PROMOTION MATERIALS - 2011 BANKING GLOSSARY - PART 001
CBLO: Collateralised Borrowing and Lending Obligation - CBLO is a
money market instrument developed for the benefit of the entities who
have either been phased out from inter bank call money market or have
restricted participation in terms of ceiling on call borrowing and
lending transactions. It is also meant for those who do not have access
to the call money market but need to borrow/lend funds for short-term.
The word "obligation" in the instrument is important because a CBLO is an
obligation on the part of the borrower to return the money at a specified
future date. In India the eligible securities for CBLO are central
government securities including treasury bills. The maturity period for
CBLO ranges from one day to ninety days (it can be made available upto
one year as per RBI guidelines) SWAPS: A swap is an exchange of
streams of payments between two counterparties, sometimes directly and at
other times through an intermediary bank or counterparty. The purpose of
a swap is to obtain an improvement in the quality of security or to
anticipate a change in the yield. In foreign exchange dealing swap
refers to the simultaneous purchase of an amount for spot settlement and
the sale of the same amount of the same currency for forward settlement.
The most common swaps are the interest rate swaps and currency swaps. An
interest rate swap involves an exchange of cash flows representing
interest payments/ receipts on an agreed upon principal amount - the
notional principal amount. A currency swap is the agreement to use a
certain currency for payments under a contract in exchange for another
currency. SECURITISATION: It refers to the act of making a
loan or mortgage into a tradeable security by issuing a bill of exchange
or other negotiable paper in place of a loan. The most common example of
securitisation is converting receivables (for e.g. interest receivable on
principal lent, electricity bills receivables) into securities which are
then traded on the exchange. Securitisation is typically done for the
purpose of raising cash by selling them to other investors. It is major
source of corporate finance. BASIS POINT: It is one hundredth of
one percent, mainly used to express differences in interest rates. A
hundred basis points is equal to 1%. So if the Bank Rate is 6% and the
Central Bank of a country raises it by 100 basis points, then the Bank
Rate will increase to 7%.. DERIVATIVES: A derivative is a product
that is defined as a security or notional transaction that derives its
value or price from the value or price of some underlying asset such as
bonds, stocks, commodities or currency. A forward contract in the foreign
exchange market is an example of a derivative wherein two parties agree
to buy/sell foreign exchange at a future date at a price determined
today. This translation which will take place in future derives its value
from the underlying asset .ie. currency. HIGH NET WORTH INDIVIDUALS:
It is the classification used by the financial services industry to
denote an individual or family with substantial amount of financial
wealth. While there is no precise definition of how rich the individual
should be, high net worth is usually quoted in terms of liquid assets
over a certain figure. Globally this figure is taken to be 1 million US
dollars. India's HNI population is growing and as per one estimate
prepared by DSP Merrill Lynch and Cap Gemini HNI population in India grew
by about 23% in 2007 as compared to the previous years and the combined
wealth of HNIs in India was around 440 billion USD as of December, 2007.
UNDERLYING: The assumption of a risk for a fee, particularly in the
insurance or investment business is referred to as underwriting.
Insurance underwriting guarantees cash payment in the event of a loss or
casualty. Investment underwriting guarantees the purchase of new
offerings of corporate stock or debt securities of a corporation or a
government entity by purchasing the entire offering and then reselling it
in the secondary market. SUBVENTION SCHEME: Subvention is the
act or process of giving some sort of aid usually by the government. For
example, in India, there have been subvention schemes for housing
finance, farmers and the export sector and generally takes the form of
interest rate subvention whereby the government bears a part of the
interest rate burden on behalf of the beneficiaries of the subvention
scheme. For example, under the subvention scheme for exporters, exporters
can get loans at 2% less than the prime lending rate (PLR) of the banks
and this would be reimbursed to the banks by the government.
RECOURSE: A general legal term meaning that the purchaser of a
financial asset from an original creditor has a claim on the original
creditor in case the debtor defaults. Specific arrangements to provide
recourse arise in a variety of innovative transactions, including various
types of securitized assets. Such arrangements can take many forms
including an explicit guarantee that credit losses will be reimbursed or
the assets replaced by assets of similar quality; an agreement to
repurchase assets before maturity or more indirectly indemnification by a
third-party guarantee for any losses that occur. Recourse is commonly
used in trade finance in forfaiting, for example. SECURITIES
TRANSACTION TAX: Securities Transaction Tax (STT) was introduced by
Chapter VII of the Finance Act (No:2)Act, 2004. STT is a tax being levied
on all transactions done on the stock exchanges. Securities Transaction
Tax is applicable on purchase or sale of equity shares, derivatives,
equity oriented funds and equity-oriented mutual funds. STT is not
applicable in case of government securities, bonds, debentures and units
of mutual fund other than equity oriented mutual funds MACAULAY'S
DURATION: It is the measure of the price sensitivity of a security
or a portfolio of securities to a change in interest rates. It was the
first formulation (formulated in 1939) of the principle of duration.
