Commercial and Investment Banking and the International Credit and Capital Markets: A Guide to the Global Finance Industry and its Governance

Cover
Title page
Copyright page
CONTENTS
TABLES
FIGURES
ABOUT THE AUTHOR
PREFACE
ACKNOWLEDGEMENTS
ABBREVIATIONS
PART 1 THE FUNDAMENTALS OFFINANCE, MARKETS,VALUATION ANDFINANCIAL FIRMS
	1 THE PRICE MECHANISM ANDTHE THREE PILLARS OF FINANCE
		WHAT IS FINANCE?
		THE LIFECYCLE VIEW OF FINANCE
		AN INFLUENTIAL POLITICIAN’S VIEW OF FINANCE
		A VIEW FROM ANCIENT EGYPT
		FINANCE AS A SCIENTIFIC PROFESSIONAL TOOL
		THE MARKET PRICE AS THE MEANS OF ALLOCATING RESOURCES IN SOCIETY
		NON-MARKET ALLOCATION MECHANISMS
		OPTIMAL ALLOCATION OF RESOURCES OVER TIME INAN UNCERTAIN ENVIRONMENT
			Financial investment
			Real investment
		TIME SHIFTING OF CONSUMPTION
		RISK BEARING
		THE THREE PILLARS: THE SCIENTIFIC TOOLS OF FINANCE6
			Pillar 1: optimisation over time; the time value of money; discounting and compounding
			Example: an individual’s investment in his orher own human capital
			Example: corporate finance, a capital budgeting decision by managers
			Pillar 2: risk management
			Pillar 3: asset pricing
			Cash market instruments (capital assets)
			Derivative market instruments (contingent claims)
			Real assets
		THE UNIVERSE OF FINANCIAL ASSETS IN WHICH WE ARE INTERESTED
		ASSET VALUATION MODELS
			The Law of One Price, arbitrage and the price of financial assets
			Valuation models
			Valuing real estate
			Valuing equity shares – the price/earnings (PE) valuation approach
			Valuing equity shares – book value multiple
			Discounted cash flow valuation of bonds and equities
			Remember: the price of a bond moves inversely to the market rate of interest
		ISSUES IN BANK ASSET VALUATION AND VALUATION OF BANK SHARES
			Historic or amortised cost
			Mark-to-market (MTM) and fair value
			Trading book and banking book
			The relationship of market price to historical (book) cost for bank shares
	2 BALANCE SHEETS: THE KEY TO UNDERSTANDING TRANSFORMING FINANCIAL INTERMEDIARIES
		BALANCE SHEET MANAGEMENT
		INTRODUCING DEBT LIABILITIES INTO THE CAPITAL STRUCTURE
		IS THERE AN OPTIMAL AMOUNT OF DEBT
		SUBORDINATION
		DEBT-FREE FINANCIAL INSTITUTIONS FINANCED ONLY BY EQUITY
	3 FINANCIAL INTERMEDIATION: INDUSTRY SECTORS,PRODUCTS AND MARKETS
		FINANCIAL INTERMEDIARIES AS AGENTS OR PRINCIPALS
		HOW AGENTS AND PRINCIPALS DIFFER IN THEIR RELATIONSHIP WITH CLIENTS
		EXAMPLES OF PRINCIPAL AND AGENCY FUNCTIONS
			Brokerage and advisory intermediaries
			Stockbroker
			Corporate finance advisor
			Social lending and borrowing: person-to-person lending
			Investment bank new issue origination (primary market fi nancing): agency basis
		PRINCIPAL (CAPITAL) INTERMEDIATION
			Investment bank new issue origination (primary market fi nancing):principal basis
