Money and Capital Market Analysis Samples †MyAssignmenthelp.com

Question: Discuss about the Money and Capital Market Analysis. Answer: Introduction The report provides a background to the understanding of the money and capital markets and financial institutional risk. It has a relation with the case that led to the collapse of the Barings and the same was due to the unauthorized trading and losses approaches carried by Nick Leeson in the derivatives market of the bank. Background of the case (Collapse of the Barings) The case is related with the collapse of the oldest merchant bank of Britain i.e. Baring Futures that collapsed in the year 1995 after landing in the debts of S$1.4 billion that was made by the one and only trustworthy employee named Nick Leeson. The Bank had been operating for around 233 years but the single handed company i.e. management by Nick led to the collapse. The major features of the case are as follows: Leeson was thought to be the most trustworthy employee because in the initial stages of joining the bank made high amount of contributions that were a result of the unauthorized trades of speculation and the same had led to 10% profits of the bank in 1993 (Abid Ahmed, 2014). On losing the amounts, he hid them and kept in a hidden account that was known as error account 88888. The auditors were kept away by hiding all the important documents of the banks. The losses of the bank had been almost half of its total capital in the year 1994 but still he did not disclose the same in any manner possible. He undertook the use of straddle i.e. part of the option trading on both the Singapore and Nikkei Stock Exchange by betting a drop of around 19000 points but, he lost around 7% per week due to the unexpected earthquake. The confidence of the bank on Nick did not lower down as they were not aware about the risks that were possessed by the bank. Leeson had been active and accurately made false declarations to the regulatory authorities that led to the accumulation of the losses for the avoidance of the margin call. The bank was benefitted from Bank of England even after the rule being that a bank could not lend an amount of more than 25% of the total capital to the other entity. But, after the Nick got aware that the final losses of S$2.2 million will not be recovered in the year 1995, he fled and after several attempts made to rescue, he was detained. Thus, the whole scenario led to the collapse of the bank that had been ruling for 223 years as the debt had exceeded the total owned capital of the bank (Bodur, 2012). It was after the occurrence of the Baring Case that there were strict management and actions taken to product the trading and losses under the futures and options contracts. Future Contracts and the principle behind it The major points are as follows: The contracts has a legal binding among two parties for buying and selling commodities of specified nature at a date specified in future that is identified in the present date. They allow the management and speculators to gain from the movement in the prices as it provides liquidity. The future contracts are offered by the exchanges in the future and thus the same provides a range of contracts for the management of the risks There are short, medium and longer term rates of interests for hedging the same and speculating the losses and avoiding them before hand (Chui, 2012). Basic rule that determines the timing of the various transactions RULE The basic rule is that while establishing the strategy of hedging that was also carried out in the Nick Baring case that undertook the help of the straddle option to hedge the losses is as follows: Conduct a dealing or transaction in todays date in the future market that will have a correspondence with the intention of the trader in the future date. In the case of the Baring Collapse case, Nick had hedged the losses in the stock exchanges of Singapore and Nikkei and put a bet that there will be a fall of 19000 points in the Nikkei exchange. But, the same turned upside down after the unexpected occurrence of the earthquake. Thus, the intention of having a future dealing by conducting at the present date determines a contract (Hamilton Micklethwait, 2016). PROCEDURE The procedures involved in buying the future contract are as below: The contracts get traded on formal platforms like the SFE exchanges There will be a broker who will help in placing the market order of buying or selling The dealings can be performed in open like the CBOT or in close electronic platforms like SFE The modern age use the approach of electronic trading systems and not open ones that automatically undertakes the matching of buy or sale. The records of the trading is conducted and the transactions are granted by the clearing houses There is a margin that represents the coverage of the adversity in the movement of the prices with which the contracts have been performed. There will be a daily system of carrying out of the mark to market rule by the clearing houses. A maintenance margin is maintained for saving the clients in cases where the movement of prices had gone against the client (Johal et al., 2012) Implications of being long and short The implication of being long in terms of future contracts represents the situation that the trader going long will possibly incur more losses in case of the fall in the underlying asset of the contract. The implication of being long in terms of future contracts represents the situation that the trader going short will possibly incur more gains in case of the rise in the underlying asset of the contract. Procedures for closing out positions prior to delivery The cases and the procedures are as under: In case of the closing out of the client before the date of the expiry, there is an undertaking of an opposite contract A long position is a buy contract of futures that intents to buy forward and the same is closed out by selling another contract with the same date of expiry and commodity A short position is a sale contract of futures that intents to sell forward and the same is closed out by buying another contract with the same date of expiry and commodity (Lui, 2012) Failure of the Barings management The management of the Baring Bank was inefficient and ineffective in its operations and functioning of its management system due to the following reasons: Nick had been adopting the system the putting off the losses in an account 88888 that was never identified by the management due the lack of proficiency and practice of expertise and due diligence The management system never took any steps to identify that there have been steps taken by Nick to hide the important and significant documents from the auditors to check the actual transactions and dealing occurring within the organization (Moosa Silvapulle, 2012) Risk management Nature of risk The risk is the possibility of unexpected or unanticipated occurrences that may occur within the company and it leads to an addition of ambiguity to the management of the business. It has an exposure towards both operational and financial operations. The risks and threats are a basic and fundamental part of every organization and the management