Content of Syllabus
NO CHAPTER WEEK
1 Introduction and Overview of Financial System 1&2
2 Interest rates 3
3 Money & Foreign Exchange market 4
4 Capital market – Equity and Bond market 5
5 Derivatives market 6
6 Offshore market 7
7 Digital Technologies in the Financial Industry 12
8 Cryptocurrency 13
9 Banking products and services 10&11
10 Banking regulation and management 8&9
Contents
● Development and structure of MM
● Objectives, operations, participants and categories of MM
● Description of MM instruments
● Calculation of proceeds
● Money market risks and managing of risks
● Characteristics, developments and participants of Forex
● Forex quotations
● Risks, factors affecting forex market
● Roles of BNM in forex market
Money & Foreign
Exchange market
Lecture 3
Money Market
Money Market Definition
• Operates through a complex network of financial institutions
and instruments designed to facilitate the borrowing and lending
of short-term funds
• This market is crucial in ensuring liquidity in the financial system
and helping institutions manage their short-term funding needs.
• Maturity of instruments: less than one year/ one year Uses to
facilitate short-term borrowing and lending.
• Once issued, money market instruments trade in the active
secondary market.
Functions
• Providing Short-Term Funding: It offers borrowers a
platform to meet short-term funding requirements,
ensuring smooth cash flow and operational
continuity.
• Facilitating Liquidity Management: Financial
institutions use the money market to manage their
liquidity positions, effectively balancing inflows and
outflows.
Advantages and Disadvantages
Advantages Disadvantages
• Safety: Money market • Lower Returns: The safety and
instruments are generally low- liquidity of money market
risk, making them a safe instruments come at the cost
investment choice. of lower returns compared to
• Liquidity: These instruments other investment options.
can quickly convert to cash, • Inflation Risk: Returns may not
providing high liquidity. always keep pace with
• Steady Returns: They offer inflation, potentially reducing
stable, albeit modest, returns, purchasing power over time.
making them suitable for
conservative investors.
Types of MM
instruments
Money Market Securities
• T-bills: short-term obligations issued by the government
[Malaysia Government Securities (MGS)]
• Repurchase agreements: agreements involving the sale of
securities by one party to another, with a promise to
repurchase the securities at a specified date and price
Money Market Securities
• Commercial paper: short-term unsecured promissory
notes issued by a company to raise short-term cash.
• Negotiable certificates of deposits: bank-issued time
deposits that specify an interest rate and maturity date
and are negotiable (saleable on a secondary market).
• Banker’s acceptances – time drafts payable to a seller of
goods, with payment guaranteed by a bank.
Treasury Bills (T-bills)
• Short-term obligations of the government issued to cover current
government budget deficits or to refinance maturing government debt.
• Issued on a discount basis.
• Also used as a main too by BNM to implement monetary policy.
• Can be bought and sold in active secondary market.
• Default risk free (because backed by government) – typically referred
as the “risk-free assets”.
• Have low interest rate risk and liquidity risk – because short-term
nature and actively traded in secondary market.
Calculation of T-bills Price
• Suppose that you purchase the T-bill maturing on March
30, 2023 with a discount yield of 4.200%. The T-bill mature
132 days after the quote date, Nov 18, 2022. It has a face
value of RM10,000. Calculate the T-bills price.
T-bills price (P0) = PAR– (iT-bills,d x n/360 x PAR)
= 10,000 – (0.042 x 132/360 x 10,000)
= RM9,845.65
Repurchase Agreements (REPO)
• REPO is an agreement involving the purchase of securities
by one party (the repo buyer) to another party, (the repo
seller) with a promise to sell the securities at a specified
price on a specified date in the future.
• Most REPO are collateralized- seller hold securities to
back the transaction.
• Reverse REPO – lender’s position in the repo transaction.
REPO Yield
•
Example: Calculation of Yield on REPO
•
Commercial Paper (CP)
• Unsecured short-term promissory note issued by a
company to raise short-term cash.
