Q1 What are the functions of Investment Banks.
Answer: The following are, briefly, a summary of investment banking functions:
✓ Underwriting: The underwriting function within corporate finance involves shepherding the process of raising capital for a company. In the investment banking world, capital can be raised by selling either stocks or bonds to the investors.
✓ Managing an IPO (Initial Public Offering): This includes hiring managers to the issue,
due diligence and marketing the issue.
✓ Issue of debt: When a company requires capital, it sometimes chooses to issue public debt instead of equity.
✓ Follow-on hiring of stock: A company that is already publicly traded will sometimes
sell stock to the public again. This type of offering is called a follow-on offering, or a
secondary offering.
✓ Mergers and Acquisitions: Acting as intermediary between Acquirer and target company
✓ Sales and Trading: This includes calling high net worth individuals and institutions to
suggest trading ideas (on a caveat emptor basis), taking orders and facilitating the
buying and selling of stock, bonds or other securities such as currencies.
✓ Research Analysis: Research analysts study stocks and bonds and make recommendations on whether to buy, sell, or hold those securities.
✓ Private Placement: A private placement differs little from a public offering aside from
the fact that a private placement involves a firm selling stock or equity to private
investors rather than to public investors.
✓ Financial Restructuring: When a company cannot pay its cash obligations - it goes bankrupt. In this situation, a company can, of course, choose to simply shut down
operations and walk away or, it can also restructure and remain in business.
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Q2 Distinguish between Investment Banks and Commercial Banks.
Answer:
Q3 What is Credit Rating? What is the benefit of credit rating?
Answer:
✓ An expression of opinion of rating agency,
✓ The opinion is in regard to a debt instrument,
✓ The opinion is as on a specific date,
✓ The opinion is dependent on risk evaluation,
✓ The opinion depends on the probability of interest and principal obligations being met
timely.
Benefits from credit rations
✓ Provide superior information to the investors at a low cost;
✓ Provide a sound basis for proper risk-return structure;
✓ Subject borrowers to a healthy discipline and
✓ Assist in the framing of public policy guidelines on institutional investment.
Q4 What are the different Credit Rating Agencies in India
Answer:
• CRISIL : Credit Rating Information Services of India Limited
• FITCH : Fitch Rating India Private Limited
• ICRA : Investment Information and Credit Rating Agency of India Limited
• CARE : Credit Analysis and Research Limited
• Brickworks : Brickwork Ratings India Private Limited
• SMERA : Small and Medium Enterprises Rating Agencies
Q5 Explain the Credit Rating Process/ How credit rating is being issued?
Answer:
1) Request from issuer and analysis
A company approaches a rating agency for rating a specific security. A team of analysts interact with the company’s management and gathers necessary information.
2) Rating Committee
On the basis of information obtained and assessment made, team of analysts present a report to the Rating committee. The issuer is not allowed to participate in this process as it is an internal evaluation of the rating agency. The nature of credit evaluation depends on the type of information provided by the issuer.
3) Communication to management and appeal
The rating decision is communicated to the issuer and then the rating is shared with the issuer. If the issuer disagrees, an opportunity of being heard is given to him. Issuer appealing against a rating decision is asked to submit relevant material information. The Rating Committee reviews the decision although such a review may not alter the rating. The issuer may reject a rating and rating score need not be disclosed to the public.
4) Pronouncement of the rating
If the rating decision is accepted by the issuer, the rating agency makes a public announcement of it.
5) Monitoring of the assigned rating
The rating agencies monitor the on-going performance of the issuer and the economic environment in which it operates.
6) Rating watch
Based on the constant scrutiny carried out by the agency it may place a rated instrument on Rating Watch. The rating may change for the better or for the worse. Rating watch is followed by a full scale review for confirming or changing the original rating.
Q6 What are the uses of Credit Rating?
Answer:
For Users
- Aids in investment decisions.
- Helps in fulfilling regulatory obligations.
- Provides analysts in Mutual Funds to use credit ratings as one of the valuable inputs to their independent evaluation system.
For Issuers
- Requirement of meeting regulatory obligations as per SEBI guidelines.
- Recognition given by prospective investors providing value to the ratings which helps them to raise debt/equity capital.
Q7 What is Scripless Trading System?
Answer:
The depository holds electronic custody of securities and also arranges for transfer of ownership of securities on the settlement dates. This system is known as ‘scripless trading system’.
Q8 What is the difference between Debit Card and Credit Card?
Answer:
The basic difference between the two is the fact that a credit card takes the form of a personal loan from the issuing bank to the consumer while a debit card is more like a cheque, money is directly deducted from a person’s bank account to pay for transaction.
