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Brokers Awareness program. Dr. Mounther Barakat Securities and Commodities Authority. برنامج توعية الوسطاء. د. منذر بركات العمري هيئة الاوراق المالية والسلع. Introduction مقدمة. It has been noticed that traders and entry level brokers may be 1- from backgrounds other than finance, or

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Brokers awareness program

Brokers Awareness program

Dr. Mounther Barakat

Securities and Commodities Authority


Brokers awareness program

برنامج توعية الوسطاء

د. منذر بركات العمري

هيئة الاوراق المالية والسلع


Introduction

Introductionمقدمة

It has been noticed that traders and entry level brokers may be

1- from backgrounds other than finance, or

2- little finance background, or

3- of finance background that needs to be refreshed

If you are none of the above, this is not for you


What is this program about

What is this program about?ماذا يحوي برنامج توعية الوسطاء؟

  • Introduction to the field of finance

  • Financial risk and return

  • Demand on financial assets

  • Structure of interest rates

  • Financial markets efficiency

  • Economic policies and the role of the central bank

  • Capital, money, commodity, derivatives, mortgage, foreign exchange markets

  • Organization of markets and its operations

  • Introduction to financial analysis

  • Conflict of interest and financial crises

  • Financial institutions: Investment companies, securities firms, banks, insurance companies, finance companies, pensions, ...


What is finance

What is Finance?تعريف صناعة وعلم التمويل

  • Finance deals with: efficient allocation of resources by using pricing systems that are based on the riskness of assets.

  • Three areas of finance:

    • Financial markets and Institutions – Intermediation

    • Corporate finance

    • Investments


Definitions from finance perspective

Definitions from Finance perspectiveتعريفات هامة

  • Asset

  • Real asset Vs. Financial asset

  • Primary asset Vs. Secondary asset

  • Intermediary Vs. broker Vs. dealer

  • Market

  • Financial market

  • Balance sheet

  • Income statement

  • Statement of cash flow

  • Cash Vs. profit

  • Surplus Vs. Deficit Units


The financial system

The financial Systemالنظام المالي

  • Types of financial Systems

    • Religious

    • Socialism

    • Capitalism

    • Mixed

  • The financial system in the UAE is the free market system with considerations specific to the UAE (e.g. Islamic and Arab culture, …)


The financial system1

The financial systemمكونات النظام المالي

  • Participants

    • Governments

    • Businesses

    • Individuals

    • Foreigners

  • The financial sector

    • Financial markets

    • Financial institutions

  • Money and Interest rates


The financial system2

The Financial Systemالنظام المالي

Financial System

I/M

Fin. Sec.

Participants

- Interest rates

- Money Supply

- Financial Markets

- Financial Institutions

- Government.

- Businesses

- Individuals

- Foreigners


The financial sector

The Financial Sectorالقطاع المالي

Financial Sector

Financial Markets

Financial Institutions

Long Term

Equity

Debt

Short Term

Money

FOREX

Depositories

Banks

Credits Unions

Non-depositories

Investment Companies

Securities firms

Contractual

financing


Interest rates and money supply

Interest Rates and Money Supplyأسعار الفائدة والكتلة النقدية

  • Interest is the rent of money

  • Equal to the real growth rate of GDP plus the expected inflation rate plus a premium to compensate for the riskness of the company being analyzed.

  • Money supply is the amount of liquidity that is being allowed by the UAE central bank. The company being analyzed benefits if the amount of liquidity is near the healthy level.

  • Both interest rates and money supply have a great effect on the performance and value of the company and need to be taken into consideration in any financial analysis.


