The Global Capital Market
Chapter 11
McGraw Hill Companies,
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.
McGraw Hill Companies,
11-1
The Main Players in a Generic
Capital Market
Investors:
Companies
Individuals
Institutions
Market makers:
Commercial bankers
Investment bankers
Borrowers:
Individuals
Companies
Governments
Figure 11.1
McGraw Hill Companies,
11-2
Attraction of the Global Capital
Market?
Increases the supply of funds available
for borrowing.
Borrowers perspective
Lowers the cost of capital.
Investors perspective
Provides a wider range of investment
opportunities.
McGraw Hill Companies,
11-3
Cost of Capital
Market Liquidity and the Cost of
Capital
D
SS B
10%
9
SS l
D
D
Dollars
McGraw Hill Companies,
Figure 11.2
11-4
Risk Reduction Through Portfolio
Diversification
(a) Risk reduction through domestic diversification
1.0
Variance of
portfolio return
Variance of
return on
typical stock
Figure 11.3a
U.S. Stocks
0.27
Total
Risk
1
Systematic
Risk
10
McGraw Hill Companies,
20
30
40
50
Number of stocks
11-5
Risk Reduction Through Portfolio
Diversification
(b) Risk reduction through domestic and
international diversification
1.0
Variance of
portfolio return
Variance of
return on
typical stock
Figure 11.3b
U.S. Stocks
0.27
International Stocks
0.12
1
McGraw Hill Companies,
10
20
30
40
Number of stocks
50
11-6
Net International Bank Lending
6000
5000
4000
3000
$Billions
2000
1000
0
83 84 85 86 87 88 89 90 91 92 93 94 95 96 97
McGraw Hill Companies,
Figure 11.4
11-7
International Bond Issues and the
US Dollar Exchange Rate
180
Left-hand Scale (31
Dec 1993=100):
Exchange Rate
against US$
160
140
DM
YEN
120
Right-hand Scale ($ Billion):
announced Issues
US Dollar European Currencies
Yen
Other
300
200
100
100
80
60
0
94-1Q 94-2Q 94-3Q 94-4Q 95-1Q 95-2Q 95-3Q 95-4Q 96-1Q 96-2Q 96-3Q 96-4Q 97-1Q 97-2Q 97-3Q
McGraw Hill Companies,
Figure 11.5
11-8
International Equity Offerings
and Equity Price Developments
1000
900
80
Left-Hand Scale (US$)
M.S.C.I. World Index
800
700
60
Right-hand Scale ($ Billions)
US$
Yen
600
500
400
40
300
20
200
100
0
85
86
87
88
89
90
McGraw Hill Companies,
91
92
93
Figure 11.6
94
95
96
97
11-9
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.
McGraw Hill Companies,
11-10
Index of Capital Controls in
Emerging Markets
0.68
0.66
0.64
0.62
0.6
0.58
0.56
0 = No Capital controls
0.54
1 = Tight Capital Controls
0.52
86
87
88
89
90
91
92
93
McGraw Hill Companies, Figure 11.7
94
95
96
11-11
Eurocurrency
Its 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.
McGraw Hill Companies,
11-12
Growth in Eurocurrency Funds
1.5 Trillion
1600
1400
1200
1000
1961
1998
800
600
400
One Billion
200
0
1961
McGraw Hill Companies,
1998
11-13
The Eurocurrency Market
Characterized by a lack of regulation compared
to domestic financial markets.
This means that you dont 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.
McGraw Hill Companies,
11-14
Interest Rate Spreads in Domestic
and Eurocurrency Markets
Rate of
interest
Domestic
lending
rate
Eurocurrency
lending rate
Eurocurrency
deposit rate
Domestic
deposit
rate
Figure 11.8
McGraw Hill Companies,
0%
11-15
The International Bond Market
Bonds tend to be fixed rate.
Foreign bonds
Sold outside the borrowers 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.
McGraw Hill Companies,
11-16
Euro vs Foreign Bonds
(Billions of Dollars)
Foreign
Euro
50
100
McGraw Hill Companies,
150
200
11-17
Attraction of the Eurobond
Market?
No government interference.
Few disclosure requirements.
Favorable tax status.
McGraw Hill Companies,
11-18
Global Equity Markets
Where investors can buy/sell stocks.
Made up of many stock exchanges
around the world.
McGraw Hill Companies,
11-19
Trading in Non-US Stocks
500
US Billions
400
300
200
1994
1995
1996
1997
100
NASDAQ
McGraw Hill Companies,
NYSE
11- 20
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.
McGraw Hill Companies,
11-21
