Moneymarkettobelearnedhowsbprunthemoneymarket.pptx

Market money

1. MONEY MARKET

2. Cheque A document that orders a payment of money from a bank account. It is a type of bill of exchange 3 Parties Bank Account Holder Payee

3. Process of Clearing Inward Clearing A cheque drawn on Bank A and deposited in Bank B which will be sent by Bank B to Bank A and is inward clearing for Bank A. Outward Clearing A cheque drawn on Bank A and deposited in Bank B which will be sent by Bank B to Bank A and is outward clearing for Bank B. Bank A is the drawee in both cases and will verify the signature etc. to clear or return. NIFT – National Institutional Facilitation Technologies ICAS – Image Cheque Clearing & Archive System

4. Monetary Policy The policy through which central bank controls money supply in the economic system. Primary goal is price stability i.e. why inflation is the major factor considered. To promote economic growth Expansionary or Contractionary ? Tight or Loose policy?

5. Tools of Monetary Policy Policy Rate Open Market Operations Buying GoP securities to inject liquidity Sell GoP securities to mop up Reserve Requirements Margin Requirement Quantitative Easing Credit Ceiling

6. Factors influencing MM Market Demand for risk-free fixed-income securities in general—For example, a "flight to safety" caused by concerns about default or liquidity risk in other financial markets may cause investors to shift to T-bills to avoid risk. Supply of T-bills by the government--for example, federal budget surpluses reduce the supply of some Treasury securities issues Economic conditions may influence rates--for example, T-bill rates typically rise during periods of business expansion and fall during recessions. Monetary policy actions by the Central Bank--SBP actions that affect the Discount rate likely will influence interest rates for other close substitutes, including short-term T-bills. Inflation and inflation expectations also are factors in determining interest rates--for example, periods of relatively high (low) rates of inflation usually are associated with relatively high (low) interest rates on T-bills 6

7. Yield Curve 7

8. Factors Influence the Shape of Yield Economic Performance Central Bank operation Borrowing Demand Liquidity Preference Market Segmentation 8

9. PRIMARY VS SECONDARY MARKET New issues of securities are sold in public or private offerings by means of negotiated sales to an underwriter or underwriting syndicate or through competitive bidding in what is referred to as the “primary market”. After issuance, they may be traded in the “secondary market,” either on securities exchange or in OTC transactions directly between market participants.

10. Auction of Government Securities Types of Bids Competitive Bid Allows primary dealers to participate in the auction through their bids & amounts. Part of primary auction. Accepted at cut off yields of the primary auction bids. Pass through competitive bidding (Non Primary Dealers) Non Competitive Bid Allows investors (non banks) to invest in GoP securities through auction. Sent to SBP separately than primary auction without a quote. Accepted at Weighted Average Yield of the primary auction bids.

11. Auction of Government Securities Types of Yields: Cut Off Yield Yield at which bids are accepted. Yields higher than cut off are rejected. Yields lower than cut off are accepted. Weighted Average Yield Simple weighted average of the yields in the primary auction bids Direction of Yields The higher the government’s borrowing need, the higher the yield & lower the price & vice versa. The higher the investor’s demand, the lower the yield & higher the price & vice versa.

12. Settlement of Transactions Accounts Investor Portfolio Securities (IPS) Account Necessary for investing in government securities Customer is the legal owner of securities kept by the bank in IPS SCRA – Special Convertible Rupee Account For foreign investors in GoP Securities FCY converted in PKR for subsequent investment Readily convertible into FCY for remitting outside country

13. TYPES OF PORTFOLIOS Held-to-maturity (HTM) securities are those securities purchased for which management has both the positive intent and ability to hold to maturity. Held-to-maturity securities are reported on the balance sheet at amortized cost. Available-for-Sale (AFS) securities are defined as those not held-to-maturity or classified as trading. In practice, available-for-sale securities are generally those purchased for investment or liquidity management purposes. FAS 115 required that available-for-sale securities be marked-to-market, with unrealized gains or losses booked to a separate component of equity. Held-for-Trading (HFT) securities are those purchased and held principally for the purpose of selling them in the near term. Trading generally reflects active and frequent buying and selling, and trading securities are generally purchased or sold with the objective of generating profits on short term differences in price.

14. Funds Transfer pricing (ftp/ tp ) Transfer Pricing is a mechanism for dividing the net interest income of a financial institution (such as a bank) among its constituent business units. Separate income statement and balance sheets for each line of business to assess its performance. Transfer Pricing Principles The goals of transfer pricing are to: Be consistent across all Lines of Businesses Provide transparency to the process Recognize the value and cost of liquidity Use market reference rates

15. Purpose of Money Market The need for financial institutions to indulge in money market transactions arises primarily from the statutory reserve and liquidity requirements imposed by the State Bank. Statutory Cash Reserve Requirement Bi-Weekly average 6% of DTL ( Minimum Daily 4% of DDL) A/C with SBP Rate of Return = 0% Opportunity Cost = Av. Weekly O/N Rate Statutory Liquidity Requirement 19% of DTL in Eligible Liquid Assets 1. Treasury Bills 2. PIBs 3. Reverse Repos - Repos 4. Other Approved Assets i.e. NIT, Cash in Vault, Foreign Currency Held, Excess in CRR etc.