Duration is the average time needed to recover an initial cash outlay.
For simple application of duration analysis, Macaulay's duration is an
adequate approximation of the true duration MARGIN AMOUNT: It
is the minimum amount a client or a customer (in the stock market it
would be a broker) must provide the stock exchange to purchase securities
on credit. Changes in the value of such securities are credited (or
charged) to those deposits each day (marked-to-market) OPEN MARKET
OPERATIONS (OMO): It is a tool for monetary action that is available
with the central banks. It involves buying and selling of government
securities from/to banks with the objective of managing the liquidity in
the system. An open market purchase (of government securities from banks)
would increase liquidity in the system. An open market sale(of government
securities to banks) would suck the liquidity out of the system.
OFF-BALANCE SHEET ACTIVITIES: Bank's business, often fee-based that
generally does not involve booking assets and taking deposits. For
example, trading of swaps, options, foreign exchange forwards, standby
commitments and letters of credit FOREIGN CURRENCY CONVERTIBLE
BONDS: A type of convertible bond issued in a currency different than
the issuer's domestic currency. In other words, the money being raised by
the issuing company is in the form of a foreign currency. A convertible
bond is a mix between a debt and equity instrument. It acts like a bond
by making regular coupon and principal payments, but these bonds also
give the bondholder the option to convert the bond into stock. These
types of bonds are attractive to both investors and issuers. The
investors receive the safety of guaranteed payments on the bond and are
also able to take advantage of any large price appreciation in the
company's stock. (Bondholders take advantage of this appreciation by
means of warrants attached to the bonds, which are activated when the
price of the stock reaches a certain point) Due to the equity side of the
bond, which adds value, the coupon payments on the bond are lower for the
company, thereby reducing its debt financing costs. FINANCIAL
STABILITY FORUM: The Financial Stability Forum (FSF) is a forum of
senior representatives of national financial authorities viz., central
banks, supervisory activities and treasury departments, international
financial institutions, international regulatory and supervisory
groupings, committees of central bank experts and European Central Bank.
The FSF is serviced by a small secretariat housed at the Bank for
International Settlement in Basel, Switzerland. It was convened in April
1999 to promote international financial stability through information
exchange and international co-operation in financial supervision and
surveillance. NET PRESENT VALUE: A net present value (NPV)
gives the time value of money. Very simply it gives the value of
tomorrow's money as it stands today. It is most commonly used in
measuring the profitability of any investment opportunity. Using a
discount rate (usually one of the prevailing interest rates)an NPV
calculation answers the question: What will be the profit or loss
measured in today's money values of an investment opportunity for a given
discount rate ? If the answer is positive, then the present value of all
the future cash inflows will be more than all the outflows and the
investment will be profitable. LEAD INDICATORS: Lead or leading
indicators are a series of economic data that consistently move with
overall economic activity but turn up or down sooner than the general
economy. They are useful in predicting the phase of the business cycle in
an economy. A business cycle is an up and down movement of the economic
activity of a country and characterized by recovery, boom, recession, and
bust. In India, for example, in the construction sector, the leading
indicators are the cement and steel production and offtake. SUB-PLR
RATES: Sub-PLR loans are the loans extended to some of the top
corporates below the prime lending rate (PLR) with a view to encourage
more low-risk borrowings. PLR is the rate of interest charged by banks on
loans to their most creditworthy borrowers. The prime rate serves as a
benchmark for deciding on the interest rate to be charged to other
borrowers. In India banks and financial institutions periodically
announce their prime lending rates depending on their cost of funds and
competitive lending rates. Following the recent credit crunch, banks,
including PSBs had stopped offering sub-PLR loans because of the high
default risk. However, with liquidity having been eased in the market,
sub-PLR loans are back in the market. KNOCK OUT OPTION: An
option contract that becomes worthless if the price of the underlying
asset or contract reaches a pre-specified price barrier.
