Inter Mediation

8/9/2019 Inter Mediation

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IntermediariesA third party ofering intermediation

services between two trading parties.Acts as a conduit (medium) or goodsor services ofered by a supplier to a

consumer.Ofer some added value to thetransaction that may not be possibleby direct trading.

Can be a person or organization.Facilitates contract between twoparties.


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Financial Intermediary

nstitution! "rm or individual perorms

intermediation "nancial conte#t. First party is provider o product or

service and second party is

consumer or customer. nstitution acting as middleman

between investors$"rms raising unds

is "nancial institutions. ncludeschartered ban%s! insurancecompanies! investment dealers!mutual unds! and pension unds.


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&ost people do not enter "nancialmar%ets directly but use

intermediaries or middlemen. Commercial ban%s are most common

"nancial intermediary.

&oney deposited in ban% used toma%e loans to anyone who needs.

A person could see% out borrowers

himsel and bypass the intermediaryand could get higher return.

Financial intermediaries provide

advantages to savers.


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'ending through an intermediary isless ris%y. ecause it can diversiy

lending portolio. 'oans givenmista%enly! ofset may be againstsound loans.

A saver could directly ma%e only a ewloans and bad loans wouldsubstantially afect his wealth.

Financial intermediaries acuire

specialist %nowledge to predictborrowers* ability to repay. +ence ris%reduced. (,ven a specialist may ma%e

some mista%es).


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Availability o liuidity. 'iuidity isability to convert assets into a money

uic%ly. ndividual lends money and suddenly

needs cash!

o

must either persuade the borrower torepay uic%ly! may not be possible! or

o "nd someone to buy the loan romhim! may be very di-cult.

ize o intermediary allows to holdsome unds idle as cash to provideliuidity to individual depositors.


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/hey can be a source o shoc%s to the economy!bumps may disrupt normal 0ow o economic lie.

an% debt serves as money! so disruptions to

ban%s can afect the amount o money incirculation.

/hey are tied together through chains o debtsand assets.

1ue to lin%ages! ailure o one can wea%en othersincreasing their chances o ailure.

a %ey "nancial intermediary ails! it may causeother institutions to ail.

&ay result into "nancial sector to 2seize up2 andstop unctioning.

erious disruption o the "nancial mar%ets willdisrupt the rest o the economy.


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Types of Intermediaries

an%ing and 3on4ban%ing institutions

/hey transer unds rom economicagents with surplus unds (surplusunits) to economic agents (de"cit units)that would li%e to utilize those unds.

an% Financial ntermediaries! Fs(Central ban%s and Commercial ban%s)

3on4an% Financial ntermediaries!

3Fs (insurance companies! mutualtrust unds! investment companies!pensions unds! discount houses and

bureau# de change).


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Fee ased$Advisory Financial ntermediaries5Ofer advisory "nancial services and chargea ee accordingly ./heir services include5

ssue &anagement

6nderwriting

7ortolio &anagement

Corporate Counseling toc% ro%ing

yndicated Credit

Arranging Foreign Collaboration ervices &ergers and Acuisitions

1ebentiure /rusteeship

Capital 8estructuring


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Asset4ased Financial ntermediaries5Finance speci"c reuirements o

clients. 8euired inra4structure! in the orm

o reuired asset or "nance is

provided or rent or interestrespectively.

/hey earn incomes rom interestspread! (diference between interestpaid and interest earned.)


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Channeling unds between surplus andde"cit agents.

A nancial intermediary is

t connects surplus and de"cit agents.

,#ample 9 an% 9 t transorms deposits intoban% loans.

Certain assets$liabilities transormed intodiferent assets$ liabilities.

/he savers give unds to ban% and it givesthose unds to borrowers 9loans$mortgages.

Alternatively! savers may lend the moneydirectly via "nancial mar%ets! which is

%nown as "nancial disintermediation.


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Functions

&aturity transormation4Converting

short4term liabilities to long termassets. an%s deal with large numbero lenders and borrowers and reconciletheir con0icting needs.

8is% transormation4Converting ris%yinvestments into relatively ris%4reeones. an%s lend to multiple borrowers

to spread the ris%. Convenience denomination4&atching

small deposits with large loans and

large deposits with small loans.


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Advantages of nancialintermediaries

Cost advantage over directlending$borrowing

&ar%et ailure protection the

con0icting needs o lenders andborrowers are reconciled! preventing

mar%et ailure


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Cost advantages of using nancialintermediaries5

8econciling con0icting preerences olenders and borrowers

8is% aversion intermediaries help spreadout and decrease the ris%s

,conomies o scale 4 reduces the costs olending and borrowing

,conomies o cope 4 ntermediaries

concentrate on the demands o thelenders and borrowers and are able toenhance their products and services (usesame inputs to produce diferent outputs)


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Financial intermediaries include5

an%s

Financial Advisors or ro%ers nsurance companies

Collective nvestment chemes

n ndia! the players in the unorganizedsector are5

&oney lenders

ndigenous ban%ers Chit unds

3idhis or mutual bene"t unds

el +elp ;roups


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3o estimate o the volume o business handledby unorganized sector.


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All India Development Financial Institutions

FC?

ndustrial 1evelopment an% o ndia >1?! whichmerged with 1 an%

ndustrial Credit and nvestment Corporation ondia >CC?! merged with CC an% in @@

ndustrial nvestment an% o ndia >?. /heormer ndustrial 8econstruction Corporation ondia converted into ndustrial 8econstructionCorp o ndia >8C? B was later converted into

in DDE mall ndustries 1evelopment an% o ndia

>1?! which is a wholly owned subsidiary o 1curved out through an act o parliament in DD.


