Investment Management of Banks - Bank Management - Lecture Slides, Slides of Banking and Finance

Download Investment Management of Banks - Bank Management - Lecture Slides and more Slides Banking and Finance in PDF only on Docsity! INVESTMENT MANAGEMENT OF BANKS Docsity.com OBJECTIVES • Stabilize Bank’s Income • Offset Credit Risk Exposure • Usage as Collateral • Flexible Asset Composition • Enhance Liquidity Docsity.com FACTORS AFFECTING PORTFOLIO INVESTMENT ¢ Return ¢ Risk * Tax Docsity.com INVESTMENT PORTFOLIO OF A BANK I Investments in India in Government Securities. 157738,10,12 143727,26,29 Other approved securities 4194,47,61 4527,26,17 Shares 901,89,75 992,52,85 Debentures and Bonds 15874,94,56 16166,26,61 Subsidiaries and/or joint ventures 1436,03,94 1189,49,38 Others (Units / Commercial Papers etc.) 1538,90,23 1282,79,48 TOTAL 181684,36,21 167885,60,78 Continued.. Docsity.com INVESTMENT PORTFOLIO OF A BANK II Investments outside India in Government securities (including local authorities) 202,93,60 381,38,12 Subsidiaries and/or joint ventures abroad 276,73,05 216,32,44 Other investments (Shares, Debentures etc.) 3512,45,42 3864,59,38 GRAND TOTAL 3992,12,07 4462,29,94 Docsity.com INVESTMENTS OF SCHEDULED COMMERCIAL BANKS (Amount in Rs. crore) Items As on March 31 Year 1 Year 2 Year 3 Amount share Per cent Amount share Per cent Amount share Per cent 4 Initial contribution to Share 70 0 1 0 4 0 Capital of UTI 5 Units of UTI 283 0 17 0 19 0 6 Certificate of Deposits and 2940 0.4 2296 0.3 3450 0.4 Commercial Papers 7 Mutual Funds 5246 0.8 9545 1.2 10480 1.2 8 Others @ 9027 1.3 23203 3 27266 3.2 Continued.. Docsity.com INVESTMENTS OF SCHEDULED COMMERCIAL BANKS (Amount in Rs. crore) Items As on March 31 Year 1 Year 2 Year 3 Amount share Per cent Amount share Per cent Amount share Per cent C.Foreign Securities 1141 0.2 3126 0.4 817 0.1 1Foreign Governments’ 77 0 82 0 — 0 Securities 2Other Foreign Investments 1064 0.2 3044 0.4 817 0.1 Continued.. Docsity.com INVESTMENTS OF SCHEDULED COMMERCIAL BANKS Amount in Rs. Crore Items As on March 31 Year 1 Year 2 Year 3 Amount share Per cent Amount share Per cent Amount share Per cent Investments by Foreign 14558 2.2 13621 1.7 13995 1.6 Offices of Indian Banks 1 Indian Securities 0 0 — 0 — 0 2 Foreign Countries Securities 3213 0.5 2920 0.4 3353 0.4 3 Other Investments 11345 1.7 10701 1.4 10642 1.2 Total 672164 100 781495 100 851554 100 Continued.. Docsity.com INVESTMENT PERFORMANCE OF BANKS Continued.. (in per cent) As on March 31 Ratios Allahabad Bank Andhra Bank Bank of Baroda Bank of India Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Investment- deposit ratio 46.6 37.1 38.64 33.74 45.6 37.49 36.39 33.83 Return on investments 8.47 8.05 7.85 7.16 7.96 8.19 7.62 7.15 Return on investments adjusted to cost of funds 3.58 3.31 3.41 2.59 3.78 4.16 3.33 2.97 Docsity.com INVESTMENT PERFORMANCE OF BANKS Continued.. (in per cent) As on March 31 Ratios Bank of Maharashtra Canara Bank Central Bank of India Corporation Bank Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Investment- deposit ratio 50.2 42.2 39.31 31.66 50.76 43.08 37.68 32.4 Return on investments 8.89 8.52 8.28 7.61 8.59 8.61 8.4 8.16 Return on investments adjusted to cost of funds 3.91 3.64 3.67 3.04 3.96 4.08 4.2 3.89 Docsity.com INVESTMENT PERFORMANCE OF BANKS Continued.. (in per cent) As on March 31 Ratios Dena Bank IDBI Ltd. Indian Bank Indian Overseas Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Investment- deposit ratio 46.4 36.3 165.9 97.5 51.48 46.6 42.98 37.51 Return on investments 8.35 7.82 1.58 3.35 8.33 8.27 9.04 8.81 Return on investments adjusted to cost of funds 3.39 3.4 0.96 1.77 3.68 3.66 4.4 4.16 Docsity.com INVESTMENT PERFORMANCE OF BANKS (in per cent) As on March 31 Ratios ABN Amro Bank Abu Dhabhi Bank American Express Bank Antwerp Diamond Bank Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Year 