III UNIT

(Q) INTERNATIONAL FINANCIAL MARKET

1. International financial markets play a crucial role in promoting economic well being
by bringing buyers and sellers together. When a multinational enterprise finalises its foreign
investment project, it needs to select a particular source, or a mix of sources of funds to finance
the investment project.
2. Functions of International Financial Market: a. Price Setting (willing to pay and price
discovery) b. Asset valuation (Market prices and Regulators) c. Arbitrage d. Raising Capital
e. Commercial Transactions f. Risk Management.
3. Criterial for Raising funds from International Financial Market: a. Minimisation of
effective cost of funds b. Borrowing to confirm Capital Structure Norm c. Selection of an
Optimal Maturity (Balance between Short term liabilities and Long term Liabilities) d.
Avoidance of lengthy legal and procedural formalities
4. International Money Market: Short term maturity---- demand deposits, time
deposits, trade bills and treasury bills--- financial resources must be liquid---A large share of the
funds is used for financing the foreign trade and movement of services between the countries--If the interest rate is higher abroad, there will be an outflow of short term funds. International
money market can be regarded as the market for short-term financing and investment
instruments that are issued or traded internationally.--- The core of this market is the
Eurocurrency market, where bank deposits are issued and traded outside the country that issued
the currency.
Features of International Money Market: a. Highly organised banking system b. Availability of
Proper Credit Instruments c. Existence of Sub-markets d. Ample Resources e. Existence of
Secondary market f. Demand and Supply of Funds.
5. International Capital/Stock Market: Long term claims to assets, such as
Govt.Bonds and Corporate Shares and Debentures.--- Capital markets now exist practically in
all those countries where some industrialisation has taken placeNew York Capital Market
now enjoys a unique position.---London was the principal capital market in the late eighteenth
and the nineteenth centuries---New issues of stock are increasingly being floated in
international markets for a variety of reasons---Non-US corporations that need large amounts of
funds will sometime issue the stock in the US due to the liquidity of the new issue market.--The locations of the MNCs operation can influence the decision of where to place stock, as the
MNCs may desire a country where it is likely to generate enough future cash flow to cover
dividend---The stock of some US based MNCs are widely traded on numerous stock exchange
of the world.
Features: a. Efficiently direct capital to productive uses b. Financing can be direct or indirect
c. Promote efficiency and productive investment.

(Q) Instruments in International Financial Market

1. Euro Loans/Credit: a. A market where financial banking institutions provide banking
services denominated in foreign currencies. They may accept deposits and provide loans. Loans
provided in this market are medium term loans. b. Euro credit market comprises banks that
accept deposits and provide loans in large denominations and in a variety of currencies. c. Euro
credits are provided mostly without any collateral security but the emphasis is on the credit
rating of the borrower. d. Revolving Credit: A limit is fixed for a borrower and he can draw
whenever he needs and interest will be levied only on the amount withdrawn. For unutilised
portion, a commitment fee may be charged. e. Term Credit: The credit is extended for a
specified term like 3 years; Euro credits are extended generally for a period of 5 to 8 years. In
some cases, it may go upto 15 years. f. The credits are generally extended in US Dollar but
other currencies are also used for lending.
Features of Euro Loans/Credits: i. 80 % of the Euro-Debts is made in USD and the second
currency is Pound Sterling ii. Most of the Syndicated debts are of the order of $50m and the
upper limit is >=$5b iii. Maturity period may be 5 to 20 years and reimbursement of the loan
may take place at one time or several instalments. iv. The interest rates are variable and
renewable every six months, fixed with reference to LIBOR. The LIBOR is the rate of money
market applicable to short term credits among the banks of London. The reference rate can be
equally PIBOR at Paris and FIBOR at Frankfurt etc. It is revised regularly.
Participants in Euro Credit Market: Euro Banks, American, Japanese, British, Swiss,
French, German, JP Morgan, Citicorp, National Bank of Chicago, Barclays Bank etc.
2. Euro Commercial Papers: a. ECP is issued only by those companies that possess a high
degree of rating. The ECP route for raising funds is normally investor-driven. b. ECP is issued
outside the country in the currency in which it is denominated. Most of the ECPs are
denominated in US Dollars. c. ECPs face minimal documentation.
Features: a. Unsecured b. Negotiable by endorsement and delivery. c. Highly safe and liquid
instruments d. Flexible and spread of maturities are available. e. Issued by public utilities,
insurance companies, transportation companies and finance companies.
Advantages: a. Cheap source of funds b. Simplicity in documentation, low cost of arrangement
and absence of rating requirements. c. Flexible maturity d. Diversification of short term funding
e. Flexibility in limits determined by the issuers cash flow requirements at any point of time.
3. Loan Syndication: a. When the size of the lending is huge running into a few hundred
millions or billions, a few banks join together and provided the loan. b. A syndicate credit is the
agreement between two or more lending institutions to provide a borrower a credit facility
utilizing common loan documentation.
Features of Loan Syndication: a. Access to Euro-Currency markets b. Recycling of Euro
Deposits from surplus to deficit areas c. Transform short-term Euro-Deposits to medium/long
term Euro Credits.