			Secondary market trading: dealing function
			Broker/dealer
			Commercial banking
		STRUCTURE OF THE INDUSTRY – FIRMS, PRODUCTS AND MARKETS
			Financial firms
				The banking sector
			Other financial institution sectors
			Firms providing infrastructure
			Clearing and settlement infrastructure
		FINANCIAL PRODUCTS AND SERVICES
		FINANCIAL MARKETS
		THE CHANGING NATURE OF THE INVESTMENT BANKING FIRM SINCETHE YEAR 2000: A BRIEF SUMMARY
		A WIDER PERSPECTIVE ON FINANCIAL INTERMEDIATION
	4 FINANCIAL INTERMEDIATION: COMMERCIAL AND INVESTMENT BANK STRUCTURE
		THE FIRST BANKS
		BANKS AS FINANCIAL INTERMEDIARIES
		TYPES OF BANK TODAY
			Central banks
			Commercial banks
			Investment banks
		INVESTMENT BANKS AND INVESTMENT BANKING: HISTORY
		THE STRUCTURE OF THE TYPICAL INVESTMENT BANK
			Structure of a ‘simple’ investment Bank
		DERIVATIVES TRADING: RISK MANAGEMENT SERVICES PROVIDED BY INVESTMENT BANKS
		RISK MANAGEMENT INVOLVING THE USE OFFINANCIAL INDUSTRY PRODUCTS
			Hedging using cash markets
			Hedging using forward and futures markets
			Option contracts – options as insurance
			Diversification
PART II PRIMARY MARKETS: FUNDING LIQUIDITY AND EXTERNAL CAPITAL ALLOCATION THROUGH CREDIT AND CAPITAL MARKETS
	5 LIQUIDITY: WHAT IS IT?
		DO BANKS CREATE LIQUIDITY?
		FUNDING (BORROWER) LIQUIDITY
			Households
			Corporates
			Countries
		PRIMARY MARKET FINANCING: FUNDING LIQUIDITY
		MATURITY OF FUNDING: BORROWER LIQUIDITY
	6 FINANCING THE FOUR SECTORS: COMPANIES, HOUSEHOLDS,GOVERNMENTS AND OVERSEAS THROUGH CREDIT AND CAPITAL MARKETS
		CORPORATE FINANCING (PRIMARY MARKET FUNDING LIQUIDITY FROM BANKS OR CAPITAL MARKETS)
			Project evaluation
			Pooling of funds (household assets and corporate assets)
			Depository institutions: commercial banks
			Capital markets: two pooling models
				Retail brokerage model
				Investment institution model
			Transfer across time
			Transfer across space
		FINANCING SECTORAL IMBALANCES
			Households
			Household financial decisions
				Consumption versus saving
				Risk management decisions
				Financing decisions
		Enterprise financial decisions
			Investment decisions
			Risk management decisions
		Government
		Overseas sector
		CAPITAL FLOWS WITHIN AND BETWEEN THE FOUR SECTORS
		THE FINANCING OF INTERNATIONAL FINANCIAL (IM)BALANCES
		GLOBAL IMBALANCES: THE WORLD’S LARGEST CURRENT ACCOUNT SURPLUSES AND DEFICITS
	7 BANKING: CREDIT INTERMEDIATION THROUGH DEPOSITORY INSTITUTIONS
		THE FUNCTIONS OF COMMERCIAL BANKS
			The liability side of the balance sheet
			The asset side of the balance sheet
		BANKS’ BALANCE SHEET TRANSFORMATIONS
			Credit risk transformation
			Maturity transformation
		MINIMISING THE RISK OF INSOLVENCY BY PRICING RISK APPROPRIATELY
		A CONSUMER CREDIT LOAN PRICING EXAMPLE
		PRICING INVESTMENT GRADE LOANS TO CORPORATE SAND LEVERAGED LOANS
		SYNDICATION
		THE PRICE, QUANTITY AND ALLOCATION OF, CREDIT
	8 BANK LIQUIDITY MANAGEMENT
		THE PROBLEM OF BANK RUNS
		BANK LIQUIDITY MANAGEMENT TO MINIMISE THE LIKELIHOOD OF A BANK RUN
		HOW BANKS MAINTAIN THEIR LIQUIDITY AND REGULATORY CAPITAL RATIOS: BALANCE SHEET LIQUIDITY MANAGEMENT
			Asset side of the balance sheet
				Self-liquidating assets (loan assets convert to cash)
				Reducing the acquisition of new loan assets
				Selling assets for cash: market liquidity
					Sale of assets held as liquid reserves
					Sale of loan assets
					Securitisation
			Liability side of the balance sheet
				Funding liquidity
				Unsecured borrowing
				Secured borrowing
				Repurchase Agreement
				Covered bonds
				Lender of last resort: the central bank as provider of liquidity insurance
	9 CONVERTING LOANS TO SECURITIES: SECURITISATION ASA FINANCING TOOL
		WHY DID BANKS CHOOSE TO SECURITISE?