Function of financial markets and institutions

Function of Financial Markets and Institutionsوظيفة الأسواق والمؤسسات المالية

  • Allows transfers of funds from person or business without investment opportunities (i.e., “Lender-Savers”) to one who has them (i.e., “Borrower-Spenders”)

  • تحويل الاموال ممن يملكونها الى من يحتاجونها

  • Improves economic efficiency

  • زيادة الفاعلية الاقتصادية


Segments of financial markets

Segments of Financial Markets

  • Direct Finance

    • Borrowers borrow directly from lenders in financial markets by selling financial instruments which are claims on the borrower’s future income or assets

    • التمويل المباشر

  • Indirect Finance

    • Borrowers borrow indirectly from lenders via financial intermediaries (established to source both loanable funds and loan opportunities) by issuing financial instruments which are claims on the borrower’s future income or assets

    • التمويل غير المباشر


Importance of financial markets

Importance of Financial Markets اهمية الاسواق المالية

  • Financial markets are critical for producing an efficient allocation of capital, which contributes to higher production and efficiency for the overall economy, as well as economic security for the citizenry as a whole

  • توزيع المصادر بفاعلية وإنتاجية عالية وأمان

  • Financial markets also improve the lot of individual participants by providing investment returns to lender-savers and profit and/or use opportunities to borrower-spenders

  • زيادة معدل العائد والربحية للجميع


Function of financial markets

Function of Financial Markets رسم توضيحي لفكرة انتقال الاموال

Flow of Funds Through the Financial System


Classifications of financial markets

Classifications of Financial Marketsتصنيف الأسواق حسب الإصدار

  • Primary Market السوق الأولية

    • New security issues sold to initial buyers

  • Secondary Market السوق الثانوية

    • Securities previously issued are bought and sold


Classifications of financial markets1

Classifications of Financial Marketsتصنيف الأسواق حسب التنظيم

  • Exchanges الاسواق المنظمة (البورصات)

    • Trades conducted in central locations (e.g., ADSM, DFM, ….)

  • Over-the-Counter Markets الاسواق الغير منظمة

    • Dealers at different locations buy and sell


Classifications of financial markets2

Classifications of Financial Marketsتصنيف الأسواق حسب الاستحقاق

  • Long term (Capital Markets)

    • Debt

    • Equity

  • Short term (Money Markets)

    • Foreign Exchange

    • Money markets


Classifications of financial markets3

Classifications of Financial Markets تصنيف الأسواق المالية حسب نوعية الأصول

  • Debt Markets أسواق الدين

    • Short-Term (maturity < 1 year) Money Market

    • Long-Term (maturity > 1 year) Capital Market

  • Equity Markets أسواق الملكية

    • Common Stock


Characteristics of debt markets instruments

Characteristics of Debt Markets Instrumentsأدوات الدين

  • Debt instruments صفات ادوات الدين

    • Buyers of debt instruments are suppliers (of capital) to the firm, not owners of the firm

    • Debt instruments have a finite life or maturity date

    • Advantage is that the debt instrument is a contractual promise to pay with legal rights to enforce repayment

    • Disadvantage is that return/profit is fixed or limited


Characteristics of equity markets instruments

Characteristics of Equity Markets Instrumentsأدوات الملكية

  • Equity instruments (common stock is most prevalent equity instrument) صفات ادوات الملكية

    • Buyers of common stock are owners of the firm

    • Common stock has no finite life or maturity date

    • Advantage of common stock is potential high income since return is not fixed or limited

    • Disadvantage is that debt payments must be made before equity payments can be made


Characteristics of financial markets

Characteristics of Financial Marketsأسواق الدين

  • Debt Markets صفات اسواق الدين

    • Although less well-known by the average person, debt markets are much larger in total dollars than equity markets, due to greater number of participant classes (households, businesses, government, and foreigners) and size of individual participants (businesses, and government)

    • This is not the case in the UAE; debt market is mostly bank loans and informal or off balance sheet lending.


Characteristics of financial markets1

Characteristics of Financial Marketsأسواق الملكية

  • Equity Markets صفات اسواق الملكية

    • Although newly founded and lacks the needed environment to function properly, it proved to have played its role in establishing the elements of the sovereignty of the country and in promoting economic development.

    • To the contrary of most economies including that of the US the equity market in UAE is larger than the debt market, due to the fact that the bond markets are small and illiquid.


Function of financial intermediaries

Function of FinancialIntermediariesدور الوساطة المالية

  • Financial Intermediaries الوسطاء الماليين

    • Engage in process of indirect finance

    • More important source of finance than securities markets

    • Needed because of transactions costs and asymmetric information


Function of financial intermediaries1

Function of FinancialIntermediariesدور الوساطة المالية

  • Transactions Costs تكاليف التحويلات

    • Financial intermediaries make profits by reducing transactions costs

    • Reduce transactions costs by developing expertise and taking advantage of economies of scale and scope.