16. Quotes in Money Market Prices in the money market are always quoted in % terms per annum. Two way quote – Bid & Offer with a spread. Most markets use Bid/Offer for cash London market uses Offer/Bid for cash Bid for assets Offer for cash 5.25/5.15 Offer for assets Bid for cash Lending Rate Borrowing Rate

17. PAKISTAN REVALUATION RATES (PKRV) Securities are marked to market to correctly reflect their market value. Interpolation of rates

18. PIBs Calculation Price is quoted up to four decimal places. Yield is quoted to two decimal places. Cheque amount is rounded up to nearest whole number.

19. PIBs Calculation Accrued Interest is the interest that has been earned, but not yet been paid by the bond issuer, since the last coupon payment. Note that interest accrues equally on every day during the period. That is, it does not compound. So, halfway through the period, you will have accrued exactly one-half of the period's interest payment. It works the same way for any other fraction of a payment period. Clean price is the price of the bond excluding the accrued interest. Dirty price is the clean price plus accrued interest. Bond Prices are quoted by dealers without accrued interest. Buyer will pay the seller interest accrued since the last coupon payment. Invoiced price/Total Cheque Amount is the quoted price plus accrued interest.

20. PIBs Calculation Example in Excel file.

21. Repos Calculation Bank A wants to borrow PKR 100mn from Bank B for 30 days against 3 month T-bill in a repo transaction @ 7%. Details of t-bill are as follows: Issue Date: 25-Feb-21 Current Date: 25-Mar-21 Maturity Date: 20-May-21 (Days to Maturity: 56) Mark to Market Yield: 7.20% Calculate the sale price & repurchase price of T bills for the borrower assuming 365 days basis?

22. Repos Calculation Sale Price= FV/(1 + (MTM Yield * Days to Maturity/365)) Sale Price= 100/(1 + (7.20% * 56/365) Sale Price= 98.9074 Repurchase Price= Sale Price * (1 + (Repo Rate * 30/365)) Repurchase Price= 98.9074 * (1 + (7% * 30/365)) Repurchase Price= 99.4765 What is the markup paid by borrower on Repo? Sale proceeds/cheque amount and repurchase proceeds/cheque amount?

23. Call & Clean Transaction Call Money Call transactions consist of non-collateralized lending and borrowing of Funds. Transaction between Banks Clean Money Clean funds are similar to call funds in the sense that this is unsecured lending/ borrowing of funds. The only difference is that this sort of borrowing is done by investment banks and leasing companies. Transaction between banks & NBFI/DFI 23

24. Example If HBL lend to UBL 10 million rupees is made for 7 days at a rate of 7% per annum, how much interest would be received? What is the total amount repayable at the end of the period? Interest = A*R*D/365 I = 10,000,000*0.07*7/365 I= 13,424.66 FV= Pv (1+i*D/365) = 10,013,424.66 24

25. Leveraged portfolio Investing in T-Bill and PIB Borrowing from SBP through weekly Open Market Operations (OMO)

26. Short selling Lending (Reverse Repo) against specific security Selling that security in order to buy at lower price

27. Effective Annual Rate EAR= ( 1 + Interest Rate/n)^n – 1 What is the effective annual rate on a deposit of 12% compounded monthly? Solution: EAR= ( 1 + 0.12/12)^12 - 1 EAR= 12.6825% Interest Rates are always quoted p.a. EAR will always be higher if more than 1 compounding in a year

28. Equivalent Tax Yield A municipal bond yields 8% while a corporate bond yields 9%. If tax rate is 20%, which one would you invest in? Municipal bond yields are tax free, therefore 8% is tax free. Corporate bond yields are taxable, therefore after tax yield is required to compare: ETY = Yield * (1 – TR) ETY= 9% * (1 – 0.2) = 7.20% On equivalent basis, Municipal bond yields a better return as compared to Corporate Bond.

29. Nii & Nfi Net Interest Income Non-Funded Income

30. risks Settlement Risk is the risk of settlement of transaction. Counterparty Risk is the risk of default by counterparty. Interest Rate Risk refers to effect of changes in the prevailing market rate of interest on bond values. When interest rates rise, bond values fall. Yield Curve Risk arises from the possibility of changes in the shape of the yield curve (which shows the relationship between bond yields and maturity). Liquidity Risk has to do with the risk that the sale of fixed income security must be made at a price less than fair market value because of a lack of liquidity for a particular issue. Exchange Rate Risk arises from the uncertainty about the value of foreign currency cash flows to an investor in terms of his home-country currency. Inflation risk arises from unexpected inflation and can also be termed as purchasing power risk. Event Risk encompasses the risks outside the risks of financial markets, such as the risks posted by natural disasters and corporate takeovers. Sovereign Risk is essentially the credit risk of a sovereign bond issued by a country other than the investor’s home country.

31. Limits Counterparty Limit Call Placement/Lending Limit Repo Against PIB/T-Bill Rev. Repo Against PIB/T-Bill Repo Against TFC Rev. Repo Against TFC Dealer Lot Size Limit Repo Call Outright Buy or Sell T-Bill Outright Buy or Sell PIB Outright Buy or Sell TFC

32. Limits Investment Limits T-Bill (Total & Per Issue) Fixed Rate PIB (Total) Floating Rate PIB (Total) Portfolio Limit (HFT, AFS & HTM) TFC Limit Net Borrowing Limit Call/Clean Lending Cap Net Repo Limit

33. Limits Leveraged Portfolio Limit Price Value of one basis point (PV01) HFT, AFS, HTM, Total Management Action Point (MAP) Limit Realized Loss: MTD & YTD Unrealized Loss: MTD & YTD