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Money Market Analysis

Question:

Discuss About The Various Strategies Singapore Overseas Bank?

The report deals with the money market scenario in the Singapore. After analyzing that we are the money market dealing team and is working for a reputed Singapore Overseas Bank. Through the analysis and presentation of the historical data for the last three years is has been found out that the interest has been constant during the year 2014 and 2015 but it has fluctuated during the second half of 2016.Tis situation due to the reason because the United States Federal Reserve decided to increase the interest rate and thereby it had impacted on the interest rates of Singapore thereby resulted in the increase in the interest rates in the Singapore Overseas Bank.

In this report it has been described about the Singapore money market behavior and our team will analyze and predict the Singapore interest for the next six months. Based o the prediction and analysis, strategies are made and implemented and which forecast the risk involving those strategies and hoe the bank will ultimately maximize its profit in the scenario taking in the factor posed by money market (Bruno and Shin, 2015).

In the above figure it shows that there has been increase in the interest rate in the year 2105 and 2016.The interest rate has been low in the first two years but it has considerably raised in the year 2015 and then in 2016.Thus the interest rate in the year 2016 was 1%.Although currently the interest rates has been 0.5%..It has been found out that the interest rates increased due to the increases in interest rate by the United States Federal Reserve decision to keep the interest rate from 0.25% to 0.5%.

Since there was a rise in the US interest rate which has weaken the Singapore dollar rate against the United States rates. Thus it has been seen that the Singapore rates has fallen1.8% against the US rates. The higher the interest rate the higher will be the value of that particular country.

The Singapore interbank rate is use as a bench mark for the using to predict the rate of mortgage loan and the lending rates. In the near times it has been seen that the US rates have been increased which eventually depreciated the value of Singapore dollar.

The SIBOR has fallen and the US interest rates have increased. The major causes for the increase in the interest rates are as follows.

  • The US economy has made a attempt which have made the Central Bank of USA to reduce their monthly purchase of USA Government bonds. With this strategy the money has been limited in the bank and the banks charge higher interest rates from the borrowers (Turner, 2014).
  • The strength of USD is much higher than the strength of the Singapore dollar which have resulted in the stable Singapore dollar rates. Thus there has been a rapid increase in dollar and therefore a fall in SIBOR.
  • In order to remain competitive the ASEAN have reduced the volatility of the SGD against Singapore dollar.

Singapore Interest Rate Prediction

We predict that the interest rate will increase in the next six months. There has been a rise in the interest rate in the years. There has been a increase in the interest rate which shows a increase I the value of the economy. The inflation rate is expected to increase with time. We will predict that there will be a rise in the inflation rate that will rebound the Singapore’s deflation

There is an inverse relationship between the loan able funds and the interest rates since there is a direct relationship between the loan able funds and the interest rates.

As the interest rate in the Singapore is expected to rise then the demand will fall. The loan able funds will rise and the higher interest encourages loans and the business will supply funds (Van Leuvensteijn et al, 2013)

Singapore Treasury Bills (T-Bills)

T-bills are a form of instrument in the money market  issued by the Monetary Authority of Singapore (MAS). The minimum requirement for investment is S$1000 using cash or CPF savings. Once every 3 months, the MAS will put up the auction on a Monday on SGS website as well as the newspaper. Since T-bills are regarded as risk-free and highly liquid, the interest paid out usually pales in comparison to other form of investments. Although the rates are usually consistent from year to year, factors such as macroeconomic conditions and monetary policies of the country will still play a part in determining the rise of fall of the interests. The pricing of T-bills are also influenced by the level of investor’s confidence such that demand would rise during recessions and vice-versa.

A sum of $50m will be used for Overnight Cash with a predicted amount of 950 transactions with the Bid and Offer Rate for Trusty Bank’s Overnight Transactions are stated below.

Bid Rate (%)

Offer Rate (%)

0.76

0.98

Simple Interest Formula: I = PV x I x T

I= interest rate

T = no. of days/365

$301.38 x 950 = $286311

As given, the anticipated profits after calculations over the period of 6 months will be $286,311.

