Final lecture

NES FF 2005/06 2 Plan OECD statistics on financial markets OECD statistics on financial markets FSFR strategy FSFR strategy Complicated strategies with options Complicated strategies with options Q&A Q&A

NES FF 2005/06 3 FSFR: Why do we need developed financial market? Contributes to economic growth Contributes to economic growth Increases allocation efficiency Increases allocation efficiency Allows longer-term investment projects Allows longer-term investment projects Makes the cost of capital lower Makes the cost of capital lower Stimulates innovations Stimulates innovations Having a large number of financial instruments helps to achieve macro stability Having a large number of financial instruments helps to achieve macro stability Makes the economy less sensitive to external shocks and systemic crises Makes the economy less sensitive to external shocks and systemic crises

NES FF 2005/06 4 What is the market cap of Russian stock market? Equity: from 17% of GDP in 2000 to 42% (7 trln rub) in 2004 Equity: from 17% of GDP in 2000 to 42% (7 trln rub) in 2004 Corporate bonds: from 0.5% in 2000 to 2% in 2004 Corporate bonds: from 0.5% in 2000 to 2% in 2004 Derivatives: 8 bln rub in 2004 Derivatives: 8 bln rub in 2004 Insurance: 1400 companies, premiums of 0.5 trln rub, Insurance: 1400 companies, premiums of 0.5 trln rub, Investment funds: 286, over 100 bln rub in 2004, 85 thous investors Investment funds: 286, over 100 bln rub in 2004, 85 thous investors

NES FF 2005/06 5 Characteristics of Russian fin market Low free float: 5-25% Low free float: 5-25% Trading volume migrates to foreign stock exchanges via ADRs (75% in 2004) Trading volume migrates to foreign stock exchanges via ADRs (75% in 2004) The bulk of pension money is still in the State Pension Fund investing only in state bonds The bulk of pension money is still in the State Pension Fund investing only in state bonds Still narrow, concentrated and mostly illiquid market Still narrow, concentrated and mostly illiquid market

NES FF 2005/06 6 Why do large companies choose to issue abroad? Local legislation is less developed Local legislation is less developed Foreign investors: high transaction costs and insufficient protection in Russia Foreign investors: high transaction costs and insufficient protection in Russia Local demand is not sufficient Local demand is not sufficient

NES FF 2005/06 7 FSFR strategy Developing market infrastructure Developing market infrastructure –Central depository, clearing, monitoring of risks, taxation, promoting pension reform and life insurance Easier regulation for companies entering the capital market Easier regulation for companies entering the capital market –Derivatives market, securitization, mortgages, laws Legislation protecting investor rights Legislation protecting investor rights –Info transparency (IAS), insider trading, CG (esp at reorganization) Reform the fin regulation system Reform the fin regulation system –Mega-regulator

NES FF 2005/06 8 Sample exam questions Which country has the highest ratio of total fin assets to GDP? Which country has the highest ratio of total fin assets to GDP? How does the ratio of bonds to stocks vary across the countries? How does the ratio of bonds to stocks vary across the countries? What is the largest inst investor in the world judging by fin assets? What is the largest inst investor in the world judging by fin assets? What inst investor has the fastest growth of assets in the world? What inst investor has the fastest growth of assets in the world?

NES FF 2005/06 9 Sample exam questions FSFR FSFR –Why need mega-regulator? –How to attract trading to domestic exchanges? Margin Margin –What is the benefit from trading on margin? –Which type of traders / FIs usually uses high leverage? –Why don’t others trade with high leverage?

NES FF 2005/06 10 Sample exam questions Which type of order minimizes the time risk? Which type of order minimizes the time risk? What are the components of the bid-ask spread? What are the components of the bid-ask spread? What can help to prevent bank runs? What can help to prevent bank runs? What is the purpose of securitization? What is the purpose of securitization? Should the central bank rescue a large bank in trouble? Should the central bank rescue a large bank in trouble?

NES FF 2005/06 11 Sample exam questions What is the risk of long forward position? What is the risk of long forward position? –For hedger / speculator How to replicate forward with options? How to replicate forward with options? How to replicate swaption with option on a bond? How to replicate swaption with option on a bond? Which strategy brings small stable income most of the time and sometimes huge losses? Which strategy brings small stable income most of the time and sometimes huge losses? –How can hedge funds fool investors looking for high past returns?

NES FF 2005/06 12 Sample exam questions How to replicate call option with stock and bond? How to replicate call option with stock and bond? –Binomial tree Is there need for new Russian stock/bond indices? If yes, which ones would you suggest? Is there need for new Russian stock/bond indices? If yes, which ones would you suggest? What is the interest rate risk of a risk-free zero- coupon bond? Redeemable bond? What is the interest rate risk of a risk-free zero- coupon bond? Redeemable bond? What is the duration of a floating-rate bond? What is the duration of a floating-rate bond? Which type of indices would you construct for Russian bonds? Which type of indices would you construct for Russian bonds?