Q9 Explain CAMEL model in Credit Rating.
Answer:
CAMEL stands for Capital, Asset, Management, Earnings and Liquidity. The CAMEL model adopted by the rating agencies deserves special attention; it focuses on the following aspects:
a) Capital: Composition of retained earnings and external funds; Fixed dividend component for preference shares and fluctuating component for equity shares and adequacy of long term funds adjusted to gearing levels; ability of issuer to raise further borrowings.
b) Assets: Revenue generating capacity of existing/ proposed assets, fair values, technological/ physical obsolescence, linkage of asset values to turnover, consistency, appropriation of methods of depreciation and adequacy of charge to revenues. Size, ageing and recoverability of monetary assets.
c) Management: Extent of involvement of management personnel, team work, authority, timeliness, effectiveness and appropriateness of decision making along with directing management to achieve corporate goals.
d) Earnings: Absolute levels, trends, stability, adaptability to cyclical fluctuations ability of the entity to service existing and additional debts proposed.
e) Liquidity: Effectiveness of working capital management, corporate policies for stock and creditors, management and the ability of the corporate to meet their commitment in the short run.
Q10 Explain the Credit Rating Process/How credit rating is being issued?
Answer:
Credit rating is a very important indicator for prudence but it suffers from certain limitations. Some of the limitations are:
✓ Conflict of Interest – The rating agency collects fees from the entity it rates leading to a
conflict of interest. Since the rating market is very competitive, there is a distant possibility of
such conflict entering into the rating system.
✓ Industry Specific rather than Company Specific – Downgrades are linked to industry rather than company performance. Agencies give importance to macro aspects and not to micro ones; overreact to existing conditions which come from optimistic / pessimistic views arising out of up / down turns. At times, value judgments are not ruled out.
✓ Rating Changes – Ratings given to instruments can change over a period of time. They have to be kept under constant watch. Downgrading of an instrument may not be timely enough to keep investors educated over such matters.
✓ Corporate Governance Issues – Special attention is paid to:
o Rating agencies getting more of their revenues from a single service or group.
o Rating agencies enjoying a dominant market position. They mayengagein aggressive competitive practices by refusing to rate a collateralized / securitized instrument or compel an issuer to pay for services rendered.
o Greater transparency in the rating process viz. in the disclosure of assumptions leading to a specific public rating.
✓ Basis of Rating – Ratings are based on ‘point of time’ concept rather than on ‘period of time’ concept and thus do not provide a dynamic assessment. Investors relying on the credit rating of a debt instrument may not be aware that the rating pertaining to that instrument might be outdated and obsolete.
✓ Cost Benefit Analysis – Since rating is mandatory, it becomes essential for entities to get themselves rated without carrying out cost benefit analysis. . Rating should be left optional and the corporate should be free to decide that in the event of self rating, nothing has been left out.
Q11 What is Depository? What are the major players of the Depository System? What are the advantages to the clearing member offered by depository system?
Answer:
✓ Depository means one who receives a deposit of money, securities, instruments or other property, a person to whom something is entrusted, a trustee, a person or group entrusted with the preservation or safe keeping of something.
✓ The depository is an organization where the securities of a shareholder are held in the form of electronic accounts, in the same way as a bank holds money.
✓ There are two security depositories 1) NSDL- National Securities Depository Limited (1996) 2)CDSL-Central Depository Services Limited (1999)
✓ Players of the depository system
i. Depository
ii. Issuers or Company
iii. Depository participants
iv. Clearing Members
v. Corporation
vi. Stock Brokers
vii. Clearing Corporation
viii. Investors
ix. Banks
Advantages to the clearing member
✓ Enhanced liquidity, safety and turnover on stock market.
✓ Opportunity for development of retail brokerage business.
✓ Ability to arrange pledges without movement of physical scrip and further
increase of trading activity, liquidity and profits.
✓ Improved protection of shareholder’s rights resulting from more timely communications from the issuer.
✓ Reduced transaction costs.
✓ Elimination of forgery and counterfeit instruments with attendant reduction in
settlement risk from bad deliveries.
✓ Provide automation to post-trading processing.
✓ Standardization of procedures.
Q12 What is the difference between Physical and Dematerialized Share Trading?
Answer:
Q13 What are the benefits of Credit Cards over Debit Cards?
