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Forward, Futures and Options Markets

Forward, Futures and Options Markets

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Where are the Money Markets?
• In Banks around the world
• European Money Market
• Since dollars are used around the world
• Corporations – countries deposit dollars (euro dollars)
• OPEC generally requires payment in dollars (petro dollars) these are

sometimes lent to oil consuming countries to facilitate the purchase of oil

• Asian Money Market

(originally known as the Asian

dollar market)
• Centered in Hong Kong and Singapore
• MNC deposit short term dollars (and other currencies)
• Lend to banks

• Rates are by national currency
International Executive Master of Business Administration

International Stock Markets
• Stock issued in the U.S. by non-U.S. firms or

governments are called Yankee stock offerings. Many of
such recent stock offerings resulted from privatization
programs in Latin America and Europe.
• Non-U.S. firms may also issue American depository
receipts (ADRs), which are certificates representing
bundles of stock. ADRs are less strictly regulated.

International Executive Master of Business Administration

Global Standardization of Bank Regulations
• Single European Act (1992)
• Capital flows freely in Europe
• Standardized regulations regarding
• Lending – leasing - securities

• Basel Accord (1987)
• Banks in 12 major countries agreed to maintain capital equal to 4%
of their assets
• Basel II Accord (2004)
• Harmonize collateral requirements

International Executive Master of Business Administration

International Credit Market
• Since banks accept short term deposits and provide longer term

loans – maturities do not match
• To fix this they commonly offer floating rate loans – lined to LIBOR (London

Interbank Offer Rate)
• Premiums paid above LIBOR depends on the credit risk.

November 5, 2012 ---- Sweeping Libor reforms follow scandal
Libor manipulation could end up constituting a criminal
offence under UK laws relating to fraud, the Treasury’s Wheatley
Review has warned.
• Syndicated Loans
• Multiple banks combine to make loans
• Common to charge a fee for unused credit line.

International Executive Master of Business Administration

Exchange rate determination Chapter 4
69

 Decline in currency value – depreciation
 Increase in currency value – appreciation
 Volatility – large standard deviation
 Price is determinants
 Supply and demand
 Country risk factors
 Change in differential between the two countries inflation
 Change in the differential between the two counties interest rate
 Change in the differential between the two counties income level
 Change in governmental controls
 Change in the expectations of future exchange rates.

Exchange Rate Equilibrium
• An exchange rate represents the price of a currency,

which is determined by the demand for that currency
relative to the supply for that currency.

Value of £

S: Supply of £

$1.60
$1.55

equilibrium
exchange rate

$1.50
D: Demand for £
Quantity of £
International Executive Master of Business Administration

Interactions on Factors
• Assume the simultaneous increase in US inflation and the

sudden increase in US interests rates. If the British
economy is relatively unchanged what would the impact
be on the exchange rate between the two currencies?

International Executive Master of Business Administration

Factors that Influence
Exchange Rates

Relative Inflation Rates

$/£

S1
S0

r1
r0

D1
D0
Quantity of £

U.S. inflation ↑
⇒ ↑ U.S. demand for
British goods, and hence
£.
⇒ ↓ British desire for U.S.
goods, and hence the
supply of £.

International Executive Master of Business Administration

Factors that Influence
Exchange Rates

Relative Interest Rates

$/£

S0
S1

r0
r1

D0
D1
Quantity of £

U.S. interest rates ↑
⇒ ↓ U.S. demand for
British bank deposits,
and hence £.
⇒ ↑ British desire for U.S.
bank deposits, and
hence the supply of £.

International Executive Master of Business Administration

Factors that Influence
Exchange Rates
Relative Interest Rates
• A relatively high interest rate may actually reflect
expectations of relatively high inflation, which
discourages foreign investment.
• It is thus useful to consider real interest rates, which
adjust the nominal interest rates for inflation.
real
nominal
interest ≈ interest – inflation rate
rate
rate
This relationship is sometimes called the Fisher effect.
International Executive Master of Business Administration

Factors that Influence
Exchange Rates

Relative Income Levels

$/£
S0 ,S1
r1
r0

D1
D0

U.S. income level ↑
⇒ ↑ U.S. demand for
British goods, and hence
£.
⇒ No expected change for
the supply of £.

Quantity of £

International Executive Master of Business Administration