Documentation For Loan Syndication:

a. Mandate or Commitment Letter b. Term Sheet c. Information Memorandum
(information about borrower) d. Syndicated loan agreement e. Fee letters (The borrower
must pay the fees to the banker who is willing to pay additional burden/responsibility)
Types of Loan Syndication: a. Underwritten Deal b. Best Efforts Syndication c. Club Deal (It
is a smaller loan-usually $25-100 m, but as high as $150m)
Players in Loan Syndication: a. Managing Bank (Appointed by the borrower and this bank
negotiates with the other banks for helping the borrower) b. Lead Bank (Which provides the
major amount of the loan) c. Agent Bank (Appointed by the lenders to look after their interest
once the loan agreement is signed. They take over from the managing bank.) d. Participating
Bank (large commercial banks, who arrange the credits, take lions share and small banks take
whatever share is given to them and take a participation in the loan syndication)
Advantages of Loan Syndication: a. Huge amount and very Convenient b. Providing
flexibility and speed c. Single set of documentation/uniform terms and conditions d. Borrower
is able to raise resources at competitive rates. e. Risk is shared among many banks f,
Strengthens the relationship between banks and borrowers g. Small banks can also participate
Disadvantages of Loan Syndication: a. Country Risk b. No anticipation c. Many loans are
short-term in nature d. If borrowing countries are unable to meet their obligations on time, the
banks will be forced to roll over their loans indefinitely e. Does not improve the debtor
countrys ability to generate foreign exchange earnings.
4. Euro Deposits: (a) It refers to the deposit of a currency with the banks outside the country
where the currency is legal tender. (b) Euro Currency deposit consists of all deposits of
currencies placed with banks outside their home currency. (c) Deposits are placed at call
(Deposits for overnight) or for fixed deposits (Deposits accepted for periods of 1, 3, 6 and 12
months) as time deposits. (d) Deposits are accepted in the Eurocurrency market for a minimum
of $50000 or its equivalent in other currencies. (e) When a currency deposit is made in a bank
outside the jurisdiction of the Central Bank which issued the currency is termed as EuroDeposit.
Features of Euro-Deposits: (a) Short-Term Deposits (30-90 days) (b) Interest rates are fixed.
(c) Non-Negotiable unless specified (d) Interest rates fluctuate in response to demand and
supply pressures. (e) Euro-Deposits can also be made in composite currencies. (f) A large part
of liabilities of Euro Banks is in the form of CDs.
Advantages of Euro Deposits: (a) Stimulate interest rates (b) Possibility of making a deposit
in a lump sum or in instalments over a certain period (c) Depositors receive better returns than
the returns received in domestic country (d) Borrowers can borrow more, possibly at lower
interest rates than they borrow at domestic country.

5. International Bonds: (a) These are debt instruments and issued by international agencies,
governments and companies for borrowing foreign currency for a specified period of time. (b)
The issuer pays interest to the creditor and makes repayment of capital.
Features of International Bonds: (a) Issued by U.S. or International Corporations (b) Issued
in amounts of $1000 and greater. (c) Having varying maturity durations. Short term (1-5 Years),
Intermediate (5-10 Years) and Long term (>10 Years).(d) May be subject to Federal, State and
Local Taxes. (e) More risky than Govt. And Corporate Bonds, but they typically offer higher
returns than those offered by corporate bonds. (f) Rated in the same as Corporate bonds. Bondrating companies rate both U.S. Companies and large international Companies. (g) Traded by
brokers and through an exchange. (h) Sometimes callable.
Types of International Bonds: (a) Foreign Bonds: The issuer selects a foreign financial
market where the bonds are issued in the currency of that country. Underwritten by the
Underwriters. These bonds are subject to Government Regulations in the country where they
are issued. (b) Euro Bonds: Denominated in a currency other than the currency of the country
where the bonds are issued. Euro bonds are tailored to the needs of the multinational investors.
In England, Euro bonds with maturity between eight and twelve years are known as
intermediate Euro Bonds. Euro bonds are free from the rules and regulations of the country
where they are issued. (c) Global Bonds: It is the World Bank which issued the global bonds
for the first time in 1989 and 1990. Since 1992, such bonds are being issued also by companies.
They carry high ratings and normally large in size. Presently seven currencies in which such
bonds are denominated, namely, Australian Dollar, Canadian Dollar, Japanese Yen, Swedish
Krona and Euro. (d) Straight Bonds: This is the traditional types of bonds and the rate of
interest is fixed. (Bullet Redemption-Rising Coupon Bond-Zero coupon Bond-Bull & Bear
Bonds). (e) Convertible Bonds (f) Cocktail Bonds: Denominated in a mixture of currency.
The investors purchasing the cocktail bonds get automatically the currency diversification
benefits. (f) Floating Rate Bonds/Notes: Interest rate is varying in nature and the interest rate
is linked to a base rate like LIBOR, and the interest payable on the bond for the next six months
or one year is set with reference to the base rate. (g) Zero Coupon Bonds: Issued at discount,
but long term investments with maturity dates typically starting at 10 to 15 years. (h) Dual
Currency Bonds: These are debt securities that pay coupon interest in a different denomination
that the one in which the bond is issued.
Procedure of the issue of International Bonds:
Step1: The lead manager advises the issuer regarding the main features of the issue, the timing,
price, maturity and the size of the issue & about the buyers potential.
Step2: The issuer prepares the prospectus and other legal documents. The issuers own
accountant, auditor, legal counsel are very important for designing the issue in accordance with
the financial need of the company as well as with regulatory provisions existing in the country.
Step3: Investors look at the credit rating of the issuer as well as who is underwriting the issue.
This is why the lead manager along with co-managers help in the credit rating of the issuer by a
well-recognised credit rating institution.

