interest rates and currency swaps, adr &

8/7/2019 INTEREST RATES AND CURRENCY SWAPS, ADR &

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ADR & GDR,ADR & GDR,INTEREST RATESINTEREST RATES

SWAPS & CURRENCYSWAPS & CURRENCY

SWAPSSWAPS


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1. ADR(AMERICAN DEPOSITORY RECEIPT)

Introduction & Meaning of ADR :-

y American Depository Receipts popularly known as ADRs wereintroduced in the American market in 1927. ADR is a securityissued by a company outside the U.S. which physicallyremains in the country of issue, usually in the custody of abank, but is traded on U.S. stock exchanges.

y Thus, we can say ADRs are one or more units of a foreignsecurity traded in American market. They are traded just

like regular stocks of other corporate but are issued /sponsored in the U.S. by a bank or brokerage.

y In other words, ADR is a stock that trades in the United Statesbut represents a specified number of shares in a foreigncorporation.


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y ADRs were introduced with a view to simplify the physicalhandling and legal technicalities governing foreign securities asa result of the complexities involved in buying shares in foreigncountries.

y Trading in foreign securities is prone to number of difficultieslike different prices and in different currency values, whichkeep in changing almost on daily basis.

y In view of such problems, U.S. banks found a simplemethodology wherein they purchase a bulk lot of shares fromforeign company and then bundle these shares into groups,and reissue them and get these quoted on American stockmarkets.


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1.1 TYPES OF ADR ISSUED

ADR

PROGRAMS

LEVEL I LEVEL II LEVEL III LEVEL IV


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y Level 3 - The most prestigious of the three, this is when an

issuer floats a public offering of ADRs on a U.S. exchange.Level 3 ADRs are able to raise capital and gain substantialvisibility in the U.S. financial markets.


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1.2 RISKS :-

There are several factors that determine the value of the ADR beyondthe performance of the company. Analyzing these foreign companiesinvolves further scrutiny than merely looking at the fundamentals. Hereare some other risks that investors should consider:

o Political risk

o Exchange Rate risk

o Inflationary risk


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1.3 ADVANTAGES OF ADR :-

y ADRs can be bought and sold just like shares of IBM or Coca-Cola.

y

You don't need a foreign brokerage account or a new broker;you can use the same broker that you normally deal with.

y Prices for ADRs are quoted in U.S. dollars, and dividends arepaid in dollars.

y ADRs trade during U.S. market hours and are subject to similarclearing and settlement procedures as American stocks.

y You can customize your portfolio however you like, dependingon which countries or sectors you are interested in.


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1.3.1 ADVANTAGES TO THE ISSUER:-

y Provides a simple means of diversifying a companys

shareholder base and assessing important U.S market.

y May increase the liquidity of the underlying shares of theissuer

y It can be used as an equity financing tool for U.S

subsidiaries.

y May raise capital in the U.S market through some types

of programs.


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1.3.2 ADVANTAGES TO THE INVESTOR

y Offers a convenient means of holding foreign shares

y Simplifies the trading and settlement of foreign

securities, ADRs trade and settle just like U.S

securities


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1.4 DISADVANTAGES OF ADR :-

y Limited selection: Not all foreign companies are availableas ADRs. For example, Japan's Toyota Motor has an ADR,but Germany's BMW does not.

y Liquidity: Plenty of companies have ADR programsavailable, but some may be very thinly traded.

y

Because ADRs are like stocks, you need to buy enough ofthem to ensure adequate diversification. So if you don'thave enough investment capital to spread around, say 25to 30 ADRs (or more), you won't be able to create a trulydiversified portfolio on your own.


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2. GDR (GLOBAL DEPOSITORY RECEIPT)

MEANING :-

o A bank certificate issued in more than one country for

shares in a foreign company. The shares are held by aforeign branch of an international bank. The shares tradeas domestic shares, but are offered for sale globallythrough the various bank branches.

o A financial instrument used by private markets to raisecapital denominated in either U.S. dollars or euros.


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2.1 PROCEDURE FOR ISSUING GDRS


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y The local broker from the country where the company is

situated buys the stocks and deposits them in the bank

having branch in the given country which acts as the

custodian of the stocks. This local bank then provides the

notification of local stocks settling to the international

bank, which in turn issues the GDRs in the foreign

market which can be brought by the investors.

y GDRs basically represent the ownership of stocks of a

company not based in the investors country and derive

their value from the stock price of the company being

traded in its home country.


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2.2 BENEFITS TO THE INVESTORS

y GDRs help investors in developed countries to invest inthe emerging economies thereby earning them a higherreturn on their investment.

y As GDRs are traded in terms of the currency of investorsmarket, it avoids the hassle of converting the currencyand then buying the stocks. Secondly the dividends arepaid to investors in their currency itself.


