Financial Institutions

An establishment that focuses on dealing with financial transactions such as investments, loans and deposits is called Financial Institution. Conventionally, financial institutions are composed of organizations such as banks, trust companies, insurance companies and investment dealers. Almost everyone has deal with a financial institution on a regular basis. Everything from depositing money to taking out loans and e change currencies must be done through financial institutions

Financial Institutions may also be define as An Institution which collects funds from the public and places them in financial assets, such as deposits, loans, and bonds, rather than tangible property.

!ince all people depend on the services provided by financial institutions, it is imperative that they are regulated highly by the federal government. For e ample, if a financial institution were to enter into bankruptcy as a result of controversial practices, this will no doubt cause wide"spread panic as people start to #uestion the safety of their finances. Also, this loss of confidence can inflict further negative e ternalities upon the economy.

Functions of Financial Institutions

Financial institutions provide service as intermediaries of financial markets. $hey are responsible for transferring funds from investors to companies in need of those funds. Financial institutions facilitate the flow of money through the economy

Financial Institutions
%e can say that function of financial institution is to refer to any organization in the business of moving, investing or lending money. It deals in financial instruments or in providing financial services. !uch institutions are commercial banks, thrifts, federal and state savings banks, saving and loan associations, and credit unions. $his is an Institution which collects funds from the public and places them in financial assets, such as deposits, loans, and bonds, rather than tangible property. !ome of the financial institutions also function as mediators in share markets and debt security markets. $he financial institutions are controlled and supervised by the rules and regulations delineated by government authorities. $he most outstanding feature of financial institutions is acting as financial intermediaries. A financial institution is defined as an institution that provides financial services for its clients or members. Financial institutions include banks, credit unions, asset management firms, building societies, and stock brokerages, among others. $hese institutions are responsible for distributing financial resources in a planned way to the potential users.

$here are a number of institutions that collect and provide funds for the necessary sector or individual. &n the other hand, there are several institutions that act as the middleman and 'oin the deficit and surplus units. Investing money on behalf of the client is another of the variety of functions of financial institutions. Financial institutions can be categorized as follows:
Deposit Taking Institutions Finance and Insurance

Institutions
In estment Institutions

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!ension !ro iding Institutions "isk #anagement Institutions

At the same time, there are several governmental financial institutions assigned with regulatory and supervisory functions. $hese institutions have played a distinct role in fulfilling the financial and management needs of different industries, and have also shaped the national economic scene. (eposit taking financial organizations is known as commercial banks, mutual savings banks, savings associations, and loan associations and so on. $he primary functions of financial institutions of this nature are as follows)
Accepting Deposits !ro iding $ommercial %oans !ro iding "eal &state %oans !ro iding #ortgage %oans Issuing 'hare $ertificates

Finance companies provide loans, business inventory financing and indirect consumer loans. $hese companies get their funds by issuing bonds and other obligations. $hese companies operate in a number of countries. &n the other hand, there are insurance companies that provide coverage for a variety of risk factors and they also provide several investment options. Insurance companies provide loans for a number of purposes and create investment products. $he functions of financial institutions, such as stock e changes, commodity markets, and futures, currency, and options e changes are very important for the economy. $hese institutions are involved in creating and providing ownership for financial claims. $hese institutions are also responsible for maintaining li#uidity in the market and managing price change risks. As part of their various services, these institutions provide investment opportunities

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and help businesses to generate funds for various purposes. $he functions of financial institutions like investment banks are also vital and related to the investment sector. $hese companies are involved in a number of financial activities, such as underwriting securities, selling securities to investors, providing brokerage services, and fund raising advice.

$ypes &f Financial Institutions

Commercial Banks Commercial banks accept deposits and provide security and convenience to their customers. *art of the original purpose of banks was to offer customers safe keeping for their money. +y keeping physical cash at home or in a wallet, there are risks of loss due to theft and accidents, not to mention the loss of possible income from interest. %ith banks, consumers no longer need to keep large amounts of currency on hand, transactions can be handled with checks, debit cards or credit cards, instead. Commercial banks also make loans that individuals and businesses use to buy goods or e pand business operations, which in turn lead to more deposited funds that make their way to banks. If banks can lend money at a higher interest rate than they have to pay for funds and operating costs, they make money.

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Investment Banks %hile investment banks may be called -banks,- their operations are far different than deposit"gathering commercial banks. An investment bank is a financial intermediary that performs a variety of services for businesses and some governments. $hese services include underwriting debt and e#uity offerings, acting as an intermediary between an issuer of securities and the investing public, making markets, facilitating mergers and other corporate reorganizations, and acting as a broker for institutional clients. $hey may also provide research and financial advisory services to companies. As a general rule, investment banks focus on initial public offerings .I*&s/ and large public and private share offerings. $raditionally, investment banks do not deal with the general public. 0enerally speaking, investment banks are sub'ect to less regulation than commercial banks. Insurance Companies Insurance companies pool risk by collecting premiums from a large group of people who want to protect themselves and1or their loved ones against a particular loss, such as a fire, car accident, illness, lawsuit, disability or death. Insurance helps individuals and companies manage risk and preserve wealth. +y insuring a large number of people, insurance companies can operate profitably and at the same time pay for claims that may arise. Insurance companies use statistical analysis to pro'ect what their actual losses will be within a given class. $hey know that not all insured individuals will suffer losses at the same time or at all. Brokerages A brokerage acts as an intermediary between buyers and sellers to facilitate securities transactions. +rokerage companies are compensated via commission after the transaction has been successfully completed. For e ample, when a trade order for a stock is carried out, an individual often pays a transaction fee for the brokerage company2s efforts to e ecute the trade. A brokerage can be either full service or discount. A full service brokerage provides investment advice, portfolio management and trade e ecution. In

