Risks facing by the Financial Institutions . Part-3

What  do  you  mean  by  Loan Securitization ? Explain  its  impact  on banks Securitizationis  the  practice  of  creating  and  selling  interests  in  the  returns  from a  large  pool  of  liquid  assets  (assets  that  cannot  easily  be  transferred). 

Securitizing  assets  with  low  liquidity,  such  as  loans,  allows  the  owner  to  sell  the assets more easily.

The  impacts  of  securitization  are  as  follows:

1.  Creates  of  markets  in  financial  claims  by  creating  tradable  securities.

2.  Spread  of  holding  of  financial  assets  as  the  security  is  designed  in  minimum  size marketable  lots  as  necessary.

3.  Promotion  of  savings-  

securitization  makes  it  possible  for  the  simple  investors  to invest  in  direct  financial  claims  at  attractive  rates

4.  Reduces  costs-  

The intermediation  costs,  since  the  specialized-intermediary costs  are  service-related,  and  comparatively  lower.

5.  Risk  diversification-  

Securitization  spreads  diversified  risk  to  a  wide  base  of investors,  with  the  result  that  the  risk  inherent  in  financial  transactions  is diffused.

6.  Focuses  on  use  of  resources,  and  not  their  ownership  as  a custodian  for  the  several investors who thereafter acquire such claim.

Importance  of  Loan  Securitization.

The  issuers  use  securitization to fund their business exercises. The money related resources that bolster installments on resource upheld securities incorporate private and business home loan advances, and in addition a wide assortment of non home loan resources. Securitized resources may be connected to any benefit that has a sensibly ascertainable quality, or that creates a sensibly unsurprising future stream of income. Securitization prompts organized account, as the subsequent security is not a non specific danger in substance that securitizes its advantages, yet in particular resources or money streams of such element.

The thought of securitization is to make a capital business sector item that is, it comes about into making of a security which is an attractive item. Thusly, there is expansive extension for advancement here. Capital markets are today a spot where we can exchange, claims over elements, claims over resources, dangers, and prizes. Give us a chance to consider certain sorts of securitization.

What  is  minimum  capital  and  liquidity  requirement  for  a  non-bank financial institution?

Minimum  capital  requirement  for  NBFIs: 
As  per  department  of  financial  institutions  and  markets  of  Bangladesh  bank circulate  that  the  NBFIs  to  raise  the  paid-up  capital  by  June  30,  2012  from the amount 50 crore  to the amount 100  crore  and  they  would  not  be  allowed  to  offer  cash  dividends until  they  fulfilled  the  newly-set  paid-up  capital  requirement  as  a  part  of implementation  of  BASEL  II.  The  foreign  financial  institutions  operating  in Bangladesh will also have to fulfill the same paid-up capital requirement. [For  Banks,  as  a  part  of  implementation  of  Basel-II  accord,  banks  are  required to  maintain  minimum  capital  to  risk-weighted  assets  ratio  at  10%  of  which  core capital  will  not  be  less  than  5%  effective  from  December  31,  2007.  However, minimum  capital  requirements  as  required  under  Article  13  of  Banking Companies  Act,  1991  for  all  banks  has  been  raised  to  Tk.400  crore  of  which  the paid  up  capital  shall  be  minimum  Tk.200  crore.  Banks  having  capital  shortfall  will have to meet the shortfall by august 11, 2011.]

Minimum  liquidity  requirement  for  NBFIs: 
Required  reserved  6%,  raised  from  5.50.  Effective  from  15  December  2010.

a) Securities
b) Equity  instrument  

c)  All  other  preference  shares  

d)  Subordinated  debt.

3.  Tier-3  Additional  Supplementary  Capital:
Short-term  subordinated  debt  that original  maturity  2  to  5  years.