PROVISIONING NORMS: Provisioning norms refer to provisions that
banks have to make for their non performing assets. Non performing assets
(NPAs) are those loans/advances of the banks which have ceased to earn
income for the bank. Usually the assets are classified into standard
assets (those that are earning income) and those that don't viz.,
substandard assets, doubtful assets and loss assets. The last three types
of assets come under the Non Performing Assets category for which
provisions have to be made from the profits. The various types of non-
performing assets are often further classified into various sub-types
depending upon the criteria such as whether they are secured or not, the
age of the asset etc., VENTURE CAPITAL: The long term financial
assistance to projects being set up to introduce new
products/inventions/innovations or to commercialise new technologies.
These are funds which are available for financing the start-up of a
business. Usually these funds are made available from commercial banks,
merchant banks, etc., It is in the nature of equity and therefore,
venture capital is often known as risk capital. LIEN: A legal claim
or attachment filed on record against property, as security for the
payment of an obligation. A lien is the guaranteed right of a lender or
an investor to specific property in case of default. TIER-II
BONDS: Bonds that are issued based on the Tier-II capital of the
banks. The capital of a bank includes Tier-I capital or core capital,
Tier-II capital and Tier-III capital. Tier-II or supplementary capital
comprises subordinated debt of more than 5 years' maturity, loan loss
reserves, investment fluctuation reserves and limited life preference
shares. Tier-II capital is restricted to 100% of Tier-I capital and long
term subordinated debt may not exceed 50% of the Tier-I capital
CAPITAL ADEQUACY RATIO: Capital Adequacy is a measure of the bank's
strength, Minimum capital ratios are set forth by the bank regulators.
Capital has to be maintained as a certain proportion of the total assets.
Currently, a risk-based capital (RBC) framework agreed to by the Basel
Committee(an international group of central banks and supervisory
agencies) applies to banks around the world. Each country establishes its
own guidelines within the RBC framework. These are known as the capital
adequacy standards and the ratio so prescribed is known as the capital
adequacy ratio. Capital is required based on relative risk-weightings of
assets. The standards define on a risk basis capital funds as a
percentage of total assets of banks, essentially higher the risk for an
asset, the higher the capital requirement. Under Basel-II norms 8% is the
prescribed capital adequacy ratio. In India, the prescribed capital
adequacy ratio is 9%. JOINT VENTURE: An association of two or
more people or companies that carries on a single business enterprise for
profit. The legal form may be a partnership or corporation formed for a
particular purpose. For example a bank and an insurance company may come
together to promote a new insurance company in the form of a joint
venture. A joint venture differs from partnership because its existence
continues only as long as its specific purpose continues. ELECTRONIC
CONTRACT NOTE: The electronic form of a physical contract note is called
the electronic contract note. A contract note in the stock exchange is an
enabler for the business on the stock exchange and helps market
participants in their transactions. In 2003, Securities and Exchange
Board of India (SEBI) had allowed stock participants to issue electronic
contract notes with digital signatures obtained from a valid Certifying
Authority provided under the Information Technology Act, 2000. REAL
EFFECTIVE EXCHANGE RATE: Real Effective Exchange Rate or REER as it
is called, is an indicator of the country's export competitiveness.
Unlike the bilateral exchange rates which has a number of home currency
units per unit of dollar, REER is an index and is calculated using the
bilateral exchange rates as well as the inflation rate. It uses -œreal-•
exchange rates i.e. nominal rates adjusted for relative inflation to
calculate the index. The REER gives the correct picture about a country's
export competitiveness. So for example, if a dollar was worth Rs. 40 at a
base rate and is worth Rs. 50 now, in nominal terms dollar has
appreciated by 25% (or the rupee has depreciated by 20%). However, it's
costs in India have gone up IN THE MONEY: It is a phrase used to
describe an option that has positive intrinsic value. For a call option,
this means the current price of the underlying asset or contract covered
by the option exceeds the option strike (exercise) price. For a put
option, this means the current price of the underlying asset or contract
covered by the option is below the option strike (exercise) price.
Submitted by A. Gauri Sankar, a retired banker from a nationalized bank
in India, he had served as a director in a Rural Self Employment Training
Institute. Has a postgraduate degree - MBA, apart from BSc, CAIIB, PGDMM,
PGDFM, PGDOM, PGDHRM. He is a writer for articles on banking, self
improvement and education. His articles are available at
gaurisankars@blogspot.com. He is a trainer for banking subjects and he is
also a trainer for soft skills. He can be contacted at:
gausan51@gmail.com. He is presently living at Chennai in India
Related Articles -
CBLO; SWAPS; SECURITISATION, BASIS POINTS; DERIVATIVES;,
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