• Often used to finance working capital requirements.
• Generally held by investors from the time of issue
until maturity.
• Maturity range from 1-270 days.
• The credit rating is important because CP is not
actively traded and it is also an unsecured debt.
Commercial Paper Yields
•
Calculation of the Yield on Commercial Paper
•
Negotiable Certificates of Deposit (CD)
• A bank-issued time deposit that specifies an interest rate
and maturity date, and is negotiable (i.e. saleable) in the
secondary market.
• Whoever holds the CD when it matures receives the
principal and interest (bearer instrument) – can also sell
back to the issuing bank.
• Maturities up to 5 years for retail investors.
• It generally offers higher interest rates and returns
compared with fixed deposit.
Negotiable Certificates of Deposit (CD)
• Negotiable CD can be traded any number of times in secondary
market.
• The original buyer is not necessarily the owner at maturity.
• Selling price depends on the market interest rates.
• If interest rate rise, the MV of CD falls, and vice versa when interest
rate fall.
• In Malaysia, it is known as Negotiable Instrument of Deposits (NIDs)
Banker’s Acceptances (BA)
• Banker’s acceptance is a time draft payable to a seller of goods, with payment
guaranteed by a bank.
• Many BA arise from international trade transactions.
• Also include Letter of Credit (L/C) or time drafts that are use to finance trade
in goods that have yet to be shipped from foreign exporter (seller) to a
domestic importer (buyer).
• Foreign exporters often prefer that banks act as guarantors for payment
before they send the goods to domestic importers.
• BA can be traded in secondary markets because it is payable to the bearer at
maturity.
• It is sold at discount.
BNM – supervising and controlling authority
Banking institutions (commercial and investment
banks)
Non-bank financial institutions
• Pension funds
PARTICIPANTS
• Unit trust funds
OF MONEY • Insurance companies
MARKET
Corporations
OPERATIONS
• Multinational
• Small and medium scale enterprises
Cagamas Berhad
Money brokers – intermediaries to market participants
Malaysian Money Market
❑ The Malaysian Money Market comprises conventional and Islamic markets.
❑ BNM uses the money market in implementing the monetary policy, including
money market operations.
❑ BNM plays a direct role in managing liquidity in Malaysia's banking system by
controlling inflation and influencing interest rates. To achieve this, money
market operations are implemented.
❑ Examples of money market instruments used by BNM can be accessed here:
Instruments - Bank Negara Malaysia (bnm.gov.my)
Money Market Risks
❑ Credit risk –
• Borrower is unable to make payment on the maturity date
agreed.
• Default payment – other party suffer losses
❑ Liquidity risk – inability to convert assets to cash; inability to have
access to funds
❑ Interest rate risk – fluctuations leads to adverse value of assets
❑ Operational risk – bad system & manpower problems
Management of Money Market Risk
❑ Credit risk – conduct proper credit evaluation
❑ Liquidity risk – balance of short- and long-term assets
❑ Interest rate risk - have tools to predict rates and to run a
matched book
❑ Operational risk – provide training & update system
Foreign Exchange
Market
Foreign Exchange Market
• Foreign exchange market (FX) is a market in which
cash flows from the sale of products or assets
denominated in foreign currency are transacted.
• The most actively traded currency pairs in the global
FX market are EUR/USD, USD/JPY, and GBP/USD.
PARTICIPANTS OF FOREX MARKET IN MALAYSIA
Commercial banks
• Meet requirements of the corporations
• Own trading positions
• Authority was given under BAFIA 1989 (Banking & Financial Institution Act)
Corporations
• Pay exporters for the purchase of goods and services
Non-bank financial institutions
• Investment in FOREX
Money brokers
• Act as a middleman in identifying buyers and sellers who have the same amount to trade in foreign
currencies
• Income comes from commission for any transactions done
• Interact with banks by giving “indication rates” and “dealing rates” of various currencies.
