer suggestions
to large institutional investors like mutual funds, pension plans,
or endowments on which securities may be appropriate for it to buy in
order to meet return targets.

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Trade Life Cycle

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Trade Life Cycle
Stage 1: Pre-Trade
Pre-trade preparation for an institution includes the development of
systems, processes, and protocols to ensure that:
•All trading facilitated through the institution complies with relevant laws
and regulatory requirements.
•Data related to all trading and the trade life cycle is captured and
preserved
•Appropriate legal agreements, such as ISDA documentation for OTC
derivatives trades, are used when trades are made.
•Counterparty credit risk is understood to ensure suitability of
counterparties
•Appropriate collateral is collected and managed
•Risks associated with positions are understood and managed
•Appropriate controls are put into practice throughout the trade life cycle

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Trade Life Cycle
Stage 2: Trade Execution
1.The client’s motivation for trading may be:
•A cash need
•The need to hedge a position
•The need to diversify its portfolio
•The desire to monetize a view, such as the view that a specific stock will increase
in value.
2. The nature of a client’s orders can vary. For example:
Some orders require that trading take place at a specific price while
other orders do not.
•Some orders require that trading take place immediately while others condition
trading on a specified price level being met.
•Some orders may require that trading take place within a certain amount of time
while others do not.
•Some orders may require that trading take place within a certain amount of time
while others do not.

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Trade Life Cycle
Stage 3: Trade Clearing
When a trade is executed, the agreed transaction does not complete immediately. We can
distinguish between three dates associated with a trade:
Trade Date
This is the date that the counterparties agree to trade.
FX trade, does not actually take place on this date. Instead, the exchange takes place at a
specified future date depending on the underlying product and market.
Value Date
The value date is the date that the counterparties to a trade are contractually obligated to
exchange cash for securities, or one currency for another in the case of an FX trade. Note that
while the counterparties are contractually obligated to engage in the exchange on the value date,
they may fail to do so in practice.
Settlement Date
This is the date that the counterparties actually exchange cash for securities.
Trade Capture
Trade capture refers to an institution’s initial recording of executed trades. Only basic information
is initially captured, such as the underlying asset or currencies, price, amount/quantity, and trade
date and time.

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Trade Life Cycle
Trade Enrichment
Trade enrichment refers to the process of applying additional information to a trade to facilitate
processing of the subsequent stages of the trade life cycle. The type of data included in the trade
enrichment stage includes the value date, securities identifiers, legal details, and detailed
counterparty information.
Trade Validation
Trade validation is a final check on the information that an institution has gathered in relation to a
trade. The validation process provides the institution with an opportunity to identify problems
before communication with other entities begins in relation to the trade.
Trade Confirmation/Affirmation
Trade confirmation is the process through which trade details are verified and agreed between
direct participants to a trade, for example, between two institutions that are both trading on behalf
of their clients.Trade affirmation is the process through which trade details are verified and
agreed between the direct and indirect participants to a trade, for example, between an institution
that has traded on behalf of a client and the client itself.

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Trade Life Cycle
Trade Reporting
•Trade reporting refers to the reporting of transactions using an approved
reporting mechanism.
Settlement Instructions
•The final step that takes place before settlement is the preparation of
settlement instructions.

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Trade Life Cycle
Stage 4: Trade Settlement
Trade settlement refers to the completion of the agreed-upon transaction.
Settlement is a crucial stage as it represents actual exchange of value.
Settlement therefore requires careful management, protocols, and safeguards.
Broadly, there are two types of settlement method:
Delivery-versus-Payment (DVP)
DVP refers to settlement whereby securities are only delivered if payment is
made and payment is only made if securities are delivered. For example, if a
trade involves the purchase of shares of a stock, then both the cash and shares
are exchanged simultaneously.
Free-of-Payment (FOP)
FOP refers to settlement whereby the delivery of the securities and payment
of funds take place separately. This form of settlement is risky for the
counterparty that delivers first as the other counterparty may not deliver.

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Trade Life Cycle
Stage 5: Ongoing Position & Risk Management
Throughout the trade life cycle, there is a requirement for ongoing position and
risk management. This refers to the management of the numerous positions that
an institution holds in its portfolio, otherwise known as its trading book.
Some examples of position and risk management activities include:
•Managing corporate actions
•Managing counterparty credit risk
•Trade reconciliation
•Measuring profit and loss (P&L)
•Measuring risk and sensitivity
•Preparing internal and external reports

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Significance of Trade Life Cycle in Investment Banking
•Operational Efficiency
•Risk Mitigation
•Regulatory Compliance
•Timely Settlement
•Transparency and Trust
•Strategic Decision-Making

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How the clearing and settlement process works in the Indian stock market
Summary:
•Clearing and settlement is the transfer of funds and securities between
buyers and sellers in thestock market. In India, the settlement cycle has
changed fromT+2 to T+1for some securities, which means that trades are
settled the next day instead of two days after.
•You click 'buy,' and suddenly, you own shares worth a few thousand rupees in
a company. It seems simple, but have you ever wondered what happens
behind that click? How does the money leave your account, and how do the
shares appear there?
•This is where the clearing and settlement process in the stock market comes
into play. It's like the traffic police of the stock market that directs croresof
rupees and shares to the right places every day.
•But how exactly does this process work? How does it handle daily
transactions worth crores, ensuring buyers get shares and sellers get money?

