5) Carry Trade pg 74• The carry trade is the investment strategy of going long in high-yield target currencies and short in low- yield funding currencies. The carry trade is one of the most simple strategies for currency trading that exists.
Carry Trade Fundamentals The carry trade fundamentals. The aim/ objective of the Carry Trade is to profit from interest rate DIFFERENTIALS. That is to borrow in one currency with a "low yield" and invest in one or more "high yield" currencies.Typically the Japanese Yen- has been the "funding currency of choice for "carry trade" purposes.
"Mrs Watanabe"- The KimonoTraderLets watch this short video.http://jp.reuters.com/video/2011/03/30/japans-hedge-fund-housewives?videoId=199153009I want you to think of a few questions using this structure.If I were the Interviewer I would have asked her..............
If I were the interviewer I would have asked..................Third Conditional examples(The third conditional talks about the past)We talk about a condition in the past that didnot happen !An example of the third conditional.If I had won the lottery (last Saturday) I wouldhave bought a car.
If I were the Interviewer Id haveasked............EX: If I were the interviewer Id have asked her how much leverage she uses !EX: If I were the interviewer Id have asked her which currency pair she dislikes.Do you have any other comments on this ? What are some adjectives you would use to describe currency trading (retail in this case)
Carry Trade Fundamentals cont.• Although the Carry Trade can result in large gains through INTEREST RATE Differentials and Currency Appreciation (and opportunities for Arbitrage.)• What is the underlying risk involved in Carry Trade Activity. ?
If you said (or thought) CurrencyDepreciationyou are CORRECT ! There is Currency Risk !There is EXPOSURE to the high yieldingcurrency depreciating in value compared tothe "funding" or borrowed currency.Right now, the US Dollar is the currency "invogue" for carry trade activity. There is a fearthat selling pressure will depreciate the dollarsvalue to even lower than it is today. (Law of Sand D)
Short and Long positions in FXThink of the short position Yukiko san is in in the video.Definition of Short’ (or Short Position) A trader is in a SHORT POSITION when she sells a currency pair. “Going Long” is the opposite of “going short”. The trader is in a LONG POSITION when she buys a CURRENCY PAIR.
The size of the FX MarketTokyo’s spot currency market iscurrently averaging about about $58bnOne analyst estimated such smalloperators (with fewer than 15employees) could account for as muchas 20-30 per cent of total FX tradingvolume in Japan.
Lets look at a possible scenario:Lets assume that the bond pays 4.5% and the Japanese interestrate is set at 0%.The trader stands to make a profit of4.5% as long as the_________________between thecountries does not change. Manyprofessional traders use this tradebecause the gains can become verylarge when _____________is takeninto consideration.
Short Selling pg 72Short selling is making money on a share even when its price is falling.This is not an easy concept to understand.Please consider these two questions.1. How can you sell something you dont own ?2. What does "Americas market regulator" refer to ?
Short selling continued.• Short selling is a bet AGAINST a companys share price.• The Investor (Speculator) expects the stock price to go down.• "Shorting" a stock is the opposite of buying a stock which is often referred to as "going long".
Short selling- a basic approach- short selling canlead to unlimited losses because in theory shareprices can increase indefinitely.• $ 300• $ 100•$0
A few more more points about short selling. Most liquid stocks can be borrowed for a long time (for the short-seller to keep short position) Short-selling has a negative image almost everywhere because it is linked to speculation. Most countries with a developed financial market have implemented short-selling bans since the summer of 2008.
The size of the Spot FX MarketTokyo’s spot currency market is currently averaging about Y5,000bn —or about $58bn per dayOne analyst estimated such small operators(with fewer than 15 employees) couldaccount for as much as 20-30 per cent oftotal FX trading volume in Japan.
Some background on short selling•In 1609, Mr. Le Maire, one of the key shareholders of the DEI Company soldmore shares in the company than he held.•(meaning he borrowed shares off another counter-party)He bet that the share price would fall with therise of a French competitor.That assumption did not materialize. Thecompany’s share price rose back and Le Mairewas unable to buy back the shares to deliverthem.