BNM
• Ensure exchange rate is stable and not fluctuate excessively
• Manage foreign reserves of Malaysia
• Intervene in FOREX market to reduce market volatilities by buying or selling large amount of currencies.
• Decide to impose policies on FOREX such as fixed rate or managed floating exchange rate regime
(depends on economic condition)
Foreign Exchange Rate
• The price at which one currency can be exchanged for
another currency.
Example: 1 USD = 4.3350 MYR
Meaning: 1 USD can be exchanged for RM4.3350
If you go to a money exchange counter in Malaysia with 1 USD, you
would get back RM4.3350 in return.
Exchange Rate Risk
• Risk that cash flows will vary as the actual amount of
Ringgit received on a foreign investment changes due
to a change in foreign exchange rates.
Currency Appreciation
• Currency appreciation happens when a country’s
currency rises in value relative to other currencies.
• Meaning that, the country’s goods are more
expensive for foreign buyers and foreign goods are
cheaper for foreign sellers.
• Let’s say last month, the exchange rate was 1USD =
4.50 MYR. This month the MYR has appreciated in
value, so the new exchange rate is 1USD=4.00 MYR.
Currency Appreciation
• If a foreign buyer in the US wanted to buy a product
from Malaysia that costs RM4,500, last month they
needed to pay USD 1,000 (because 1 USD = 4.50
MYR).
• But now, with the appreciated exchange rate (1 USD =
4.00 MYR), they need to pay USD 1,125 for the same
RM4,500 product.
• Conclusion: Malaysian goods are now more
expensive for foreign buyers.
Currency Depreciation
• Currency depreciation is when a country’s currency
falls in value relative to other currencies.
• Meaning the country’s goods become cheaper for
foreign buyers and foreign goods become more
expensive for foreign sellers.
• Let’s say last month, the exchange rate was:1 USD =
4.50 MYR. This month, the Malaysian Ringgit (MYR)
has depreciated (fallen in value), so the new
exchange rate is:1 USD = 5.00 MYR
Currency Depreciation
• Currency depreciation is when a country’s currency
falls in value relative to other currencies.
• Meaning the country’s goods become cheaper for
foreign buyers and foreign goods become more
expensive for foreign sellers.
• Let’s say last month, the exchange rate was:1 USD =
4.50 MYR. This month, the Malaysian Ringgit (MYR)
has depreciated (fallen in value), so the new
exchange rate is:1 USD = 5.00 MYR
Currency Depreciation
• If a foreign buyer in the US wanted to buy a product
from Malaysia that costs RM4,500, last month they
needed to pay USD 1,000 (because 1 USD = 4.50
MYR).
• But now, with the depreciated exchange rate (1 USD =
5.00 MYR), they only need to pay USD 900 for the
same RM4,500 product.
• Conclusion: Malaysian goods are now cheaper for
foreign buyers.
Foreign Exchange Transactions
• There are two types of foreign exchange rates and
foreign exchange transactions: spot and forward.
Spot Transactions
• Spot foreign exchange transactions involve the
immediate exchange of currencies at the current or
spot exchange rate.
• See next slide for example.
Spot Transactions - Example
• For example, you are a business owner in Malaysia, and you need to buy goods
from a supplier in the United States. The supplier has quoted a price of USD
10,000 for the goods.
• The current spot exchange rate is 1 USD = 4.60 MYR. This is the rate at which
currencies are exchanged immediately.
• You decide to make the payment today using a spot foreign exchange
transaction.
• To pay the USD 10,000, you will convert Malaysian Ringgit (MYR) into US Dollars
(USD) at the current spot rate.
• Amount in MYR = USD 10,000 x 4.60 MYR/USD = RM46,000
• The exchange happens immediately, so you receive the USD 10,000 right away
and the supplier receives their payment in USD.
Forward Transactions
• Forward foreign exchange transaction is the exchange
of currencies at a specified exchange rate (or forward
exchange rate) at some specified date in the future.