  

4.  Foreign  banks  operating:  

a)  Tier-1  consists
- Funds  from  head  office
- Remitable  profit  retained
- Other  items  approved  by central bank.

b) Tier-2  consists
- General  provision Borrowing  from  head  office  in  foreign  currency
- Revaluation  of  securities
- Other  items  approved  by central bank.

5.Conditions  pf  maintaining  capital: 

a)  Tier-2  will  be  limited  to  100%  of  amount  of  Tier-1  

b)  50%  of  revaluation  reserves  for  fixed  assets  &  securities  eligible  for  Tier-2  

c)  10%  of  revaluation  reserves  for  equity  instruments  eligible  for  Tier-2  

d)  Subordinated  debt  should  limited  up  to  30%  of  the  amount  of  Tier-1  

e)  Limitation  of  Tier  3:  28.5%  market  risk  needs  to  support  by  Tier-1.

Market Risk support from Tier-3 should up to 250% of Tier-1 

Financial  institute  is  required  to  maintain  a  Cash  Reserve  Ratio  (CRR)  of  2.50% on  its  customer  deposits.  The  CRR  is  maintained  with  the  non-interest  bearing current  account  with  the  Bangladesh  Bank.  In  addition,  every  financial  institute is  required  to  maintain  a  Statutory  Liquidity  reserve  (SLR)  of  5%  (including  CRR) on all its liabilities [For  Banks,  the  present  statutory  liquidity  reserve  (SLR)  requirement  is  20%  of total  demand  and  time  liabilities,  4%  of  which  is  to  be  maintained  as  cash reserve  ratio  (CRR),  and  the  rest  16%  as  approved  securities.  The  SLR requirement  for  Islamic  banks  is  10%  and  they  are  to  keep  4%  of  this  reserve  as CRR and the rest 6% in approved securities.]

What  are  the  differences  between  market  value  and  book  value  of capital Sl (sell  loan).

Book  Value  vs  Market  Value

1.  
Book  value  is  the  price  paid  for  a particular  asset.

&

Market  value  is  the  current  price  at which  you  can  sell  an  asset.

2. 
This  price  never  changes.

&

The  price  may  be  changed.

3.
Useful  to  help  track  profits and losses.

&

It  indicates  the  profit  or  loss incurred.

4.
The  need  for  book  value  also arises  when  it  comes  to  generally accepted  accounting  principles.

&

It  is  not  raises  from  generally accepted  accounting  principles.

5.
Sometimes  creates  problems  for assets  price  being  fixed.

&

It generates  the  appropriate  price.

Why  banks  and  other  financial  institutions  sell  loan?

The  banks  and  FIs  sell  loan  due  to  profits  and  reduce  the  some  capital expenditures  are  mentioned  below:

1.  Reserve  Requirement:  

Regulatory  authority  forces non-enthusiasm bearing necessities, are a type of expense that adds to the expense of financing the credit portfolio. Administrative assessments, for example, save necessities make a motivator for banks to expel credits from the asset report by advance offering.

2.  Fee  Income: 

Banks  and  financial  institutions  often  report  any  income earned  from  selling  loans. Therefore, beginning and rapidly offering credits can help banks and money related establishments reported wage under current bookkeeping guidelines.

3.  Capital  Costs: 

The  reserve  requirements  imposed  as a weight the length of obliged capital surpasses the sum that they battle to meet sufficient capital necessities holding more obligation capital as opposed to value capital. 

4.  Liquidity  Risk: 

The  liquidity  is  a  major  problem   because of liabilities has a tendency to be exceedingly fluid. To determine it, some of its credits deals to outside financial specialists and essentially decreased the liquidity as resources on the accounting report.

What are the sources of revenue and areas of expenses for a bank & insurance company?

Sources of revenue of a Bank:

1. Interest Earned:

- Discount bills.

- Income on investments.

- Balances with other banks & FIs.

2. Other Income :

- Commission, exchange, brokerage.

- Sale of investments.

- Revaluation of investments.

-Sale of land building & other assets. - Exchange transactions. 