		HOW DOES A SECURITY DIFFER FROM A LOAN ASSET?
		AGENCY SECURITISATION IN THE US
		NON-AGENCY SECURITISATION
		COLLATERALISED DEBT OBLIGATIONS (CDOS)
		THE TRANCHE STRUCTURE OF A CDO
		CREDIT DEFAULT SWAPS (CDSS): SEPARATING THE ‘TIME VALUE OF MONEY’FROM CREDIT RISK BEARING
		CREDIT DEFAULT SWAPS AND SYNTHETIC CDOS
		CASE STUDY OF A SYNTHETIC CDO FOR AN INSURANCE COMPANY INVESTMENT PORTFOLIO
		THE BANKS WERE NOT DISTRIBUTING: THEY WERE NOT DOING WHAT THEY SAID THEY WERE DOING
		SECURITISATION IN CHINA
	10 SHADOW BANKING: CREDIT INTERMEDIATION THROUGHNON-DEPOSITORY INSTITUTIONS AND MARKETS
		A REPRISE OF HOW COMMERCIAL BANKS MANAGE THEIR LIQUIDITY AND SOLVENCY RISKS
		WHAT IS ‘SHADOW CREDIT INTERMEDIATION’?
		THE ROLE OF MONEY MARKET MUTUAL FUNDS
		HOW CREDIT INTERMEDIATION HAS CHANGED
		WHAT WAS WRONG WITH THE SHADOW BANKING SYSTEM?
		CHINA’S SECURITISED PRODUCTS, OFF-BALANCE-SHEET PRODUCTS ANDMMMF EQUIVALENTS
	11 CAPITAL MARKET EQUITYINITIAL PUBLIC OFFERINGS AND CORPORATE BONDORIGINATION
		INFORMATION DISCLOSURE
		RATING AGENCIES AND PRICING
		STANDARDISED MARKET PRACTICES – HISTORY OF ICMA
		INITIAL PUBLIC OFFERING OF EQUITY
		HOW IS AN IPO UNDERTAKEN?
			Fees
		IPO PRICING
			Fixed Price Offer
			Book building
			Auction
		THE WORLD’S LARGEST IPO – AG BANK – A CASE STUDY
		GLENCORE
		FACEBOOK
		BOND ORIGINATION: SOVEREIGN AND CORPORATE
PART III SECONDARY MARKETS:MARKET LIQUIDITY AND MARKET FAILURE
	12 MARKET LIQUIDITY:ORDER-DRIVEN AUCTION MARKETS AND QUOTE-DRIVEN DEALER MARKETS
		WHAT IS TRADING AND WHY TRADE?
		TRADERS: BUY-SIDE AND SELL-SIDE
			Buy-side trader: working for an investment institution
			Motivations for buy-side trading
			The sell-side trader: working for a broker/dealer
		TYPE OF TRADER: PASSIVE AND ACTIVE – LONG, SHORT AND ARBITRAGE
			Passive
			Active
			Exogenous and endogenous factors in mispricing
			Time period between purchase and sale
				Traders concerned with the fundamentals of an asset
				Professional traders not concerned with long-term fundamentals
		MARKET MECHANISMS
			Bilateral trading
			Auction markets: single auction
			Auction markets: double auction
		A SUMMARY OF THE DIFFERENCES BETWEEN LIMIT AND MARKET ORDERS
		USE OF ‘CALL AUCTIONS’
		TEMPORAL FRAGMENTATION: QUOTE-DRIVEN/DEALER/OVER-THE-COUNTER MARKETS/BILATERAL TRADING
			Competing dealer quote screen
		CONCENTRATION AND FRAGMENTATION OF MARKETS
		INTEGRATING DEALERS INTO A COMPETITIVE MARKET STRUCTURE
		HOW DO DEALERS DISCOVER THE PRICE?
	13 THE NEW SECONDARY MARKET STRUCTURE: COMPETITION,DARK POOLS, ALGORITHMIC AND HIGH-FREQUENCYTRADING
		WHAT ARE THE MAIN CHANGES AND WHAT HAS DRIVEN THEM?
