Current trends on financial markets

1
Current trends on financial markets

• Helena Suvová
• 23rd October 2007

2
Content of the lecture

• Terminology
• Growth of financial markets after WW II
• Current financial market trends
• Current developments on credit markets
• New approaches to the enhancement of financial
  market stability and transparency
• Czech financial market

3
Terminology

• lending standards
• delinquency level
• market turmoil
• contagion effect
• structured finance
• securitization
• asset-backed securities
• sub-prime mortgages
• tranche

4
Terminology

• Financial market - mechanism allowing people
  easily buy and sell financial assets at low
  transaction costs
• Types of financial markets
• type of assets
• capital stock, bond
• commodity
• money
• derivative
• insurance
• foreign exchange
• primary, secondary

5
Growth of financial markets after WW II

• 1929 the Great Depression ? Keynesian approach
• In 70ties this model exhausted ? revival of
  neoclassical economics
• Large privatizations, liberalization, new
  business opportunities ? development of markets
• Market volatility is increasing
• 1987 market crash
• late 90ties internet bubble

6
Growth of financial markets after WW II

• Market reactions?
• Investors change investment strategies
• less risky instruments
• reduction of direct investments on stock markets
• growth of institutional investors
• modern methods of portfolio investment
• New regulations
• Technology revolution
• Demographic factors population ageing

7
Current financial market trends

• restructuring and consolidation
• securitizations
• financial innovations - continued broadening and
  expansion of derivatives markets
• internationalization
• institutionalization
• intellectual capital, knowledge mgmt

8
Current financial market trends

• Financial innovations stimulators
• technology changes
• market condition changes
• restrictive regulation

9
Diagram of a typical securitization
Current financial market trends
10
Current financial market trends

• Securitization - illiquid financial assets
  transformed to marketable capital market
  instruments
• The new instruments (bonds) are split into
  tranches with different risk
• senior tranche,
• mezzanine tranche,
• equity tranche, first loss tranche
• Types of instruments
• collaterised mortgage obligations, CMO
• collaterised bond obligations, CBO
• collaterised debt obligations, CDO
• commercial papers

11
Current developments on credit markets

• From end May 2007 deepening losses on
  mortgage-related product
• Declining confidence in the valuation of
  mortgage-related and structured credit products
• Spillover of market liquidity to the funding
  liquidity of banks

12
Current developments on credit markets

• Progressive adoption of originate-to-distribute
  business model deepens the problems
• Growth of warehoused assets previously slated for
  securitisation in banks balance sheets

13
Current developments on credit markets

• Questionable role of rating agencies in assesing
  credit risk of structured products
• Pros and cons of originate-to-distribute versus
  traditional buy-and-hold model

14
New approaches to financial market stability and
transparency

• Financial institutions and their regulators
  cat and mouse game
• In 80ties trend of deregulation
• In 90ties trend of reregulation
• Currently
• General objective financial stability
• Convergence in regulation and supervision, close
  co-operation
• principle based regulation

15
Current regulatory/supervisory structures
16
New approaches to financial market stability and
transparency

• The approach of the Czech Republic
• Integration of financial market supervision since
  2006
• Adoption of new prudential regulation for banks,
  credit unions and investment firms (the so-called
  Basel II) in 2007
• aims at financial systém stability,
  competitiveness
• strenghtens management responsibility
• promotes enhanced risk management (advanced model
  based approaches)

17
New approaches to financial market stability and
transparency

• Solvency II regulation for insurance sector is
  being prepared
• New EU Directive on Markets in Financial
  Instruments (MiFID) will be applied
• The corporate governance principles are supported
  
• IFRS application issuers of listed securities
  have to disclose in IFRS since 2006
• Single European financial regulator/supervisor in
  the future?

18
The Czech financial market

• Czech banking sector
• 24 banks 13 foreign bank branches
• dynamic growth of loans
• high profitability
• credit unions 20 active at the end 2006
• relatively rapid growth of assets
• low share on the market, their assets represent
  0,2 of financial sector assets

19
The Czech financial market
20
The Czech financial market
21
The Czech financial market

• Czech capital market
• 46 licensed investment firms at end 2006
• other supervised entities investment
  intermediaries and brokers almost 11000
  entities at end 2006
• two regulated markets (Prague Stock Exchange,
  RM-S)
• development of collective investments mutual
  funds, pension funds

22
The Czech financial market

• Czech insurance market
• 33 domestic insurance undertakings
• foreign ownership predominates
• highly concentrated market
• relatively low growth in life insurance premiums
  - household prefer alternative financial products
• profitable business (2006 RoA 4,5 , RoE 25,1)

23
Shares on financial sector assets
The Czech financial market
24
The Czech financial market
Some current tendencies on the Czech financial
market credit expansion Client loans and real
GDP year-on-year growth in
25
The Czech financial market
Some international comparison.
26
The Czech financial market
27
(No Transcript)
28
(No Transcript)
29
The Czech financial market

• Impact of the summer credit market turmoil on the
  Czech banking sector?
• Direct exposure in risk assets negligible
• Higher volatility of equity market
• Indirect effects deceleration of foreign
  economic growth (USA, Europe)
• Different structure of banks liabilities
• More tight bank underwriting standards
• Securitizations very rare
• Indirect and limited impact

30
Summary

• Financial markets are evolving quickly since
  1970ties
• Market changes may be supported by regulation
• Current credit market turmoil caused by weak
  underwriting and originate-to-distribute model
• Financial regulators are seeking for new
  approaches to financial market stability
• Czech financial market stabilized