Function of financial intermediaries2

Function of FinancialIntermediariesدور الوساطة المالية

  • A financial intermediary’s low transaction costs mean that it can provide its customers with liquidity services, services that make it easier for customers to conduct transactions توفير السيولة دون الحاجة الى انهاء المشروع الانتاجي

    • Banks provide depositors with checking accounts that enable them to pay their bills easily

    • Depositors can earn interest on checking and savings accounts and yet still convert them into goods and services whenever necessary without having to discontinue and liquidate investments


Function of financial intermediaries3

Function of FinancialIntermediariesدور الوساطة المالية

  • Another benefit made possible by the FI’s low transaction costs is that they can help reduce the exposure of investors to risk, through a process known as risk sharing

  • ادارة المخاطر

    • FIs create and sell assets with lesser risk to one party in order to buy assets with greater risk from another party (e.g. banks)

    • This process is referred to as asset transformation, because in a sense risky assets are turned into safer assets for investors


Function of financial intermediaries4

Function of FinancialIntermediariesدور الوساطة المالية

  • Adverse Selection الامتناع عن الاستثمار

    • Before transaction occurs

    • Potential borrowers most likely to produce adverse outcome are ones most likely to seek loan and be selected – brokers and financial analysts can prevent that by studying the credit worthiness of the borrowers


Function of financial intermediaries5

Function of FinancialIntermediariesدور الوساطة المالية

  • Moral Hazard المخاطرة بأموال الغير

    • After transaction occurs

    • Hazard that borrower has incentives to engage in undesirable (immoral) activities making it more likely that won't pay loan back


Function of financial intermediaries6

Function of FinancialIntermediariesدور الوساطة المالية

  • Financial intermediaries reduce adverse selection and moral hazard problems, enabling them to make profits. How they do this is covered in many of the topics to come.

  • المؤسسات المالية تقلل من هذه المخاطر


Financial institutions

Financial Institutionsانواع المؤسسات المالية

  • Depository Institutions (Banks) المؤسسات الإيداعية

    • Commercial banks

    • Savings & Loan Associations (S&Ls)

    • Mutual Savings Banks

    • Credit Unions

  • Contractual Savings Institutions المؤسسات التعاقدية

    • Life insurance companies

    • Property & casualty insurance companies

    • Pension funds


Financial institutions1

Financial Institutions انواع المؤسسات المالية

  • Investment Intermediaries المؤسسات الاستثمارية

    • Finance companies

    • Mutual funds

    • Money market mutual funds


Financial institutions2

Financial Institutions انواع المؤسسات المالية

  • Commercial banks البنوك التجارية

    • Raise funds primarily by issuing checkable, savings, and time deposits which are used to make commercial, consumer and mortgage loans

    • Collectively, these banks comprise the largest financial intermediary and have the most diversified asset portfolios

    • Around 1 trillion DHS in total assets in the UAE


Financial institutions3

Financial Institutions انواع المؤسسات المالية

  • S&Ls, Mutual Savings Banks and Credit Unions

  • المؤسسات الادخارية ومؤسسات الاقراض الغير ربحية

    • Raise funds primarily by issuing savings, time, and checkable deposits which are most often used to make mortgage and consumer loans, with commercial loans also becoming more prevalent at S&Ls and Mutual Savings Banks

    • Mutual savings banks and credit unions issue deposits as shares and are owned collectively by their depositors, most of which at credit unions belong to a particular group, e.g., a company’s workers


Financial institutions4

Financial Institutions انواع المؤسسات المالية

  • All CSIs acquire funds from clients at periodic intervals on a contractual basis and have fairly predictable future payout requirements.

