Treasury and Fund Management in Banks
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Transcript of Treasury and Fund Management in Banks
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What is Treasury?
The management of banks liquidity.
To ensure that the r ight amount of cash resources are available in theright place in the right currency and at the right time.
Maximize the return on surplus funds & M inimize the f inancial costs ofthe business,
Control interest rate risk and cur rency exposure to an acceptable level
Eff icient management of the financial r isk and liquidity of the business
Planning, organizing and controll ing of cash and borrowings so as tooptimize interest and currency f lows, and minimize the cost of funds.
As such treasury refers to the management of funds and revenue on a dayto day basis.
The treasury acts as the custodian of the cash and others assets. The art of
the managing funds within the acceptable level of the r isk and theconsolidated management of funds of the bank optimall y and profitably iscalled the treasury management.
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Integrated Treasury
Integrated Treasury refers to integration of money market,securities market and foreign exchange operations.
-Meeting reserve requirements
-Efficient merchant services
-Global cash management
-Optimizing profit by exploiting market opportunities inforex market, money market and securities market
-Risk management
-Assisting bank management in ALM
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MAIN OBJECTIVES OF TREASURY
Ensure L iquidity at all times
Operate in Cost-effective manner Provide stable earnings
Protect from possible adverse movements in
interest rate and foreign exchange Take advantage of market movements to reduce
interest cost and to avail earning opportunity
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Main Focus of Treasury
CRR- Maintain Correctly- Non Interest earning- minimize flak
SLR- Maintain Correctly- Maximize Yield
I nvestments in GOI Secur ities
I nvestment in State Government Secur ities
I nvestment in other SLR secur ities Trading- Gain f rom market volatil i ty
Risk- Hedge and Profi t
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Investment Types
F ixed I ncome Securities
F loating rate secur ities
NAV based Secur ities
Shares
Bonds and Debentures
Structured I nstruments
Securatised I nstruments
Derivatives
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Instruments Call & Notice Money
Treasury Bill s Government Secur i ties
Central
State
Bonds
PSU Others
Structured notes
REPO
Forex Forward
Forex Option FRA
I RS
Swap- Currency
Options
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Investment Horizon
Short Term-
Long Term-
Medium Term
Trading
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Why Invest?
I nvest for interest
I nvest for Dividend
Capital Growth in the form of NAV or Price appreciation Capacity to Decide is important
Risks Factors
I nterest rate r isk
price and valuation issues
Credit Risk- defaul t
Volatili ty r isktrading r isk
L iquidity Risk
Trading
Buying and Selli ng to arbitrage market volatil i ty
Rules and circumstances dif fer from market to market and instrument to
instrument I dle assets do not earn!
Trading Policy is needed.
VAR to be decided
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Constraints in Treasury
Valuation norms
Risk Weight Norms
NPA norms
Capital Adequacy norms
Settlement systems
Exposure Norms
Balance Sheet Function
Asset Liability Management- Fixed and Floating-
Balance Sheet limitations Capital Management
Liquidity Management
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WHATISTREASURYMANAGEMENT Treasury Management is the management of cash flows, its banking, money market and capital
market transactions; the eff ective control of the risks associated with those activities; and the
pursui t of optimum performance consistent wi th those risks. INFINANCIALENVIRONMENT, IMPORTANCEOFBANKTREASURY
Banks represent a vital link between economic policies of the government & various economic
factors.
They are the most important financial intermediaries & impact the performance of the economy as
a whole.
They borrow at a lower rate & lend at higher rate. Or they borrow short and lend long.
They accept retail and lend wholesale to take Credit risks
Play on volatility
The difference levels of risk results in spreads/profits.
The main difficulty for banks is to earn profit on spreads but at the same time be liquid enough to
meet the withdrawal demand.
In present competitive world banks cannot restrict themselves to mere lending & borrowing.
For lucrative business banks have to enter Equity & Debt Derivative market to earn more profits
on its portfolio.
Banks have also to look out for various investment avenues which will maximize their returns at
acceptable level of risk and minimize the cost of investment. Due to these reasons TREASURY MANAGEMENTbecomes an important function in Banking.
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FRONT OFFICE
BACK OFFICEMID OFFICE
Dealing
MIS
settlement
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Structure of Treasury
Function Responsible for
Front office Dealing
Mid-Office
Risk management,accounting andmanagement information
Back office Confirmations, settlement
and reconciliation
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Segment wise functions of Treasury
Front Office
Front Office deals in Govt. Securities, Call Money market, Repo transactions, T-Bills,
Short term deposits, CBLO, Forex, etc; Adheres to various exposure limits.