		BACKGROUND TO THE GROWTH IN THE NUMBERS OF, AND VARIETY OF BUSINESS MODELS EMPLOYED BY, TRADING CENTRES
		WHAT SHOULD THE OBJECTIVES OF MARKET REGULATORS BE?
		ALTERNATIVE TRADING SYSTEMS: ATSs, ECNs AND MTFs
		THE TRADER’S PROBLEM
		THE NEW COMPETITORS TO TRADITIONAL EXCHANGES
		THE PROBLEM OF CREATING A COMPETING EXCHANGE
			BATS (Better Alternative Trading System)
		LARGE TRADES AND INFORMATION LEAKAGE
			Dark pools/Crossing networks
		DARK POOLS AND BROKER-DEALER INTERNALISATION
			Algorithmic trading
		SIGMASM & SIGMA X
		INDEPENDENT BROKER ORDER EXECUTION ALGOS AND ROUTER
		HIGH FREQUENCY TRADING
			Atlantic crossing
			What strategies are employed by HFTs?
			Passive market-making
			Arbitrage trading
				Intermarket arbitrage
				ETF certificate arbitrage against underlying basket of shares
				Statistical (deterministic) arbitrage (stat-arb)
		THE MERGING OF ‘EXCHANGE’ AND DEALER MARKETS
			Exchange mergers: a case study of NYSE Euronext
			The economics of exchange mergers
	14 CLEARING AND SETTLEMENTOF SECURITIES TRANSACTIONS
		SETTLEMENT OF SECURITIES TRANSACTIONS
			What is securities clearing and settlement?
				Confirmation/trade matching
		CENTRAL COUNTERPARTY CLEARING AND NETTING
		SETTLEMENT
		SETTLEMENT BY OFFSET
	15 MARKET FAILURE: SUB-OPTIMAL ALLOCATION OF RESOURCES BY CREDIT AND CAPITAL MARKETSAND CONSEQUENT BANKING AND SOVEREIGN DEBT CRISES
		MARKET FAILURE
		WHY DO ASSET PRICES SUDDENLY FALL?
			Rational price fall
			Irrational price rise preceding an irrationally large fall
			Price falls that seem to be induced by market structure – independently of fundamentals
		EFFICIENT MARKETS CAN BE IRRATIONAL
		SOVEREIGN DEBT ASSET BUBBLES: FISCAL SUSTAINABILITY
		HOW MUCH SPENDING IS OPTIMAL?
		WHAT IS THE OPTIMAL TAXATION RATE?
		HOW MUCH BORROWING IS SUSTAINABLE?
		ASSESSING FISCAL SUSTAINABILITY
		FINANCIAL FRAGILITY
	16 ASSESSING RISK AND RETURN FOR INVESTORS IN BANK AND SOVEREIGN DEBT
		A BANK OR SOVEREIGN DEFAULT
		RESOLVING INSOLVENCY
		REPAYMENT OF DEBT PRINCIPAL: HOUSEHOLDS,SOVEREIGNS AND COMPANIES
		BANK FUNDING
		RESOLVING NATURAL PERSON DEFAULT
		RESOLVING CORPORATE (LEGAL PERSONS) DEFAULT
		THE RESOLUTION OF BANKS AND SOVEREIGNS
		BANK RESOLUTION
		RESOLVING THE ISSUES RAISED BY A BANK SUFFERING FINANCIAL DISTRESS
		BURDEN SHARING BETWEEN PRIVATE AND PUBLIC SECTORS FOR BANKS SUFFERING FINANCIAL DISTRESS
			Case study: Lehman – what might have been
		THE SOVEREIGN DEBT RESTRUCTURING MECHANISM
		SOVEREIGN DEBT DEFAULT AND COLLECTIVE ACTION CLAUSES
			Case study: Greece – insolvent and near default in 2011
			Case study: Italy – illiquid or insolvent in 2011?
		ITALY’S FINANCING PROBLEM
		IS THERE A SOLUTION FOR ITALY?
		THE COMPETITIVENESS PROBLEM
PART IV ASSESSING AND MANAGINGIV RISK IN ASSET PORTFOLIOS
	17 INVESTMENT MANAGEMENT AND PORTFOLIO STRUCTURING
		WHAT ARE THE RISKS INVOLVED IN INVESTMENT?