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2.3 BENEFITS TO THE COMPANY

The Companies in the developing economies generallyface the problems in expanding their businesses becauseof limited capital availability in their home country.

By issuing GDRs, it can access the available capital indeveloped economies

GDRs also help them to diversify their base ofshareholders and also make the stocks more liquid,thereby making the stocks of the company a desirableinvestment.

Also it helps better price


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2.4 PRICING OF THE GDRS

The price of the GDR should not be less than the higher ofthe following two averages:

The average of the weekly high and low of the closingprices of the related shares quoted on the stock exchangeduring the six months preceding the relevant date.

The average of the weekly high and low of the closing

prices of the related shares quoted on a stock exchangeduring the two weeks preceding the relevant date.


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2.5 LIST OF INDIAN COMAPANIES HAVING GDR

THE COMPREHENSIVE GDR LISTING

GDRCompanies

# euroconvertible

bond**adjusted for

bonus

IndustrySegregati

on

DateOf

GDRIssue

SizeOf GDR

IssueUS $

Mill

Sharesper

GDR

GDRIssuePrice

**(US$)

Ashok Leyland Autos 20-Mar-95 137.77 3.0 12.79

Bajaj Auto Autos 27-Oct-94 110.00 1.0 16.89

Bombay Dye Textiles 16-Nov-93 50.00 1.0 9.20

ReliancePetroleum Diversified 18-Oct-99 100 15.0 23.0

CromptonGreaves Electrical 02-Jul-96 50.00 1.0 7.56

Dr. Reddy's Pharma 18-Jul-94 48.00 1.0 11.16


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ICICI Finance 02-Aug-96 230.00 5.0 11.50

ICICI (ADR) Finance 22-Sep-99 315 5.0 9.80

Infosys IT 11-Mar-99 70.38 0.5 34

ITC Cigarettes 13-Oct-93 68.85 1.0 7.65RanbaxyLabs Pharma 29-Jun-94 100.00 1.0 19.38

Tata Electric Power 22-Feb-94 65.00 100.0 710.00

SatyamInfoway IT 19-Oct-99 75.00 1.0 18.0

Hindalco(1st) Aluminium 22-Jul-93 72.00 1.0 10.73

SBI Banking 03-Oct-96 369.95 2.0 14.15

GAILOil &Refineries 04-Nov-99 22.50 6.0 9.67


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2.6 DIFFERENCE BETWEEN GDR AND ADR

BASIS GDR ADR

COMPULSORY Global depository receipt(GDR) is compulsory forforeign company to access inany other countrys sharemarket for dealing in stock.

American depository receipt(ADR) is compulsory for nonUS companies to trade instock market of USA.

NEGOTIABLE GDR is negotiable instrumentall over the world

ADR is only negotiable inUSA.

SUBSTITUTE GDRs can use on the place ofADRs .

both GDR and ADR is theproxy way to sell shares inforeign market byIndiacompanies ADRs is not

substitute of GDRsINVESTMENT Investors of UKcan buy

GDRs from London stockexchange and luxembergstock exchange and invest inIndian companies withoutany extra responsibilities

Investors of USAcan buyADRs from New york stockexchange (NYSE) orNASDAQ (NationalAssociation ofSecuritiesDealers Automated

Quotation).


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AN INTRODUCTION TO SWAPS

y A swap is an agreement between counter-parties to exchangecash flows at specified future times according to pre-specifiedconditions.

y A swap is equivalent to a coupon-bearing asset plus a coupon-bearing liability. The coupons might be fixed or floating.

y A swap is equivalent to a portfolio, or strip, of forwardcontracts--each with a different maturity date, and each with

the same forward price.

y THE TYPESOF SWAPS ARE:

*Interest Rate swap

* Currency swap


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3. INTEREST RATE SWAP

MEANING

y An agreement between two parties (known as counterparties) where

one stream of future interest payments is exchanged for another basedon a specified principal amount. Interest rate swaps often exchange a

fixed payment for a floating payment that is linked to an interest rate(most often the LIBOR). A company will typically use interest rate

swaps to limit or manage exposure to fluctuations in interest rates, or toobtain a marginally lower interest rate than it would have been able to

get without the swap.

y Interest rate swaps are traded over the counter (OTC), most commonly

on fixed income desks at investment banks. Because they are nottraded on open exchanges, interest rate swaps are not regulated by

any government agency, so parties have a great deal of flexibility whensetting the terms of the swap.


