1. © McGraw Hill Companies, Inc., 2000 The Global Capital Market Chapter 11

2. © McGraw Hill Companies, Inc., 2000 Functions of a Generic Capital Market  Brings together:  Those who want to invest: corporations, individuals, nonbank financial institutions.  Those who want to borrow: individuals, companies, governments.  Market makers:  Commercial and investment banks that connect investors with borrowers. 11-1

3. © McGraw Hill Companies, Inc., 2000 The Main Players in a Generic Capital Market Investors: Companies Individuals Institutions Market makers: Commercial bankers Investment bankers Borrowers: Individuals Companies Governments 11-2 Figure 11.1

4. © McGraw Hill Companies, Inc., 2000 Attraction of the Global Capital Market?  Increases the supply of funds available for borrowing.  Borrower’s perspective  Lowers the cost of capital.  Investor’s perspective  Provides a wider range of investment opportunities. 11-3

5. © McGraw Hill Companies, Inc., 2000 Market Liquidity and the Cost of Capital SS B D l D DD 21 Dollars 0 9 10% Cost of Capital 11-4 Figure 11.2

6. © McGraw Hill Companies, Inc., 2000 Risk Reduction Through Portfolio Diversification (a) Risk reduction through domestic diversification 0.27 1.0 1 10 20 30 40 50 U.S. Stocks Total Risk Systematic Risk Number of stocks Variance of portfolio return Variance of return on typical stock 11-5 Figure 11.3a

7. © McGraw Hill Companies, Inc., 2000 Risk Reduction Through Portfolio Diversification (b) Risk reduction through domestic and international diversification 0.27 1.0 1 10 20 30 40 50 U.S. Stocks International Stocks Number of stocks Variance of portfolio return Variance of return on typical stock 0.12 11-6 Figure 11.3b

8. © McGraw Hill Companies, Inc., 2000 Net International Bank Lending 11-7 Figure 11.4

9. © McGraw Hill Companies, Inc., 2000 International Bond Issues and the US Dollar Exchange Rate Left-hand Scale (31 Dec 1993=100): Exchange Rate against US$ Right-hand Scale ($ Billion): announced Issues US Dollar Yen European Currencies Other 100 200 300 11-8 Figure 11.5

10. © McGraw Hill Companies, Inc., 2000 International Equity Offerings and Equity Price Developments 20 60 40 80 Left-Hand Scale (US$) M.S.C.I. World Index Right-hand Scale ($ Billions) US$ Yen 11-9 Figure 11.6

11. © McGraw Hill Companies, Inc., 2000 Why The Growth?  TECHNOLOGY.  Deregulation by governments of capital flows and financial services.  Risk: Nations may be more vulnerable to speculative capital flows.  Short term investing. 11-10

12. © McGraw Hill Companies, Inc., 2000 Index of Capital Controls in Emerging Markets 0 = No Capital controls 1 = Tight Capital Controls 11-11 Figure 11.7

13. © McGraw Hill Companies, Inc., 2000 Eurocurrency  It’s not the Euro!  It is any currency banked outside its country of origin.  1950s. Eastern Europeans afraid US would seize deposits to reimburse claims for business losses as a result of Communist takeover of Eastern Europe. 11-12

14. © McGraw Hill Companies, Inc., 2000 Growth in Eurocurrency Funds One Billion 1.5 Trillion 11-13

15. © McGraw Hill Companies, Inc., 2000 The Eurocurrency Market  Characterized by a lack of regulation compared to domestic financial markets.  This means that you don’t have to pay for the cost of regulation.  Hence, cheap (or cheaper) money.  Downside:  Banks could be more likely to fail (not probable)  Because you are getting foreign money, you have currency exchange risks. 11-14

16. © McGraw Hill Companies, Inc., 2000 Interest Rate Spreads in Domestic and Eurocurrency Markets Rate of interest Domestic lending rate Domestic deposit rate Eurocurrency lending rate Eurocurrency deposit rate 0% 11-15 Figure 11.8

17. © McGraw Hill Companies, Inc., 2000 The International Bond Market  Bonds tend to be fixed rate.  Foreign bonds  Sold outside the borrower’s country and in currency of country where issued.  Eurobonds  underwritten by an international syndicate.  issued by large corporations, international institutions and governments.  placed in country other than country of currency and its residents. 11-16

18. © McGraw Hill Companies, Inc., 2000 Euro vs Foreign Bonds (Billions of Dollars) 11-17

19. © McGraw Hill Companies, Inc., 2000 Attraction of the Eurobond Market?  No government interference.  Few disclosure requirements.  Favorable tax status. 11-18

20. © McGraw Hill Companies, Inc., 2000 Global Equity Markets  Where investors can buy/sell stocks.  Made up of many stock exchanges around the world. 11-19

21. © McGraw Hill Companies, Inc., 2000 Trading in Non-US Stocks US Billions 11- 20

22. © McGraw Hill Companies, Inc., 2000 Who Uses These Markets?  Investors seeking to diversify their portfolios.  Companies seeking to  issue stock in the country  use stock and options as a form of employee incentives  satisfy local ownership requirements  create funding for future acquisitions  increase the visibility of the company. 11-21