    • Life Insurance Companiesشركات تأمين الحياة

      receive funds from policy premiums, can invest in less liquid corporate securities and mortgages, since actual benefit pay outs are close to those predicted by actuarial analysis

    • Fire and Casualty Insurance Companies شركات تأمين الاصابة receive funds from policy premiums, must invest most in liquid government and corporate securities, since loss events are harder to predict


Financial institutions5

Financial Institutions انواع المؤسسات المالية

  • All CSIs acquire funds from clients at periodic intervals on a contractual basis and have fairly predictable future payout requirements.

    • Pension and Government Retirement Funds

      صناديق التقاعد

      hosted by corporations and state and local governments acquire funds through employee and employer payroll contributions, invest in corporate securities, and provide retirement income via annuities


Financial institutions6

Financial Institutions انواع المؤسسات المالية

  • Finance Companiesشركات التمويل

    sell commercial paper (a short-term debt instrument) and issue bonds and stocks to raise funds to lend to consumers to buy durable goods, and to small businesses for operations

  • Mutual Funds صناديق الاستثمار

    acquire funds by selling shares to individual investors and use the proceeds to purchase large, diversified portfolios of stocks and bonds – we will have a training course on these some time this summer


Financial institutions7

Financial Institutions انواع المؤسسات المالية

  • Money MarketMutual Funds

    صناديق الاستثمار بالأدوات قصيرة الامد

    acquire funds by selling checkable deposit-like shares to individual investors and use the proceeds to purchase highly liquid and safe short-term money market instruments

    Hedge Funds, ETFs and others


Regulation of financial markets

Regulation of Financial Markets

  • Reasons for Regulation اسباب التشريع المالي

    • Increase Information to Investors

    • Protect investors and their investments

    • Ensure the Soundness of Financial Intermediaries

    • Improve Monetary Control


Regulation reason increase investor information

Regulation Reason: Increase Investor Informationزيادة توفر المعلومات

  • Asymmetric information in financial markets means that investors may be subject to adverse selection and moral hazard problems that may hinder the efficient operation of financial markets and may also keep investors away from financial markets

  • The Securities and Commodities Authority (SCA) requires corporations issuing securities to disclose certain information about their sales, assets, and earnings to the public and restricts trading by the largest stockholders (known as insiders) in the corporation.


Regulation reason increase investor information1

Regulation Reason: Increase Investor Informationزيادة توفر المعلومات

  • Such government regulation can reduce adverse selection and moral hazard problems in financial markets and increase their efficiency by increasing the amount of information available to investors


Regulation reason ensure soundness of financial intermediaries

Regulation Reason: Ensure Soundness of Financial Intermediaries رُشْد الوسطاء

  • Because providers of funds to financial intermediaries may not be able to assess whether the institutions holding their funds are sound or not, if they have doubts about the overall health of financial intermediaries, they may want to pull their funds out of both sound and unsound institutions, with the possible outcome of a financial panic that produces large losses for the public and causes serious damage to the economy


Regulation reason ensure soundness of financial intermediaries1

Regulation Reason: Ensure Soundness of Financial Intermediaries رُشْد الوسطاء

  • To protect the public and the economy from financial panics, six types of regulations are needed:

    • Restrictions on Entry - soundness

    • Disclosure – transparency

    • Restrictions on Assets and Activities – no dummies

    • Deposit Insurance – peace of mind

    • Limits on Competition – no price wars

    • Restrictions on Interest Rates – no usury


Regulation restriction on entry

Regulation: Restriction on Entry موانع الدخول

  • Restrictions on Entry

    • Very tight regulations as to who is allowed to set up a financial intermediary

    • Individuals or groups that want to establish a financial intermediary, such as a bank or an insurance company, must obtain a charter from the government

    • Only if they are upstanding citizens with impeccable credentials and a large amount of initial funds will they be given a charter.


Regulation disclosure

Regulation: Disclosure الافصاح

  • Disclosure Requirements

  • There are stringent reporting requirements for financial intermediaries

    • Their bookkeeping must follow certain strict principles,

    • Their books are subject to periodic inspection,

    • They must make certain information available to the public.