Answer:
a. With a flexible spending limit, a cardholder can take advantage of the easy loan facility of a credit card, and can use it to purchase items or spend money that he expects in the near future, not just money that he presently has in his account.
b. Most of the major features of a debit card such as withdrawal of cash from ATMs are available on credit cards as well.
c. A credit card has greater security measures.
d. A credit card can be used as a convenient way to check and record your spending.
e. Since there is a fixed credit limit, a cardholder cannot overstretch his purchases.
Q14 What is meant by Online Share Trading?
Answer:
Online stock trading is an internet based stock trading facility where investor can trade shares through a website without any manual intervention from the broker. It also provides investors with rich, interactive information in real time including market updates, investment research and robust analysis.
Q15 What are the advantages and disadvantages of depository system?
Answer:
Advantages: • Transaction costs are reduced. • Immediate Transfer: Transfer of securities is effected immediately. • Paper work is minimized. • Safe: Securities are held in a safe and convenient manner. • No stamp duty: Stamp duty for transfer is eliminated. • Bad deliveries, fake securities and delays in transfers are eliminated. • Routine changes viz. chance in address of one person owning securities issued by different companies can be taken care of simultaneously for all securities with little delay. Disadvantages: • Human Fraud: Unlawful transfers by individuals against whom insolvency proceedings are pending or transfer by attorney holders with specific or limited powers are possible. • Additional record keeping: In built remote provisions for dematerialization exist to take care of the needs of individuals who wish to hold securities in physical form. Companies will invariably need to maintain records on a continuous basis for securities held in physical form.
Periodical reconciliation between de-mat segment and physical segment necessary. is very much
• Cost of Depository Participant (DP) Onetime fee is levied by the depository participant which small investors consider to be an avoidable cost.
• Systematic Failure: Unforeseen failures, intentional or otherwise, on the part of the individuals entrusted with protecting data integrity, could lead to chaos.
Q16 What are the advantages of Online Stock Trading?
Answer :
Q17What are the disadvantages of Online Stock Trading?
Answer :
Q18 Write short notes on ‘Debt Securitization’.
Answer:
Debt securitization is a method of recycling of funds. It is especially beneficial to financial intermediaries to support the lending volumes. Assets generating steady cash flows are packaged together and against this assets pool market securities can be issued. The process can be classified in the following three functions.
1. The origination function: A borrower seeks a loan from finance company, bank or housing company. On the basis of credit worthiness repayment schedule is structured over the life of the loan.
2. The pooling function: Similar loans or receivables are clubbed together to create an underlying pool of assets. This pool is transferred in favor of a SPV (Special Purpose Vehicle), which acts as a trustee for the investor. Once, the assets are transferred they are held in the organizers portfolios.
3. The securitization function: It is the SPV’s job to structure and issue the securities on the basis of asset pool. The securities carry coupon and an expected maturity, which can be asset based or mortgage based. These are generally sold to investors through merchant bankers. The investors in this type of securities are generally institutional investors like mutual fund, insurance companies etc. The originator usually keeps the spread.
Generally, the process of securitization is without recourse i.e. the investor bears the credit risk of default and the issuer is under an obligation to pay to investors only if the cash flows are received by issuer from the collateral.
Q19 Write short notes on ‘Depository Participant’.
Answer:
✓ Under this system, the securities (shares, debentures, bonds, Government securities, MF units etc.) are held in electronic form just like cash in a bank account.
✓ To speed up the transfer mechanism of securities from sale, purchase, transmission, SEBI introduced Depository Services also known as Dematerialization of listed securities.
✓ It is the process by which certificates held by investors in physical form are converted to an equivalent number of securities in electronic form.
✓ The securities are credited to the investor’s account maintained through an intermediary called Depository Participant (DP).
✓ Shares/Securities once dematerialized lose their independent identities. Separate numbers are allotted for such dematerialized securities. Organization holding securities of investors in electronic form and which renders services related to transactions in securities is called Depository.
Q20 Write short notes on ‘Asset Securitization’.
Answer:
✓ Securitization is a process of transformation of illiquid asset into security which may be traded later in the open market. It is the process of transformation of the assets of a lending
institution into negotiable instruments. The term ‘securitization’ refers to both switching away from bank intermediation to direct financing via capital market and/or money market, and the transformation of a previously illiquid asset like automobile loans, mortgage loans, trade receivables, etc. into marketable instruments.
✓ This is a method of recycling of funds. It is beneficial to financial intermediaries, as it helps in enhancing lending funds. Future receivables, EMIs and annuities are pooled together and transferred to a special purpose vehicle (SPV). These receivables of the future are shifted to mutual funds and bigger financial institutions. This process is similar to that of commercial banks seeking refinance with NABARD, IDBI, etc.
Corporate actions.
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