Reviews, frequently, investment strategies
Inflation forecasting and views on interest rates.
Dealing in Derivative instruments like interest rate swaps, futures and currency swaps.
Back Office
Exchange of cheques and instruments
Passing of Vouchers
Accounting
Verification of limit adherence
ALM statement preparation Middle Office
Market Risk management and Asset Liability Management.
Monitoring adherence of investment parameters, viz; duration, value at risk, etc.-
Authorising payments, inter-bank investments, viz; call money, Term deposits, Mutual
Fund instruments,
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Treasury
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Oversight of Treasury Function
Review of Dealing Room Operation
Organization Set up vis--vis RBI Guidelines
I nf rastructure availabil i ty and adequacy Segregation of F ront, M id and Back off ice functions
Compliance with I nternal Control Guidel ines- I nvestmentpolicy
Reconcil iation of Nostro Accounts, SGL, CSGL, DPAccounts
Submission of Per iodical Regulatory Returns
Physical Ver i f ication of Secur i ties.
Adherence to var ious exposure limits Review of NPA investments, disclosure and provisioning
Verif ication of I nterest / dividend income
Valuation of investments
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The approved activities of the Treasury Management operation
[a]Cash Flow (daily balances and longer term forecasting).
[b] Investing surplus funds. [c] Borrowing to finance cash deficits.
[d] Funding of capital payments through borrowing, capital
receipts, grants or leasing.
[e] Management of debt (including temporary borrowing)
[f] Interest rate exposure management.
[g] Dealing procedures with brokers, banks and the PWLB,
and directly with counter parties.
[h] Use of managers for investment of funds.
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Integrated Treasury
Banks adopt a focused approach towards improving efficiency
and profitability by successfully integrating the operations ofdifferent financial markets, viz. Domestic Money, Investments,
Foreign Exchange and Derivatives.
Traditionally the forex dealing room of a bank managed the forex
dealing mainly arising out of merchant transactions by way ofselling from and to customers and consequent cover operations in
inter-bank market.
The Domestic treasury /Investment operations were independent
of forex dealing of a bank.
Treasury operations were treated as cost centre specially devoted
to reserve management (CRR and SLR) and consequent
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Objectives of Monetary Policy
goals of monetary policy is growth and price stability
RBI modifies monetary policy in response to changes in the economic and financial
environment. For e.g. recently RBI adopted policy to fight inflation.
Traditionally monetary management was undertaken mainly through changes
in the CRR & Bank rate, which is used to influence indirectly the marginal cost
of borrowing by having an initial impact on the call money market.
Financial sector reforms since the early 1990s have provided a strong impetus
to the development of financial markets, which, along with interest rate
deregulation, paved the way for introduction of market-based monetary policy
instruments.
Of l t RBI i l i / t d th li idit dj t t
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Of late RBI is also using repo/reverse repo rates under the liquidity adjustment
facility (LAF) from June 2000.
This shift in emphasis from money to interest rates has been spurred by
increased financial liberalization, greater trade openness and capital flows, and
innovations in payment and transactions technologies.
Such a shift was gradual and a logical outcome of measures implemented in the
reform period since the early 1990s (Reddy, 2002).
New money market instruments such as CP, CD and repos has been introduced
in order to broaden the money market
Due to increased sophistication of financial markets, the risk profiles offinancial market participants also changed, necessitating introduction of
derivative instruments as effective risk management tools.
The greater integration of domestic and international markets also calls for
flexible use of monetary policy instruments for modulating domestic liquidity
conditions and correcting any serious misalignments between short-term andlong-term interest rates.
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Money Market
Certificate of Deposit (CD)
Commercial Paper (C.P)
Inter Bank Participation Certificates Inter Bank term Money
Treasury Bills
Call Money
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Certificate of Deposit
CDs are short-term borrowings BY BANKS in
the form of Usance Promissory Notes having a
maturity of not less than 7 days up to a
maximum of one year.