Regulation restriction on assets and activities

Regulation: Restriction on Assets and Activities تحديد النشاطات

  • There are restrictions on what financial intermediaries are allowed to do and what assets they can hold

  • Before you put your funds into a bank or some other such institution, you would want to know that your funds are safe and that the bank or other financial intermediary will be able to meet its obligations to you


Regulation restriction on assets and activities1

Regulation: Restriction on Assets and Activities تحديد النشاطات

  • One way of doing this is to restrict the financial intermediary from engaging in certain risky activities

  • Another way is to restrict financial intermediaries from holding certain risky assets, or at least from holding a greater quantity of these risky assets than is prudent


Regulation deposit insurance

Regulation: Deposit Insuranceالتأمين

  • The government can insure people providing funds to a financial intermediary from any financial loss if the financial intermediary should fail


Regulation past limits on competition

Regulation: Past Limits on Competition حدود للتنافس

  • Although the evidence that unbridled competition among financial intermediaries promotes failures that will harm the public is extremely weak, the government needs to impose many restrictive regulations

  • The purpose is to prevent financial intermediaries from competing to the point where the integrity of the financial system is compromised.


Regulation past restrictions on interest rates

Regulation: Past Restrictions on Interest Rates حدود لأسعار الفائدة

  • Competition must also be inhibited by regulations that impose restrictions on interest rates that can be paid on deposits

  • These regulations need to be instituted because of the widespread belief that unrestricted interest-rate competition help encourage bank failures


Regulation reason improve monetary control

Regulation Reason: Improve Monetary Control التحكم بالكتلة النقدية

  • Because banks play a very important role in determining the supply of money (which in turn affects many aspects of the economy), much regulation of these financial intermediaries is intended to improve control over the money supply

  • One such regulation is reserve requirements, which make it obligatory for all depository institutions to keep a certain fraction of their deposits in accounts with the central bank

  • Reserve requirements help the central bank exercise more precise control over the money supply – well, much can be detailed about the UAE monetary policy.


The cost of money

The cost of moneyتكلفة رأس المال

  • The price, or cost, of debt capital is the interest rate.

  • The price, or cost, of equity capital is the required return. The required return investors expect is composed of compensation in the form of dividends and capital gains.


What four factors affect the cost of money

What four factors affect the cost of money?العوامل التي تؤثر في تكلفة رأس المال

  • Time preferences for consumption (sacrifice)

  • Expected inflation (loss in purchasing power)

  • Risk (worry)


Nominal vs real rates

“Nominal” vs. “Real” ratesالعائد الاسمي والحقيقي

k= represents any nominal rate

k*= represents the “real” risk-free rate of interest, if there was no inflation. Typically ranges from 1% to 4% per year.

kRF= represents the rate of interest on Treasury securities.


Determinants of interest rates

Determinants of interest ratesمحددات سعر الفائدة (العائد)

k = k* + IP + DRP + LP + MRP

k =required return on a debt security

k*=real risk-free rate of interest

IP=inflation premium

DRP=default risk premium

LP=liquidity premium

MRP=maturity risk premium


Premiums added to k for different types of debt

Premiums added to k* for different types of debtمقارنة علاوات المخاطر المختلفة


Yield curve and the term structure of interest rates

Yield curve and the term structure of interest ratesمنحنى العائد وعلاقة الفائدة بالاستحقاق

  • Term structure – relationship between interest rates (or yields) and maturities.

  • The yield curve is a graph of the term structure.


Hypothetical yield curve

Interest

Rate (%)

15

Maturity risk premium

10

Inflation premium

5

Real risk-free rate

Years to

Maturity

0

1 10 20

Hypothetical yield curveمنحنى عائد افتراضي

  • An upward sloping yield curve.

  • Upward slope due to an increase in expected inflation and increasing maturity risk premium.


The yield curve

The Yield Curveمنحنى العائد

  • Corporate yield curves are higher than that of Treasury securities, though not necessarily parallel to the Treasury curve.

  • The spread between corporate and Treasury yield curves widens as the corporate bond rating decreases.


The yield curve1

BB-Rated

AAA-Rated

The Yield Curveمنحنى العائد

Interest

Rate (%)

15

10

Treasury

Yield Curve

6.0%

5.9%

5

5.2%

Years to

Maturity

0

0

1

5

10

15

20


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