Instrument

Maturity

Target Market

Role of Trading

Capital Required

Strategy

Fixed Deposit

12 months

MNCs & Consumers

Borrower (sell)

SGD$ 100 m

Price Making

Fixed term loan

3 months

MNCs & Consumers

Lender

SGD$ 50 m

Price Making

Overnight Repo

6 months

MNCs & Consumers

Lender

SGD$ 50 m

Speculation

Banking firm, a monopolistic bank faces a downward-sloping demand for loans and an upward-sloping supply of deposits (Brigham and Ehrhardt, 2013). The spread between the loan rate and the deposit rate depends on the size of the interest elasticity of demand for loans and the interest elasticity of supply for deposits. A bank will change its deposit or prime rate only if the existing deposit or loan rate diverges from the profit-maximizing rate as a result of a given change in the money market rate. The amount and speed with which the deposit or loan rate will change will depend on the change in the optimal rate relative to the size of the adjustment cost. Flannery (1982) has shown that banks face significant adjustment costs in the retail deposit market as they seek to attract and maintain "core deposits". The recent literature on relationship lending by banks focuses on the high cost of investment incurred by lenders to counteract international asymmetries presented by borrowers and the effort to establish long-term relationships as a way of overcoming the problem (Ma, Xiandong and Xi,2013)

  1. Bills of Exchange - The Bills of Exchange can be used to do the following:
  2. Facilitate international trade (trade bills)
  3. Raise finance (accommodation bills or commercial bills)
  4. A bill of exchange is defined as “An unconditional order in writing addressed by one person to another, signed by the person to whom it is addressed to pay on demand or at a fixed or determined future time a sum certain in money to or to the order of a specified person(s).”( Benes et al,2015).It involves about three parties that is the Drawer (borrower) and the Acceptor/ Drawee /Guarantor and the Discounter (lender).If the bill of exchange is sold in the secondary market, it must be endorsed and in which incurs a “contingent liability”.
  1. Commercial Paper- The commercial paper includes the P – Notes or the commercial paper. It is essentially called the IOU.The commercial paper is issued by the large organizations or companies having an excellent credit rating and is having a good capital structure. Thus the commercial paper is sold and no contingent liability arises a it arises in the bills of exchange. Thus the commercial bills yields higher than BAB’s (Ghosh, 2016)
  1. Treasury Notes- The treasury notes represents the Notes issued by the Government in order to raise the short term finance. The notes are issued weekly by the tender with maturity of a period of five, thirteen or twenty six weeks. The treasury notes are accused to be active in the secondary market amongst the commercial banks (Melvin and Norrbin, 2017).The treasury notes are very liquid instruments and it can be bought and sold by the Central Bank in this secondary market. Thus the treasury bills have yields lower than the BAB’s.
  1. Certificate of Deposit – The Certificate of Deposit is essentially the promissory notes that are issued by the banks. The instruments have a maturity of ninety days and one eighty days. The yield rate which is same as BAB’s.The instrument is usually traded in the secondary market. It thus have a a minimum denomination which is $ 50000 (Papadamou, Sidiropoulos and Spyromitros, 2017)

Strategies to Maximize Profit

Before implementing the strategies, we need to consider the vital facts about risk and obstacles that company could face. The risk factors are dependent upon China and US economy and the interest rate. As a company operating in Singapore, all companies within Singapore are exposed to risks presented in Singapore’s environment, as well as some default risks of the market or industry.

Singapore has a lot of trade with China and USA.  This causes Singapore dollar to be influenced by the changes of the economies of those countries. Recently, the economic condition in China causes them the cut their interest rate by 0.25%, and this reduction result in an instability of currency in Singapore (Bertay, Demirgüç-Kunt and Huizinga, 2013).

  1. Interest Rate Risk

Singapore’s relationship with USA both politically and economically presents both opportunity and risks to companies in Singapore. Singapore’s economy is heavily relied on USA’s economy. The US government recently increased their interest rate, and this increment will have an impact on the interest rate in Singapore (Filardo,  Genberg and Hofmann, 2016.).

  1. Exchange Rate Risk

For companies that have partnered foreign companies will also have to face exchange rate risk. When two trading companies from different country have a business transaction, at least one party will have to face the exchange rate risk of dealing with another currency. A slight change of exchange rate in the market can cause one party to pay more, or receive less (Jamilov and Égert,  2014).

  1. Market Volatility

Specifically for the money market trading strategy, the short term financing create a risk in volatility of the market. This volatility causes the return to be unstable and there is a possibility for a company to receive a lesser return at the end of the contract, than as stated during the beginning of the contract. The cost of transaction for short term financing of money market strategy is also more costly compared to other financing instruments.