1 Year 2 Investment- deposit ratio 47.4 40.67 75.63 30.98 45.83 43.83 327.9 266.36 Return on investments 7.91 8.03 9.37 11.79 4.69 4.36 7.89 6.98 Return on investments adjusted to cost of funds 4.97 4.25 1.71 3.28 -0.88 -1.36 6.18 3.22 Continued.. Docsity.com YIELD CURVE • Yield curve is a graph that depicts the relationship between bond yields and maturities. • Investors use the yield curve as a reference point for forecasting interest rates, pricing bonds and creating strategies for increasing total returns. • Yield curve is a leading indicator of economic activity. Docsity.com CONTENTS OF THE YIELD CURVE • Yield on a bond is based on both the purchase price of the bond and the interest or coupon payments received. • Yield curve is a line graph that plots the relationship between yields to maturity and time to maturity for bonds of the same asset class and credit quality. • The plotted line begins with the spot interest rate, which is the rate for the shortest maturity, and extends out in time, typically to 30 years. Docsity.com THEORIES ON YIELD CURVE • Pure Expectations Theory: The theory holds that the slope of the yield curve reflects only investors’ expectations for future short-term interest rates. Mostly investors expect interest rates to rise in the future, which accounts for the usual upward slope of the yield curve. Continued.. Docsity.com THEORIES ON YIELD CURVE • Liquidity Preference Theory: Here long-term interest rates not only reflect investors’ assumptions about future interest rates but also include a premium for holding long-term bonds, called the term premium or the liquidity premium. This premium compensates investors for the added risk of having their money tied up for a longer period. Because of the term premium, long-term bond yields tend to be higher than short- term yields, and the yield curve slopes upward. Continued.. Docsity.com THEORIES ON YIELD CURVE • Preferred Habitat Theory: In addition to interest rate expectations, investors have distinct investment horizons and require a meaningful premium to buy bonds with maturities outside their preferred maturity or habitat. Proponents of this theory believe that short-term investors are more prevalent in the fixed-income market and therefore, longer-term rates tend to be higher than short-term rates. Docsity.com INVERTED YIELD CURVE • An inverted yield curve can signal recession. • When yields on short-term bonds are higher than those on long-term bonds, it suggests that investors expect interest rates to decline in the future, usually in conjunction with a slowing economy and lower inflation. Docsity.com YIELD CURVE YTM Underpriced e e Overpriced Maturity Overpricing / Underpricing of Specific Investment Securities Docsity.com YIELD CURVE Future short-term interest rates will be higher. Investment managers will use this information by shifting their investments away from long-term securities and towards short-term securities. Docsity.com INVESTMENT MATURITY STRATEGIES • Ladder or Spaced Maturity Policy • Front end Load Maturity Policy • Back end Load Maturity Policy • Barbell Investment Portfolio Strategy • Rate Expectations Strategy Docsity.com LADDER OR SPACED MATURITY POLICY Laddered Maturity Strategy % of Portfolio Maturity Docsity.com LADDER OR SPACED MATURITY POLICY • Equal percentage of investments over short and long term maturing securities • Difficulty in finding good credit rated securities in all maturity profiles • Cost of building the investment policy is high Docsity.com BACK END LOAD MATURITY POLICY Back end load Maturity Policy 12 11 % of Portfolio Maturity o NM_ Fk OD Ow Maturity in Years Docsity.com BACK END LOAD MATURITY POLICY • All investments are long-term maturity securities • Policy is subject to price and rate sensitiveness • Inflation risk is also to be borne by this policy Docsity.com BARBELL INVESTMENT PORTFOLIO