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Understanding the clearing and settlement process
If you're thinking about trading shares in India, it's
important to know how the clearing and settlement
process works.
This process is handled by the National Securities
Clearing Corporation Limited(NSCCL), a non-profit
organization set up by the Securities and Exchange Board
of India (SEBI) in 1995.
NSCCL's job is to make sure everything goes smoothly
when shares are bought and sold.

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Securities Lending
Securities lending is the practice of loaning shares of stock,
commodities,derivative contracts, or other securities to other
investors or firms. Securities lending requires the borrower to
put up collateral, whether cash, other securities, or aletter of
credit.
When a security is loaned, the title and the ownership are
also transferred to the borrower. Aloan fee, or borrow fee, is
charged by a brokerage to a clientfor borrowing shares, along
with any interest due related to the loan.
The loan fee and interest are charged pursuant to
aSecurities LendingAgreement that must be completed before
the stock is borrowed by a client. Holders of securities that are
loaned receive arebatefrom their brokerage.

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•Securities lending involves a loan of securities
by one party to another, often facilitated by a
brokerage firm.
•Securities lending is important for several
trading activities, such as short selling, hedging,
arbitrage, and other strategies.
•Loan fees and interest rates are charged by
brokerages for borrowing securities, which can
vary depending on the difficulty of borrowing
the securities in question. The lender of
securities receives a rebate.

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Prime Brokerage
A prime brokerage is a bundled group of services
that investment banks and other financial
institutions offer to hedge funds and other large
investment clients that need to be able to borrow
securities or cash in order to
engage innettingto achieve
absolute returns.

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KEY TAKEAWAYS
•Prime brokerage refers to a bundle of services that investment
banks and other major financial institutions offer to hedge funds
and similar clients.
•Services included within a prime brokerage bundle may include
cash management, securities lending, and more.
•The services of a prime brokerage aid hedge funds in accessing
research, finding new investors, borrowing securities or cash, and
more.
•A prime brokerage service gives large institutions a mechanism
allowing them to outsource many of their investment activities and
shift focus onto investment goals and strategy.
•Financial institutions need a minimum account size to be able to
transact with prime brokers and all prime brokers have different
requirements and fees.

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Understanding a Prime Brokerage
Primebrokerage servicesrevolvearound facilitating the
multifaceted andactive trading operations of large financial
institutions, suchashedge funds. Central to their role, prime
brokers allow hedge funds to borrow securities and increase
theirleverage, while also acting as an intermediary between
hedge funds and counterparties such as pension funds and
commercial banks.
Prime brokerages, at times referred to asprime brokers, are
generally larger financial institutions that have dealings with
other large institutions and hedge funds. The majority of large
banks have prime brokerage units that service hundreds of
clients. Though prime brokerages offer a large variety of
services, a client is not required to take part in all of them and
can have services performed by other institutions as they see fit.

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Collateral management
Collateral has been used for hundreds of years to provide
security against the possibility of payment default by the
opposing party in a trade.Collateral managementbegan in the
1980s, withBankers TrustandSalomon
Brotherstakingcollateralagainst credit exposure. There were no
legal standards, and most calculations were performed manually
on spreadsheets. Collateralisationofderivativesexposures
became widespread in the early 1990s. Standardisationbegan in
1994 via the firstISDAdocumentation.

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Collateral management
In the modern banking industry collateral is mostly used
inover the counter (OTC)trades. However, collateral
management has evolved rapidly in the last 15–20 years with
increasing use of new technologies, competitive pressures in the
institutional finance industry, and heightenedcounterparty
riskfrom the wide use ofderivatives, securitization of asset
pools, andleverage.
As a result, collateral management is now a very complex
process with interrelated functions involving multiple parties.
Since 2014, largepensionsandsovereign wealth funds,
which typically hold high levels of high-quality securities, have
been looking into opportunities such as collateral transformation
to earn fees.

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Corporate Actions
When a publicly traded company announces a corporate action, the
investor knows it's an event likely to impact the stock price.
If you're a shareholder or considering buying shares of a company, you need
to understand how an action will affect the company's stock.
Corporate actions can also indicate a company's financial health and its
prospects in the near term.
KEY TAKEAWAYS
•A corporate action is any activity that brings material change to an
organization and impacts its stakeholders.
•These events typically need to be approved by the company's board of
directors.
•Corporate actions can be either voluntary, when investors choose to
participate, or mandatory, when participation is obligatory.
•Examples of corporate actions include stock splits, dividend distributions,
mergers and acquisitions, rights issues, Contingent Value Rights (CVRs),
spinoffs, name or trading symbol changes, and liquidation.

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Right Issue
A rights issue is an invitation to the
existing shareholders to buy
additional shares of the company at a
discounted price within a specific
time frame.

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