of the same is a must for every entities. The risk of increasing debts exceeding more than the capital can lead to the loss of the going concern of the entire corporation as was seen in the case of the Barings collapse due to the misappropriation of the trading deals and losses by Nike the derivative trader of the Bank (Ojo, 2016). Purpose of risk management Risk management is an effective measure that is solely undertaken for the effective control and management of the going concern capacity and continuation of an entity. The risks must be identified in the initial stages and accurately assessed and evaluated to get an outline of the risks possessed by the company. By making an outline and approach, a corporation can maintain its position and safeguard itself from the vulnerability to the hazardous elements and threats present in the environment of the business organization (Persaud, 2014). Thus, the main purposes include: Assurance about the organization getting aware of the risks within the business operations Assurance about the personnel considering the outcomes of risk that are drawn from their decision making processes Establishment of a strong and healthy risk management objectives, policies, procedures and strategies to safeguard from a wide range of the risk exposures Responsibility for the establishment of risk management The responsibility of the establishment of risk management lies on the following: Board of directors those having charge to determine and document the objectives of management of risks The CEO i.e. chief executive officer and executive management are equally responsible towards the establishment of the procedures and strategies of the management of risks along with the structures of reporting of the same (Reason, 2016). The responsibility for the establishment of risk management objectives, policies, procedures and strategies in a corporation lays on the management system of the company i.e. the board of directors. The administrative forces and authorities are liable and accountable to present a plan and scenario of presenting the strategies to manage and safeguard the company from the risk identified by them in the initial stages of taking up the risk management policy. Thus, a Corporate Governance must be identified in the company to undertake the management of the risks arising within the organization (Sikka, 2015). Nick Leeson case The logic and reasons why risk must be identified measured and managed in the corporations with respect to the Nick Leeson case are as below: An organization must enquire before the types of exposures that exist in order to initiate the process of managing the risks and thus, the necessity of identification of the prospective or probable risks arises. The exposures that have a relation or link between the components of operational or financial nature must be known and thus must be identified accordingly. There are variations in the nature, scope and extent of the exposures related to the risks that varies as per the business operations as in case of Baring that was a financial institution and it has an exposure towards a wide range of risks and threats. Thus, after the identification and evaluation of the exposures of the risk, the prospective risks related to the operations and functions must be measured as per the given variety of situations (Singh, 2013) After the performance of the quantitative analysis, the corporation will become efficient towards deciding the management of the risks and the alternative strategies will be identified and analyzed for the accuracy in the policies of the risk management to implement the same. Main functions of capital Capital is the actual wealth of an entity that will assist and aid in the production of more and increased wealth. The functions include: Allowing the transactions and dealings to take place as per the requirement Maintaining the risk exposures and other margins required to continue the proceedings of a company Providing employment to the desirable staff Overview of Basel II framework The first pillar of the Basel II is Minimum capital requirements and it requires the standard minimum requirement. In the given case, the Baring Bank had attained capital that was against the rule, from the Bank of England as one bank can offer not more than 25% of the capital to another entity. The second pillar of the Basel II is Supervisory review and its deals with the provision of frameworks that deals with the strategic, reputational, systematic and a variety of other risks that occur within the environment. The third pillar of the Basel II is The Market Discipline and this determines the disclosure procedure of allowing the markets to gauge the adequate amount of requirement of the capital. Types of acceptable capital under the Basel II and Basel III The different types of acceptable capital under the Basel II and Basel III capital accords are as below: The factors that help in distinguishing Basel II and III are as follow: The stricter standards and the capital: In case of BASEL III, there is a requirement of 10.5% of the Risk Weighted Assets that will form a part of the overall capital base of the entity Buffer of Capital conservation: There has been an introduction of 2.5% of buffer or cushion to be maintained by the banks so that it can face the economic crisis or losses of financial nature. Counter-cyclical Buffer of Capital conservation: There has been an introduction of -0.25% of broader or wider buffer or cushion to be maintained by the banks so that it can face the excessiveness in the growth of the credits that means the enhancement of the risks in the sector of banks. Conclusion From the above case it can be understood and evaluated that the inefficiency in the money and capital markets can lead to an overall financial institutional risk. In the Barings Bank case, Nick had taken the benefit of the mismanagement occurring within the company. Thus, the management must take steps to manage and review the same in a continuous basis. The unauthorized trading and losses approaches can lead to the overall financial destruction that can be understood from the above case. An organization must enquire before the types of exposures that exist in order to initiate the process of managing the risks and thus, the necessity of identification of the prospective or probable risks arises. The exposures that have a relation or link between the components of operational or financial nature must be known and thus must be identified accordingly. References Abid, G., Ahmed, A. (2014). Failing in corporate governance and warning signs of a corporate collapse. Anagnostis, K., Alexios, K. (2014). Factors of Weaknesses of Supervisory Methods as Components of Systematic Risk. The Impacts of Collapses to Instability of Banking System.Procedia Economics and Finance,9, 120-132. Bodur, Z. (2012). Operational Risk and Operational Risk related Banking Scandals/large Incidents.Maliye Finans Yaz?lar?,26(97), 64-86. Chui, M. (2012, February). Derivatives markets, products and participants: an overview. InChina and the Irving Fisher Committee in Zhengzhou on 2729 September 2010. 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