STRATEGY Barbell Investment Portfolio Strategy Docsity.com ACTIVE INVESTMENT STRATEGIES • Speculative strategies – Bond Swaps • Rate Anticipation Swaps, • Quality Swaps, • Yield Pick-Up Swaps. – Yield Curve Strategies. • Shift Strategies – Ladder Strategy – Bullet Strategy – Barbell Strategy Docsity.com RATE EXPECTATIONS STRATERGY Rate Expectations Strategy 18 17 16 7 14 £ 2 2 o = ‘°o 10 eS 5 a = 3 x 6 4 2 o r T 1 2 3 4 5 6 7 8 9 0 1 «12 3 (14 Maturity in years Docsity.com RATE EXPECTATION • Strategy of buying bonds with high or low durations based on the expectation of an upward or downward parallel shift in the yield curve. It is a type of yield curve shift strategy. Expected in interest rates - Buy Short duration Investments Expected in interest rates - Buy Long duration Investments Docsity.com TYPES OF YIELD CURVE SHIFTS • Parallel Shifts: Rates on all maturities change by the same number of basis points (or by the same percentage). • Flattened Twisting: The difference in the yield to maturity of long term instruments to the yield to maturity of short term instruments are declining (YTMLT – YTMST). • Steeped Twisting: The difference in the yield to maturity of long term instruments to the yield to maturity of short term instruments are increasing (YTMLT – YTMST). Docsity.com TYPES OF YIELD CURVE SHIFTS • Positive Humped Shift: Short term and long term rates change more than intermediate interest rates. • Negative Humped Shift: Intermediate maturity interest rates change more than short term and long term rates of interest. Docsity.com BULLET STRATEGY • Portfolio of investments concentrated in one maturity area. All investments are heaped as a 5 year or a 3 year or any other specific maturity investment or around this short or long term maturity. • Example: 40% of the investment portfolio would have 4.5 years as maturity, 35% would have a maturity of 5 years and the remaining 25% of the investment portfolio would be having a maturity of 5.5 years. Docsity.com YIELD CURVE SHIFTS • Case 1 : Parallel Shifts – A rate change of 50 basis points • Case 2: Flattened Twist – C increases by 25 points, A increases by 50 basis points and B increases by 10 basis points • Case 3: Steep Twist – C increases by 25 points, A increases by 10 basis points and B increases by 50 basis points • Case 4: Positive Hump – C increases by 25 basis points, A and B increases by 50 basis points • Case 5: Negative Hump – A and B increases by 25 basis points, C increases by 50 basis points Docsity.com COMPUTATION OF CASE 1 • Investment A Time 1 2 3 4 5 Interest Rate 8 8 8 8 108Total Value Discount at changed rate 0.921659 0.849455 0.782908 0.721574 0.665045 Discounted Value 7.373272 6.795642 6.263265 5.772594 71.82491 98.02968 Interest Income 0.085 0.085 Asset Appreciation/Depreciation (Value-100)/100 -0.0197 Total Return 0.065297 Docsity.com RETURN ANALYSIS Case 1 A C B Bullet Barbell Rates 8.5 9.5 10.5 Value 98.02968 96.8606 96.30309 Return 0.065297 0.063606 0.068031 0.063606 0.066664 Case 2 A C B Rates 8.5 9.25 10.1 Value 98.02968 98.41309 99.24371 Return 0.065297 0.076631 0.093437 0.076631 0.079367 Continued.. Docsity.com INTEREST RATES RISE Case 1 A C B Bullet Barbell Rates 8.5 9.5 10.5 Value 98.02968 96.8606 96.30309 Return 0.065297 0.063606 0.068031 0.063606 0.066664 Case 2 A C B Rates 8.5 9.25 10.1 Value 98.02968 98.41309 99.24371 Return 0.065297 0.076631 0.093437 0.076631 0.079367 Continued.. Docsity.com INTEREST RATES RISE Case 3 A C B Bullet Barbell Rates 8.1 9.25 10.5 Value 99.60178 98.41309 96.30309 Return 0.077018 0.076631 0.068031 0.076631 0.072524 Case 4 A C B Rates 8.5 9.25 10.5 Value 98.02968 98.41309 96.30309 Return 0.065297 0.076631 0.068031 0.076631 0.066664 Continued.. Docsity.com INTEREST RATES RISE Case 5 A C B Bullet Barbell Rates 8.25 9.5 10.25 Value 99.00837 96.8606 98.12531 Return 0.072584 0.063606 0.083753 0.063606 0.078168 Docsity.com