INTERNATIONAL FINANCIAL MARKETS

Chapter Preview• Discuss the international capital market • Describe the international bond, international equity, and Eurocurrency markets • Identify the foreign exchange market’s funct

International Financial Markets

Chapter Preview

• Discuss the international capital market

• Describe the international bond, international equity, and Eurocurrency markets

• Identify the foreign exchange market’s functions

• Explain currency quotes and the rates given

• Identify the instruments of foreign exchange

• Discuss government restrictions on currencies

Capital Market

Debt: Repay principal plus interest

 Bond has timed principal & interest payments

Equity: Part ownership of a company System that allocates financial resources

according to their most efficient uses

International Capital Market

Network of people, firms, financial institutions, and governments borrowing and investing internationally

Borrowers

 Expands money supply

 Reduces cost of money

Borrowers

 Expands money supply

 Reduces cost of money

Lenders

 Spread / reduce risk

 Offset gains / losses

Lenders

 Spread / reduce risk

 Offset gains / losses

Country or territory

whose financial sector

features few regulations

and few, if any, taxes

Country or territory

whose financial sector

features few regulations

and few, if any, taxes

International Bond Market

Foreign bond Interest rates Eurobond

is sold

Driving growth are differential interest rates between

developed and developing nations Market of bonds sold by issuing companies,

governments, and others outside their own countries

International Equity Market

Market of stocks bought and sold outside the issuer’s home country

Market of stocks bought and sold outside the issuer’s home country

currencies banked outside

their countries of origin

Foreign Exchange Market

 Conversion: To facilitate sale or purchase, or

invest directly abroad

 Hedging: Insure against potential losses from

adverse exchange-rate changes

 Arbitrage: Instantaneous purchase and sale of

a currency in different markets for profit

 Speculation: Sequential purchase and sale (or Market in which currencies are bought and sold

and their prices are determined

Change in Norwegian krone

against U.S dollar

Make krone base currency (1÷ NOK/$)

February 1: $.20/NOK March 1: $.25/NOK

%change = [(.25-.20)/.20] x 100 = 25%

Change in Norwegian krone

against U.S dollar

Make krone base currency (1÷ NOK/$)

February 1: $.20/NOK March 1: $.25/NOK

%change = [(.25-.20)/.20] x 100 = 25%

Norwegian krone rose 25%

Cross Rate

• Exchange rate calculated using two other exchange rates

• Use direct or indirect exchange rates against a third currency

Cross Rate Example

Direct quote method

1) Quote on euro = € 0.6354/$

2) Quote on yen = ¥ 106.81/$

3) € 0.6354/$ ÷ ¥ 106.81/$ = € 0.0059/¥

4) Costs 0.0059 euros to buy 1 yen

Indirect quote method

1) Quote on euro = $ 1.5737/€

2) Quote on yen = $ 0.009362/¥

3) $ 1.5737/€ ÷ $ 0.009362/¥ = € 168.09/¥

4) Final step: 1 ÷ € 168.09/¥ = € 0.0059/¥

Spot Rate

Exchange rate requiring delivery

of traded currency within two business days

Repatriate income

from sales abroad

Invest in another national market Pay supplier in

its own currency

Forward Rate

Rate at which two parties will exchange

currencies on a specified future date

 Forward Contract

 Derivative

 Premium vs Discount

Currency swap

Simultaneous purchase and sale of foreign exchange

for two different dates

Currency swap

Simultaneous purchase and sale of foreign exchange

for two different dates

Currency option

Option to exchange a specific amount of a currency on a

specific date at a specific rate

Currency option

Option to exchange a specific amount of a currency on a

specific date at a specific rate

Currency futures contract

Contract requiring the exchange of a specific amount of a currency

on a specific date at a specific rate, with all conditions

Currency futures contract

Contract requiring the exchange of a specific amount of a currency

on a specific date at a specific rate, with all conditions

Swaps, Options, and Futures

24-Hour Trading

Key Market Institutions

Interbank

market

Securities exchange

transactions

Exchange that specializes in currency futures and options

transactions

Global computer network of foreign exchange traders and other market participants

Global computer network of foreign exchange traders and other market participants

Over-the-Counter (OTC) market

Goals of Currency Restriction

Constrain individuals and companies from investing abroad

Preserve hard currency

to repay debts owed

to other nations

Preserve hard currency

to repay debts owed

to other nations

Preserve hard currency

to pay for imports and finance trade deficits

Preserve hard currency

to pay for imports and finance trade deficits

Currency Restriction Policies

Multiple exchange rate system

Import deposit requirements

What’s a firm to do?

“Countertrade”

Quantity restrictions

Chapter Review

• Discuss the international capital market

• Describe the international bond, international equity, and Eurocurrency markets

• Identify the foreign exchange market’s functions

• Explain currency quotes and the rates given

• Identify the instruments of foreign exchange

• Discuss government restrictions on currencies

International Financial Markets

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