CD is subject to payment of Stamp Duty under
Indian Stamp Act, 1899 (Central Act)
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Features of CD
Issued by all scheduled commercial banksexcept RRBs
Minimum period 7 days
Maximum period upto 1 year
Minimum Amount Rs 1 lac and in multiples ofRs. 1 lac
CDs are transferable by endorsement CRR & SLR are to be maintained
CDs are to be stamped
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Commercial Paper
Commercial Paper (CP) is an unsecuredmoney market instrument issued in the form
of a promissory note by corporates/PDs/FIs
Who can issue Commercial Paper (CP)Highly rated corporate borrowers, primary
dealers (PDs) and all-India financial
institutions (FIs)
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Eligibility for issue of CP
a) The tangible net worth of the company, as
per the latest audited balance sheet, is not
less than Rs. 4 crore;
b) The borrowal account of the company is
classified as a Standard Asset by the
financing bank/s.
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Rating Requirement
All eligible participants should obtain the credit rating forissuance of Commercial Paper
Credit Rating Information Services of India Ltd. (CRISIL)
Investment Information and Credit Rating Agency of India Ltd.
(ICRA) Credit Analysis and Research Ltd. (CARE)
Duff & Phelps Credit Rating India Pvt. Ltd. (DCR India)
The minimum credit rating shall be P-2 of
CRISIL or such equivalent rating by otheragencies
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To whom issued
CP is issued to individuals, banking companies,
other corporate bodies registered or
incorporated in India and unincorporated
bodies, Non-Resident Indians (NRIs) andForeign Institutional Investors (FIIs).
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Maturity
CP can be issued for maturities between a
minimum of 7 days and a maximum upto one
year from the date of issue.
If the maturity date is a holiday, the company
would be liable to make payment on the
immediate preceding working day.
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Meaning of Repo
It is a transaction in which two parties agree to selland repurchase the same security. Under such anagreement the seller sells specified securities with anagreement to repurchase the same at a mutually
decided future date and a price
The Repo/Reverse Repo transaction can only be doneat Mumbai between parties approved by RBI and insecurities as approved by RBI (Treasury Bills,
Central/State Govt securities).
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Repo
Uses of Repo
It helps banks to invest surplus cash
It helps investor achieve money market returns with
sovereign risk.It helps borrower to raise funds at better rates
An SLR surplus and CRR deficit bank can use the
Repo deals as a convenient way of adjusting SLR/CRR
positions simultaneously.RBI uses Repo and Reverse repo as instruments for
liquidity adjustment in the system
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Call Money Market
The call money market is an integral part of the
Indian Money Market, where the day-to-day
surplus funds (mostly of banks) are traded.
The money that is lent for one day in this
market is known as "Call Money",
if it exceeds one day (but less than 15 days) it
is referred to as "Notice Money".
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Call Money Market
Banks borrow in this market for the following
purpose
To fill the gaps or temporary mismatches in
funds
To meet the CRR & SLR mandatory
requirements as stipulated by the Central
bank
To meet sudden demand for funds arising out
of large outflows.
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Factors influencing interest rates
The factors which govern the interest rates aremostly economy related and are commonly referredto as macroeconomic factors. Some of these factorsare:
1) Demand for money
2) Government borrowings
3) Supply of money
4) Inflation rate5) The Reserve Bank of India and the Government
policies determine some of the variables mentionedabove.
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Gilt edged securities
The term government securities encompass allBonds & T-bills issued by the Central
Government, and state governments. Thesesecurities are normally referred to, as "gilt-edged" as repayments of principal as well asinterest are totally secured by sovereign
guarantee.
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Treasury Bills
Treasury bills, commonly referred to as T-Bills
are issued by Government of India against
their short term borrowing requirements with
maturities ranging between 14 to 364 days.
All these are issued at a discount-to-face
value. For example a Treasury bill of Rs.
100.00 face value issued for Rs. 91.50 getsredeemed at the end of it's tenure at Rs.
100.00.
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Who can invest in T-Bill
Banks, Primary Dealers, State Governments,
Provident Funds, Financial Institutions,
Insurance Companies, NBFCs, FIIs (as per
prescribed norms), NRIs & OCBs can invest in
T-Bills.
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What is auction of Securities
Auction is a process of calling of bids with an
objective of arriving at the market price. It is
basically a price discovery mechanism
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Yield of Treasury Bill
Y= (100-P)*365*100
-----------------------
P*D
Y = Yield
P= Price
D =Days to maturity
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Example
91 days treasury bills maturing on 6-12-2008
Purchased on 12-10-2008 Rate quoted isRs.99.1489 per Rs100
(100-99.1489)*365*100= 31065.15----------------------------
(99.1489*55 days) =5453.18