Areas of expenses of a bank:

1. Interest Expense :

- Interest on deposits.

- Interest on borrowings to other banks & FIs - Others.

2. Operating Expenses:

- Provisions .

- Rent, taxes. 

- Printing, stationery, advertising, publicity.

- Depreciation.

- Fees of auditors & advocacy.

- Utility bill.

- Repairs and maintenance.

- Insurance. 

Sources of revenue of a Insurance Company:

- Premiums paid by Policy owners.

- Income from investments .

Areas of expenses of a Insurance Company:

- Commissions paid to agents.

- Expenses to investigate, litigate, settle claims.

- Advertising.

- Computerized racing and policy issuance systems.

- Postage and telephone charges.

- Travel expenses.

- Salaries.

Define  different  capital  requirement.

Capital  requirement  is  categorized  in  three  tiers: 

1.  Tier-1 

capital  called  ‘Core  Capital’  comprises  of  highest  quality  of  capital elements:  

a)  Paid  up  capital

b)  Non-repayable  share  premium  account  

c)  Statutory  reserve  

d)  General  reserve  

e)  Retained  earnings  

f)  Minority  interest  in subsidiaries   g)  Non-cumulative  irredeemable  preference  shares.  

h) Dividend equalization account 

2.  Tier-2 

capital  called  ‘Supplementary  Capital’  represents  other  elements, which  fall  short  of  some  of  the  characteristics  of  the  core  capital  but  contribute to the overall strength of a bank: 

a)  General  provision  

b)  Revaluation  reserves - -  Fixed  assets   Securities   Equity  instrument  

c)  All  other  preference  shares  

d) Subordinated debt.

3.  Tier-3 

capital  called  ‘Additional  Supplementary  Capital’,  consists  of  short-term subordinated  debt  (original  maturity  2  to  5  years)  would  be  solely  for  the purpose of meeting a proportion of the capital requirements for market risk. 

Point  out  the  major  guidelines  regarding  management  of  capital according  to Basel-II.

The  major  guidelines  regarding  capital  management  are  as  pointed  below:

1.  Tier-1 

Core  Capital:  

a)  Paid  up  capital

b)  Non-repayable  share  premium  account  

c)  Statutory  reserve

d)  General  reserve

e)  Retained  earnings  

f)  Minority  interest  in subsidiaries   g)  Non-cumulative  irredeemable  preference  shares  

h)  Dividend  equalization  account  

2.  Tier-2 

Supplementary  Capital:  

a)  General  provision  

b)  Revaluation  reserves

- Fixed  assets  

- Securities  

- Equity  instrument.  

c)  All  other  preference  shares  

d)  Subordinated  debt.

3.  Tier-3 

Additional  Supplementary  Capital:  Short-term  subordinated  debt  that original  maturity  2  to  5  years.  

4.  Foreign  banks  operating:  

a)  Tier-1  consists

- Funds  from  head  office .

- Remittable  profit  retained   Other  items  approved  by  BB  

b) Tier-2  consists

- General  provision Borrowing  from  head  office  in  foreign  currency   Revaluation  of  securities   Other  items  approved  by  BB.

5.  Conditions  pf  maintaining  capital:

a)  Tier-2  will  be  limited  to  100%  of  amount  of  Tier-1  

b)  50%  of  revaluation  reserves  for  fixed  assets  &  securities  eligible  for  Tier-2  

c)  10%  of  revaluation  reserves  for  equity  instruments  eligible  for  Tier-2  

d)  Subordinated  debt  should  limited  up  to  30%  of  the  amount  of  Tier-1  

e)  Limitation  of  Tier  3: 

28.5%  market  risk  needs  to  support  by  Tier-1.  Market Risk support from Tier-3 should up to 250% of Tier-1 .

Risks facing by the Financial Institutions . Part-1

Risks facing by the Financial Institutions . Part-2

Risks facing by the Financial Institutions . Part-3

Risks facing by the Financial Institutions . Part-4