26) Investment BankingAn Investment bank, simply put, is an intermediaryorganization that uses its expertise and financialknowledge to make possible for companies,institutions and governments to take advantage ofbusiness or investment opportunitiesLet’s list the ones that you know. What else do youknow about them ? What happened to Lehmansassets in Asia Pac. after they filed for chapter 11?
IB DivisionsInvestment Banks usually operate anumber of different business divisions.Sometimes these divisions are referredto as “arms”.Are you familiar with any of them ?
Argument against Investment BanksSome people say these “Investment"banks dont have nearly enough realprivate capital to cover the bets onderivatives they are underwriting.whether it be swaps or options, futuresetc
These divisions usually include• RETAIL• GLOBAL MARKETS• INVESTMENT BANKING (Advising on M and A, providing project finance etc)• ASSET MANAGEMENT• MERCHANT BANKING (focus on Private Equity) What is the situation in Japan ? Are there similar structures used ? What are the differences in IB Structure if there are any ?
2) Universal Bank pg. 82A universal bank participates in manykinds of banking activities and is both acommercial bank and an investmentbank.
UNIVERSAL BANKS AND THE GLASSSTEAGALL ACT (GSA)The concept (of Universal Banks) is most relevant in theUK and the US, where historically there was a legaldifference between pure investment banks and commercialbanks.In the US, this was a result of the GlassStegall Act of 1933. In both countries,however, the regulatory barrier to thecombination of investment banks andcommercial banks has largely beenremoved (In the US through the GSA)
Recap: So what did the GSA do ?The GSA prohibited banks from acceptingdeposits and underwriting securities.Everyone should understand that the GSAmade it ILLEGAL to combine Investmentand Commercial/Retail Banking.Lets refer to the Financial crisis video.
GSA and GLB: Legal Framework in theFinancial MarketsIf the GLB Act hadn’t repealed the GSAthen……………..The GSA would have prevented theMortgage Lender from selling the mortgageto the Investment Banker.That may have prevented the crisis rightthere. (As you know MBS were a product at the core of the GFC)
REVENUE MIX pg 86So we have looked at the different divisionsInvestment Banks operate.Now, let us take a look at where theyreceive their revenue from:Please call them out as they are listed onpg. 861. UNDERWRITING Revenues 2. Trading Income 3. Commission 4.REPOS
BEHAVIOURAL ECONOMICS ANDFINANCE pg. 98Behavioral finance is the study of theinfluence of psychology on the behaviorof financial decision makers and thesubsequent effect on markets.Why is it necessary (for some people)to understand this field very well ?
EXCHANGES pg. 108 AND OTCMARKETSDefinition:Exchange: The place in which the trading ofgoods, stocks, commodities, currencies or otherfinancial instruments occurs.Lets have a look at the characteristics of eachOver-The-Counter Market -A decentralized market of securities not listed on anexchange where market participants trade over thetelephone, facsimile or electronic network mail/network
OTC markets are usually not regulated. There isless Liquidity.Examples of OTC markets include forex tradingmarkets, as well as markets for buying and sellingdebt.Over-the-counter markets have overtakenexchange markets in terms of volumes tradeddaily.
In exchange markets, there’s a regulator (The Exchange)through which transactions are completed,While in OTC markets there is no regulator.Exchange markets have less chances of pricemanipulation.On the other hand competing traders in OTC markets canmanipulate prices. (key benchmarks)Exchange markets ensure transaction security.Historical Data is much easier to obtain on Exchangetraded products.
Sovereign Wealth Funds pg 114- SWFPools of money derived from a countrys reserves,which are set aside for investment purposesthat will benefit the countrys economy andcitizens.The funding for a sovereign wealthfund (SWF) comes from a central bankreserves that accumulate as a result of budget andtrade surpluses 。