Step4: This step includes the process of selling bonds. They are institution, such as investment
trust, banks and companies. They often purchase the bond through their buying agents. There
are also trustees who are usually a bank appointed by the issuer. Their duty is to protect the
interest of the investors, especially in case of default by the borrower.
6. Euro Bonds: Euro bonds are bonds of international borrowers sold in different markets
simultaneously by a group of international banks. These bonds are issued on behalf of Govt.s,
Big MNCs etc. Euro Bonds are unsecured securities and hence normally issued by Govt., Govt
corporations and Local bodies which are generally guaranteed by the Govt. Of the countries
concerned and big Multi National borrowers of good credit rating.
Features: (a) Not subject to the costly and time consuming registration procedure.
Requirements are also less stringent than those which apply to domestic issues. (b) Facilitates
negotiation in the secondary market. (c) Euro bonds offer investors, exemption from tax
withholding provisions applicable to domestic and foreign bonds. (d) Commonly denominated
in number of currencies. (e) Having a convertibility clause (f) Coupon payments are made
yearly.
Kinds of Euro-Bonds: (a) Straight Euro-Bond: (Fixed maturity and fixed rate of interest, but
unsecured and bonds holders are general creditors in case of default.) (b) Convertible EuroBond: (c) Bond with Warrants: (Warrant is an option to buy a stated number of common
shares at a stated price during a prescribed period. Warrants pay no dividends, have no voting
rights and become worthless at expiration unless the price of the common stock exceeds the
exercise price) (d) Multiple Currency bonds: (Allows the bond holder receive the interest
payment and the principal in any of the currencies specified in the bond. The bond holder can
choose the currency option) (e) Currency Cocktail or Currency Basket Bonds: Developed to
stabilize the purchasing power of the Coupon. This is accomplished by combining various
currencies as per some weighting process. (f) Yankee Bonds: These bonds are a dollar bond
issued in U.S. by non-U.S. borrowers/companies. (g) Samurai Bonds: It is a yen denominated
bond issued in Japan by non-Japanese companies. (h) Floating Rate Bonds: These bonds are
frequently called floating rate notes. The rate of return on these notes is adjusted at regular
intervals, usually every six months, to reflect changes in short-term market rates.
Advantages of Euro Bonds:
1.
2.
3.
4.
5.
6.
7.
8.

The size and depth of the market are large.

Freedom and Flexibility.
The cost of issue is very less i.e., 2.5%
More competitive
Suitable to long term requirements
Sound institutional framework for underwriting, distribution and placing of securities.
Interest can be free of income tax
An excellent reputation for credit worthiness

9. A special advantage to borrowers as well as lenders is provided by convertible EuroBonds.

7. Floating Rate Instruments/Notes (FRN): a. An instrument whose interest rate floats with
prevailing market rates. It pays a 3 or 6 months interest rate set above, at, below LIBOR.
b. All FRNs have Quarterly Coupons. A typical coupon would look like 3 months USD LIBOR
+0.2%.
Features:
1. Issued at the Face Value.
2. Interest is fixed
3. Interest made on half yearly basis
Advantages:
1.
2.
3.
4.

Lower price fluctuations

Interest payments at short intervals.
Portfolio Diversification and Risk management
Investors get higher returns when market rates are upward trend

Disadvantages:
1. Lower opportunity for price gains
2. Having inherent risks
8. American Depository Receipt (ADR)
a. It represents ownership in the shares of a non-U.S. Company and trades in U.S. Financial
Markets.
b. The stock of many non-U.S. companies trade on U.S. stock exchanges through the use of
ADRs.
c. ADRs enable U.S. investors to buy shares in foreign companies without hazards or
inconvenience of cross-border and cross-currency transactions.
d. ADR carry prices in U.S. Dollars, pay dividends in U.S. Dollars and can be traded like the
shares of U.S. Based Companies.
e. Each ADR is issued by a U.S. Depository bank and can represent a fraction of a share, a
single share, or multiple shares of foreign stock.

Features:
1.
2.
3.
4.
5.
6.

Listed on any American Stock Exchange

A single ADR can represent more than one share e.g. one ADR=Two shares
The holder of the ADRs can get them converted into shares
The holder of the ADRs has no vote in the company
The dividend on them is similar to the dividend on shares
ADRs in U.S. Dollar Denomination

Process of Issue of ADR:

1. Investor decide to invest in a non-U.S. Company
2. Contacts broker to make a purchase
3. Broker purchase actual ordinary shares to depository banks custodian in the foreign
country
4.