			Risk of catastrophic loss
			Risk from a collapse of the equity market
			Risk from not matching risk profile of assets against risk profile of liabilities
		STRUCTURING A PORTFOLIO
			Asset allocation
			Security selection: implementing the asset allocation strategy
			Security selection: what determines the rate of return on aparticular security
		THE IMPORTANCE OF INVESTOR BELIEFS IN DETERMINING THE APPROACH TO SECURITY SELECTION
			Active management: attempting to generate alpha
			Passive management: being satisfied with getting close to beta
		MARKET PRICING OF SHARES
		DO ACTIVE MANAGERS OUTPERFORM THE MARKET?
		PASSIVE MANAGEMENT: BETA PRODUCTS
		THE ANTITHESIS OF BETA PRODUCTS: ABSOLUTE RETURN STRATEGIES
		HOW TO OFFSET DOWNSIDE RISK: SHORT POSITIONS
		LONG/SHORT FUND
	18 INVESTMENT MANAGEMENT PRACTICE (FUNDS): PENSION,INSURANCE, SOVEREIGN WEALTH, LONG-ONLY, HEDGE,MUTUAL, CASH, ETF’S,SYNTHETIC ETFS AND DELTA ONE TRADING DESKS
		FUNDS
		INVESTMENT INSTITUTION FUNDS
			Pension funds
			Charities and endowment funds
			Sovereign wealth funds (SWFs)
			Assurance and insurance funds
		COLLECTIVE INVESTMENT FUNDS (POOLED FUNDS)
			Funds: legal structures, regulatory framework and liquidity
			The two separate entities involved in collective funds
			Collective fund structures
			Closed-ended funds
			Open-ended funds: mutual funds
			Open-ended funds: ETFs
			Synthetic ETFs
			ETFs and the Delta One department of an investment bank
			Absolute return funds: hedge funds
			Hedge fund strategies
			Fund liquidity
			Regulation of funds in the EU: undertakings for collective investments intransferable securities (UCITS) funds
			Alternative assets: hedge funds and private equity compared
			The new approach to real money fund management for the newmillennium
			Core/satellite
	19 WEALTH MANAGEMENT AND PRIVATE BANKING
		WEALTH MANAGEMENT/PRIVATE BANKING
		CASE STUDY: THE UK MARKET LEADER, BARCLAYS WEALTH
PART V INTERNAL CAPITAL ALLOCATION:THE ROLE OF DIRECTORS,INVESTORS AND THE MARKETFOR CORPORATE CONTROL
	20 THE INTERNAL CAPITAL MARKET AND INVESTOR GOVERNANCE OF CAPITAL ALLOCATION
		AFTER AN IPO
		MECHANISMS TO OVERCOME A FAILURE OF CORPORATE GOVERNANCE
	21 THE MARKET FOR CORPORATE CONTROL: MERGERS AND ACQUISITIONS
		MERGERS AND ACQUISITIONS
		WHO BENEFITS FROM A TAKEOVER?
		ACQUIRERS: TRADE, CONGLOMERATE AND FINANCIAL BUYERS IN ACQUISITIONS
			Trade buyers
			Conglomerate buyers
			Financial buyers
	22 PRIVATE EQUITY
		TYPES OF PRIVATE EQUITY FUND
		WHAT DETERMINES THE PRICE THAT A BIDDER CAN PAY FOR A COMPANY?
		ACQUISITION OF A PUBLIC COMPANY
		ACQUISITION OF A PRIVATE COMPANY OR A DIVISION OF A PUBLIC COMPANY
		FINANCIAL CHANGES
		REAL CHANGES
		FINANCING A PE ACQUISITION
		THE SECONDARY MARKET IN PE PARTICIPATIONS (SECONDARIES)
		A COMPARISON OF TWO ALTERNATIVE ASSET CLASSES
PART VI INTERNAL RISK MANAGEMENT AND EXTERNAL REGULATION OF FINANCIAL INTERMEDIARIES AND MARKETS
	23 RISK MANAGEMENT INCREDIT INTERMEDIARIES AND INVESTMENT BANKS
		RISK MANAGEMENT AND RISK MEASUREMENT
		WHAT IS RISK IN A BANK?