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State Level Financial Corporations

&ainly concentrate on industrialdevelopment in a state.

'egal bodies created under the tateFinance Corporations Act! DE and undedthrough issue o shares in which the state

governments! ban%s! "nancial institutionsand private investors participate.

Also permitted to raise unds through theissue o bonds and debentures.

&ain ocus o FCs 9 "nancing localindustrial units! which are usually smalland medium units! situated in bac%ward

regions o the state.


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Insurance Companies

nsurance companies ul"ll insurance needs othe community! both or lie and non lie

insurance.

ith globalization large number o privateplayers have entered into this "eld! oferingproducts that allow investors to select the %ind

o policies to suit their "nancial planningneeds.

&any o these are ormed as subsidiaries oban%s that enable the ban%s to cross sellinsurance products to their e#isting customers.an%s bene"t by way o ee income throughreerrals and enhanced relationships withinsurance companies or their ban%ing needs.


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Mutual Funds

atisy needs o individual investors throughpooling resources rom a large number with

similar investment goals and ris% appetite.

8esources collected are invested in capitalmar%et and money mar%et securities andreturns generated distributed to investors.

&Fs und managers 4 specialists in investmentanalysis! able to diversiy and even out ris%sthrough portolio mi#.

&Fs ofer wide variety o schemes 4 growthunds! income unds! balanced unds! moneymar%et unds and euity related undsdesigned to cater to the diferent needs o

investors.


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Non Baning Finance Corporations

3FCs commonly %nown as "nance companiesare corporate bodies

Concentrate mainly on lending activities in wellde"ned area.

/he 8 Amendment Act! DDG de"nes 4 3FC 4"nancial institution or non ban%ing institution!

which has its principal business o receivingdeposits under any scheme or arranging andlending in any manner.

/here are H broad categories o 3FCs5

Finance Companies

'easing Companies

'oan "nance companies

nvestment "nance companies


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Financial adviser

7roessional renders "nancial services toindividuals! businesses and governments.

nvolves investment advice! may include pensionplanning! and$or advice on lie insurance! otherinsurances as income protection insurance! criticalillness insurance! mortgages

&any FA receive commission or the various"nancial products that they bro%er! although 2ee4based2 planning is becoming increasingly popular in"nancial services industry.

/here are two types o "nancial advisers 4 2ee4

based2 and 2ee4only2 advisers. Fee4based advisersoten charge asset based ees but may also collectcommissions. Fee4only advisers do not collectcommissions or reerral ees paid by other product

or service providers.


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Broer

Arranges transactions between a

buyer B seller and gets commissionwhen the deal is e#ecuted.

Acts as a seller or as a buyer

becomes a principal party to thedeal. /he agent is one who acts onbehal o a principal.


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Collective Investment Sc!eme

nvesting money with others to participatein a wider range o investments thaneasible or most individual investors andshare the costs and bene"ts o it.

/hey are oten reerred to as mutual

funds! investment funds! managedfunds! or simply unds. /hey occupysubstantial portion o all trading on maIorstoc% e#changes. Funds are oten selected

on the basis o speci"ed investment aims!their past investment perormance andother actors such as ees.


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/he Net Asset "alueor NA"is the valueo a scheme=s assets less the value o itsliabilities.

#pen$end fund is euitably divided intoshares which vary in price in directproportion to the variation in value o the

und=s net asset value. 3ew shares or units are created to match

the prevailing share price each time moneyis investedJ each time shares are redeemed!

the assets sold match the prevailing shareprice. n this way there is no supply ordemand created or shares and they remaina direct re0ection o the underlying assets.


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Closed$end fund issues a limited numbero shares (or units) in an 7O or throughprivate placement.

shares are issued through 7O! they arethen traded on e#change or directly throughund manager to create a secondary mar%et

subIect to mar%et orces. demand or the shares is high! they may

trade at apremiumto net asset value. demand is low they may trade at a discount

to net asset value. Further share (or unit)oferings may be made by the scheme idemand is high although this may afect theshare price.


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Alp!a% Beta% &$s'uared ( standarddeviation

For analyzing investmentperormance! statistical measuresare oten used to compare =unds=.

/hese statistical measures are otenreduced to a single "gurerepresenting an aspect o pastperormance5


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Alpha represents the und=s return whenbenchmar%*s return is K*. /his shows theund=s perormance relative to thebenchmar% B can demonstrate valueadded by the und manager. /he higherthe =alpha= the better the manager. Alpha

investment strategies tend to avour stockselectionmethods to achieve growth.

eta represents an estimate o how muchthe und will move i its benchmar% moves

by unit. /his shows the und=s sensitivityto changes in the mar%et. eta investmentstrategies tend to avour asset allocationmodels to achieve outperformance.


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&$s'uared is a measure o theassociation between a und and itsbenchmar%.


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Standard deviationis a measure ovolatility o the und=s perormance

over a period o time. /he higher the"gure the greater the variability othe und=s perormance. +ighhistorical volatility may indicate highuture volatility! and thereoreincreased investment ris% in a und.


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Types of ris

1epending on the nature o the investment! thetype o =investment ris%= will vary.

A common concern is that o losing the moneyinvested! i.e.! capital. /his ris% is reerred to ascapital ris.

investments are held in another currency there

is a ris% that currency movements alone mayafect the value. /his is reerred to as currencyris.

&any orms o investment may not be readily

salable on the open mar%et (e.g. commercialproperty) or the mar%et has a small capacity andinvestments may ta%e time to sell. Assets thatare easily sold are termed liquidthereore this

type o ris% is termed li'uidity ris

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Inter Mediation