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3.1 TYPES OF INTEREST RATE SWAP

y There are three main types of interest rate swaps, asdetermined by the type of rates being swapped:

o Fixed for fixed Swap

o Fixed for floating swap

o Floating for floating swap


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3.1.1 FIXED FOR FIXED SWAP

y It involve the exchange of interest payments that both carry fixedrates determined before the contract takes effect. Since there'sno variability in either of the two rates, the payments will remainthe same over the life of the swap contract. Fixed-for-fixedswaps are used when each party uses a different currency.

y For example: suppose there are two companies in differentcountries, each of which wants to borrow money to build facilitiesin the other country, and that both can borrow at a lower interestrate in their home country. In this case, the companies canborrow money in their respective countries and swap with each

other, essentially borrowing for each other. Each saves moneyby taking advantage of the other firm's lower cost of borrowingwhile also dodging currency conversion costs.


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3.1.2 FIXED FOR FLOATING SWAP

y This is also called as VANILLA SWAP.

y It is commonly used as a type of investment, & involve the

exchange of a fixed interest payment for a floating interestpayment. The payment with the fixed rate (known as theswap rate) doesn't change, while the payment with thefloating rate is linked to some outside index (such as theLIBOR) and rises and falls throughout the duration of the

contract.

y This type of swap can be used if a company wants to tradethe floating rate on its debt for the stability of a fixed rate


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3.1.3 FLOATING FOR FLOATING SWAP

y As the name implies, involve the trade of interest paymentsthat both have floating rates. The rates are based ondifferent indexes, so each party is betting that either theiroriginal rate will rise, the other party's original rate will fall,or some combination of the two.


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3.2 USERS OF INTEREST RATE SWAP

Interest rate swaps are used by a wide range of :

commercial banks

investment banks

non-financial operating companies insurance companies

mortgage companies

investment vehicles and trusts

government agencies and

sovereign states


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3.3 ADVANTAGES OF IRS:

y A floating-to-fixed swap increases the certainty of anissuer's future obligations.

y

Swapping from fixed-to-floating rate may save the issuermoney if interest rates decline.

y Swapping allows issuers to revise their debt profile to takeadvantage of current or expected future market conditions.

y Interest rate swaps are a financial tool that potentially canhelp issuers lower the amount of debt service.


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4. CURRENCY SWAP :-

DEFINITION

An arrangement in which two parties exchange specific

amounts of different currencies initially, and a series ofinterest payments on the initial cash flows are exchanged.Often, one party will pay a fixed interest rate, while anotherwill pay a floating exchange rate (though there may also befixed-fixed and floating-floating arrangements). At thematurity of the swap, the principal amounts are exchanged

back. Unlike an interest rate swap, the principal andinterest are both exchanged in full in a currency swap.


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MEANING

A currency swap involves the exchange of loan in one

currency for a loan in another currency and both principaland interest payments are exchanged. It does not

include the legal swapping of actual debts but an

agreement to meet certain cash flows under loan or

lease agreements.


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4.1 TYPES OF CURRENCY SWAP

Hedge both his principal & interest payments

Hedge the principal payments only

Hedge the interest payment only


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4.2 STEPS IN CURRENCY SWAPS

y Initial exchange of principal amount:In the firststep, the counterparties exchange the principal amounts ofthe swap at an agreed exchange rate. This rate is generallybased on the spot exchange rate however, a forward rate

set in advance of the swap commencement date may alsobe used. The principal amounts may be exchanged onphysical or notional, without any physical change, basis.

y Exchange of interest:It is the second key step for a

currency swap. The counterparties exchange interestpayments on agreed dates based on outstanding principalamounts at the fixed interest rates agreed at the beginningof transaction.


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y Re-exchange of principal maturity:This step

involves re-exchange of the principal sum at the maturitydate by the counterparts. In order to determine the actual

sums involved generally the original spot rate is used.


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4.3 ADVANTAGES OF CURRENCY SWAP

y A currency swap transaction helps manage and regulate

money flows at present and in the future;

y

By means of a currency swap transaction it is possible toextend or shorten the duration of already concluded

advance transaction;

y

There are no additional charges;

y There is no minimum sum of transactions;


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y It is faster and cheaper to conclude a swap than to

deposit one currency and take a loan;

y It is more useful to conclude a swap transaction than to

buy currency and later sell it;

y Currency swap transactions are concluded for as long asa twelve-month period.


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PRESENTED BY:-

C. KUMAR 08D0306

SHAROOQ 08D0310SRIRAM 08D0315

TUSHAR 08D0316

ADITYA 08D0326

AZHAR 08D0337NARAYAN 08D0342

ANURAG 08D0380

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