Forward Transactions- Example
• You are a Malaysian company that needs to pay USD
50,000 to a supplier in the United States, but the
payment is due in three months.
• The current spot exchange rate is 1 USD = 4.60 MYR.
• However, you want to lock in a future exchange rate
to avoid uncertainty due to potential currency
fluctuations.
• The forward exchange rate for a contract to be settled
in three months is 1 USD = 4.65 MYR.
Forward Transactions- Example (Cont’d)
• You enter into a forward foreign exchange contract to
buy USD 50,000 at the forward exchange rate of 1
USD = 4.65 MYR.
• Amount in MYR = USD 50,000 x 4.65 MYR/USD =
RM232,500.
• When the payment is due in three months, you will
exchange RM232,500 for USD 50,000 at the agreed
forward rate of 4.65 MYR/USD, regardless of the
prevailing spot rate at that time.
Foreign Exchange Risks
• Exchange rate risk (Currency Risk) – value of one
currency relative to another will change affecting the
value of transactions/investments.
• Interest rate risk –changes in interest rate affect the
exchange rates and the cost of borrowings in foreign
currencies.
• Credit risk – risk that the counterparty in forex
transaction might default on their obligations.
Foreign Exchange Risks (Cont’d)
• Liquidity risk – risk that participant may not be able to buy/sell a
currency quickly enough to prevent/minimize loss.
• Political risk – changes in political conditions or government
policies that can impact currency values and stability of the
forex market.
• Economic risk – changes in inflation, economic growth, and
trade balances.
• Operational risk – risks arise from failures in internal processes,
people of systems in executing forex transactions.
• Geopolitical risk- events such as wars, conflicts, or international
sanctions.
BNM’s Roles in FX Market
a) to intervene the FOREX market to reduce fluctuations
– to stabilize ringgit to stem currency movements that
are deemed excessive.
b) to manage float the currency to avoid heavy trading
that can cause volatilities; 🡪 monitor closely;
intervention is done by buying and selling currencies
in the opposite direction of what market is doing
End of Topic 3
REVIEW QUESTIONS
1. What are foreign exchange markets and foreign
exchange rates?
2. Why is an understanding of foreign exchange
markets important to financial managers and
individual investors?
3. What is spot market for FX? What the forward market
for FX?
PROBLEM BASED QUESTIONS
1. You would like to purchase an MGS that has a RM10,000 face
value and is 68 days from maturity. The current price of the
MGS is RM9,875. Calculate the discount yield on this MGS.
2. Suppose a bank enters a Repo which it agrees to buy MGS from
a corresponding bank at a price of RM24,000,000, with a
promise to buy them back at a price of RM24,008,000.
Calculate the yield of the Repo if it has (i) 7-days maturity and
(ii) 21-day maturity.
PROBLEM BASED QUESTIONS
Table 1: Foreign Exchange Rates for USD, GBP, EUR, JPY and MYR
Date USD GBP EUR JPY100
Spot rate (Today) 4.3335 5.6524 4.7725 3.0390
1-month forward rate 4.3370 5.6787 4.7872 3.0671
2-month forward rate 4.3600 5.6996 4.8126 3.0439
3-month forward rate 4.3475 5.7085 4.8168 3.0450
PROBLEM BASED QUESTIONS (Cont’d)
Refer to Table 1.
1. What is the spot exchange rate for USD, and GBP
against MYR?
2. What is the 3-month forward for EUR, and JPY
against MYR?
3. Assuming that the forward rate given equal to the
future spot rate for the specified date. Is the USD
appreciates or depreciates relative to MYR? By how
many percent?
PROBLEM BASED QUESTIONS (Cont’d)
4. Today, you convert RM500,000 to JPY in the spot
foreign exchange market. How much JPY will you
receive today?
5. A company in Malaysia, borrowed GBP250,000 from a
bank in London. The loan is expected to due in three
months’ time. How much ringgit will be spent by the
company to settle the outstanding loan using a
forward contract.