  1. Instrument Risk

This arises when there is adverse condition in the market and there is counterpart default and credit risk. The money market will consist of the fixed deposits and the treasury bills and the commercial paper. There is a number of risk then there is less risk due to security and capital structure. In case there is crisis all over the World the borrowers will have to fail if they buy the instrument so there is a risk

  1. Reinvestment Risk

This risk is of investing in the funds at a lower rate and there the yield will be lower. The task of managing the reinvestment is very difficult and the short term rates are volatile. In money market they invest on short term instruments when the yield curve is flat. Since there money market instruments are very volatile there may be reinvestment risk which needs to be eliminated.

  1. Counterparty Risk

In case of this risk the issuer or the debtor will have the obligation to pay back the borrowed amount. This will lead the investors to sell off the commercial paper, irrespective of issuer, selling off indiscriminately. Banks stopped lending to each other, cash markets froze and multiple counterparties.

  1. To manage counterparty risk, RECM only invests in counterparties with strong balance sheets – and analyses their prudential liquidity requirements, as required by the Reserve Bank, to identify banks that are facing potential liquidity pressure. RECM Executive Chairman Piet Viljoen explains: “Even though poor quality counterparties generally pay higher yields, we generally avoid the
  1. Political Risk
  2. There have been a number of steps that has been taken to combat the political risk which has a implication on the money market. This is due to the reason that the money market has on the supply of the market. This is due to the fact that has on the supply of the market and on the exchange risk. The money market players are the large institutional bodies which have good hold over the market and of the risks involved there are also interest and also market risks

References

Al-Majali, A.A. and Al-Assaf, G.I., 2014. Long-run and short-run relationship between stock market index and main macroeconomic variables performance in Jordan. European Scientific Journal, ESJ, 10(10).

Benes, J., Berg, A., Portillo, R.A. and Vavra, D., 2015. Modeling sterilized interventions and balance sheet effects of monetary policy in a New-Keynesian framework. Open Economies Review, 26(1), pp.81-108.

Bertay, A.C., Demirgüç-Kunt, A. and Huizinga, H., 2013. Do we need big banks? Evidence on performance, strategy and market discipline. Journal of Financial Intermediation, 22(4), pp.532-558.

Brigham, E.F. and Ehrhardt, M.C., 2013. Financial management: Theory & practice. Cengage Learning.

Bruno, V. and Shin, H.S., 2015. Capital flows and the risk-taking channel of monetary policy. Journal of Monetary Economics, 71, pp.119-132.

Filardo, A., Genberg, H. and Hofmann, B., 2016. Monetary analysis and the global financial cycle: An Asian central bank perspective. Journal of Asian Economics, 46, pp.1-16.

Ghosh, A., 2016. How does banking sector globalization affect banking crisis?. Journal of Financial Stability, 25, pp.70-82.

Jamilov, R. and Égert, B., 2014. Interest rate pass-through and monetary policy asymmetry: A journey into the Caucasian black box. Journal of Asian Economics, 31, pp.57-70.

Kuttner, K.N. and Shim, I., 2016. Can non-interest rate policies stabilize housing markets? Evidence from a panel of 57 economies. Journal of Financial Stability, 26, pp.31-44.

Loo, H.T., Ang, H.L., Chan, J.Y., Goh, Y.W. and Tan, S.M., 2017. The Determinants of Credit Risk in Five Selected Southeast Asian Countries(Doctoral dissertation, UTAR).

Ma, G., Xiandong, Y. and Xi, L., 2013. China’s evolving reserve requirements. Journal of Chinese Economic and Business Studies, 11(2), pp.117-137.

Melvin, M. and Norrbin, S., 2017. International money and finance. Academic Press.

Papadamou, S., Sidiropoulos, M. and Spyromitros, E., 2014. Does central bank transparency affect stock market volatility?. Journal of International Financial Markets, Institutions and Money, 31, pp.362-377.

Papadamou, S., Sidiropoulos, M. and Spyromitros, E., 2017. Does central bank independence affect stock market volatility?. Research in International Business and Finance.

Turner, P., 2014. The global long-term interest rate, financial risks and policy choices in EMEs.

Van Leuvensteijn, M., Sørensen, C.K., Bikker, J.A. and Van Rixtel, A.A., 2013. Impact of bank competition on the interest rate pass-through in the euro area. Applied Economics, 45(11), pp.1359-1380.

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