		THE MAJOR BANKING RISKS
			Credit and counterparty risk
			Market or price risk
		MEASURING AND MANAGING MARKET RISK: VALUE AT RISK (VAR)
		BALANCE SHEET RISKS
			Interest rate risk and asset and liability management (ALM)
			Managing liquidity risk
			Other risks
		MANAGING THE BANK
		CAPITAL AND LIQUIDITY RATIOS
		MINIMUM CAPITAL REQUIREMENTS
		HOW BANKS GENERATE THEIR RETURN ON EQUITY CAPITAL
	24 REGULATION OF BANKS ANDINVESTMENT BANKS: BASEL I, II AND III
		WHAT IS FINANCIAL SERVICES REGULATION?
			Conduct of business rules
			Prudential regulation
		BASEL II
		BASEL III
		CALIBRATION OF THE CAPITAL FRAMEWORK
		THE 3X3 MATRIX PLUS PLUS PLUS
		LIQUIDITY REQUIREMENTS
		NET STABLE FUNDING RATIO (NSFR)
		BASEL III: CAPITAL AND LIQUIDITY RULES – WILL THEY DAMAGE THEGLOBAL ECONOMY?
	25 REGULATION OF SECURITIES MARKETS
		THE START OF MARKET REGULATION
			Exchange Act requirements for a national market system
		EUROPE
		MIFID II AND MIFIR
		THE FLASH CRASH: US MARKET EVENTS OF 6 MAY 2010
PART VII THE ROLE OF GOVERNANCE AND STRATEGY IN RESOURCE ALLOCATION AND FIRM AND INDUSTRY STRUCTURE: CASESTUDIES IN FINANCIAL SERVICES
	26 BUSINESS UNIT ANDCORPORATE STRATEGY,GOVERNANCE AND FIRM ANDINDUSTRY STRUCTURE
		STRATEGIC MANAGEMENT
		CORPORATE GOVERNANCE
		THE CORPORATE GOVERNANCE PROCESS
		SCALE AND SCOPE IN FINANCIAL SERVICES
		INTEGRATION
		RETAIL BANKING AND INVESTMENT BANKING
	27 CASE STUDIES IN FINANCIAL SERVICES: SUCCESS AND FAILURES
		A TALE OF TWO COMPANIES: BARCLAYS PLC AND NOMURA
			Barclays Capital: a case study of the successful creation ofa bulge-bracket investment bank
			Nomura: a case study in which the ability to create a global investment bank is still unproven
			Why has the outcome for these two companies, Barclays and Nomura,been so different?
		UBS: WITHDRAWING FROM THE RACE?
			The UBS investor day: 18 November 2011
		MERRILL LYNCH: CASE STUDY OF ASSET MANAGER/WEALTH MANAGER/NEW ISSUE HOUSE THAT TRIED TO BREAK INTO THE INVESTMENT BANKING BULGE BRACKET
		CITIGROUP: A CASE STUDY OF A FIRM WHICH WANTED TO BEALL THINGS TO ALL MEN AND WOMEN
		ING: A CASE STUDY OF THE ABSENCE OF EXPECTED SYNERGIES,DIVERSIFICATION AND CROSS-SELLING OPPORTUNITIES
			Other businesses without obvious synergies
	28 THE FUTURE STRUCTURE OF THEINDUSTRY: IMPLICATIONS OFRE-REGULATION
		NEW REGULATIONS AND THE STRUCTURE OF THE INDUSTRY
		NEW REGULATIONS IN THE UK
		TRANSACTION TAXES: A TOBIN TAX
		WHAT WILL BE THE INDUSTRY STRUCTURE IN 2020?
		DERIVATIVES TRADING AND CLEARING
		WILL RE-REGULATION OF THE INDUSTRY PREVENTANOTHER FINANCIAL CRISIS?
		POSTSCRIPT – THE JP MORGAN CIO LOSS AND ITS IMPLICATIONS FOR GOVERNANCE AND REGULATION
	29 THE FATAL FLAW IN CAPITAL ALLOCATION: THE SHIFTFROM A TRUST MODEL TO A TRANSACTIONAL MODEL
		WINNERS AND LOSERS IN THE NEW BUSINESS MODEL
		INDUSTRY EFFICIENCY
	30 The Global Economic And Financial Outlook: 2020 Vision
		THE GLOBAL FINANCIAL SITUATION
		THE US OUTLOOK
		THE CHINA OUTLOOK
		THE EUROZONE CRISIS
INDEX