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e change for this high level of service, customers pay significant commissions on each trade. (iscount brokers allow investors to perform their own investment research and make their own decisions. $he brokerage still e ecutes the investor2s trades, but since it doesn2t provide the other services of a full"service brokerage, its trade commissions are much smaller. Investment Companies An investment company is a corporation or a trust through which individuals invest in diversified, professionally managed portfolios of securities by pooling their funds with those of other investors. 3ather than purchasing combinations of individual stocks and bonds for a portfolio, an investor can purchase securities indirectly through a package product like a mutual fund. $here are three fundamental types of investment companies) unit investment trusts .4I$s/, face amount certificate companies and managed investment companies. All three types have the following things in common)
An undivided interest in the fund proportional to the number of shares

held
(iversification in a large number of securities *rofessional management !pecific investment ob'ectives

5et2s take a closer look at each type of Investment Company. Unit Investment Trusts (UITs) A unit investment trust, or 4I$, is a company established under an indenture or similar agreement. It has the following characteristics)
$he management of the trust is supervised by a trustee.

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4nit investment trusts sell a fi ed number of shares to unit holders,

who receive a proportionate share of net income from the underlying trust.
$he 4I$ security is redeemable and represents an undivided interest

in a specific portfolio of securities.

$he portfolio is merely supervised, not managed, as it remains fi ed

for the life of the trust. In other words, there is no day"to"day management of the portfolio. Face Amount Certificates A face amount certificate company issues debt certificates at a predetermined rate of interest. Additional characteristics include)
Certificate holders may redeem their certificates for a fi ed amount on

a specified date, or for a specific surrender value, before maturity.

Certificates can be purchased either in periodic installments or all at

once with a lump"sum payment.

Face amount certificate companies are almost none istent today.

Management Investment Companies $he most common type of Investment Company is the management investment company, which actively manages a portfolio of securities to achieve its investment ob'ective. $here are two types of management investment company) closed"end and open"end. $he primary differences between the two come down to where investors buy and sell their shares " in the primary or secondary markets " and the type of securities the investment company sells.
Closed-End Investment Companies) A closed"end investment

company issues shares in a one"time public offering. It does not continually offer new shares, nor does it redeem its shares like an open"end investment company. &nce shares are issued, an investor

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may purchase them on the open market and sell them in the same way. $he market value of the closed"end fund2s shares will be based on supply and demand, much like other securities. Instead of selling at net asset value, the shares can sell at a premium or at a discount to the net asset value.
Open-End Investment Companies) &pen"end investment

companies, also known as mutual funds, continuously issue new shares. $hese shares may only be purchased from the investment company and sold back to the investment company. 6utual funds are discussed in more detail in the 7ariable Contracts section.

Non-bank Financial Institutions

$he following institutions are not technically banks but provide some of the same services as banks. Savings and oans !avings and loan associations, also known as !85s or thrifts, resemble banks in many respects. 6ost consumers don2t know the differences between commercial banks and !85s. +y law, savings and loan companies must have 9:; or more of their lending in residential mortgages, though other types of lending is allowed. !85s emerged largely in response to the e clusivity of commercial banks. $here was a time when banks would only accept deposits from people of relatively high wealth, with references, and would not lend to ordinary workers. !avings and loans typically offered lower borrowing rates than commercial banks and higher interest rates on deposits, the narrower profit margin was a byproduct of the fact that such !85s were privately or mutually owned.

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Credit Unions Credit unions are another alternative to regular commercial banks. Credit unions are almost always organized as not"for"profit cooperatives. 5ike banks and !85s, credit unions can be chartered at the federal or state level. 5ike !85s, credit unions typically offer higher rates on deposits and charge lower rates on loans in comparison to commercial banks. In e change for a little added freedom, there is one particular restriction on credit unions, membership is not open to the public, but rather restricted to a particular membership group. In the past, this has meant that employees of certain companies, members of certain churches, and so on, were the only ones allowed to 'oin a credit union. In recent years, though, these restrictions have been eased considerably, very much over the ob'ections of banks. S!ado" #an$s $he housing bubble and subse#uent credit crisis brought attention to what is commonly called -the shadow banking system.- $his is a collection of investment banks, hedge funds, insurers and other non"bank financial institutions that replicate some of the activities of regulated banks, but do not operate in the same regulatory environment.

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