Chapter A1: Banking Overview Flashcards
Trading book
A portfolio of financial instruments held by a bank, which are actively traded and which are to facilitate trading for the customers
Corporate banks
Traditional banking activities such as:
- taking deposits
- making loans
- clearing cheques
They also offer merchant services and payroll services to businesses.
Most have a banking book and a trading book.
Retail banks
Offer deposit, investment and loan products to customers.
These can be long-term or short-term savings and secured or unsecured loans.
Types of banks
CRICT RD
Corporate banks Retail banks Investment banks Community banks Traditional deposit taking banks
Reserve (or central) banks
Development banks
What is the role of banks?
Banks play a vital role in providing liquidity to the financial system.
Banks also play the role of financial intermediaries.
Banks make possible the distribution of valuable economic and business information among customers and capital markets of all countries.
What is a financial intermediary?
Business entity that brings together providers and users of capital.
They develop the facilities and financial instruments which make lending and borrowing possible.
Investment banks
Refer to financial market activities such as:
- debt raising
- equity financing
for corporations or governments.
This includes originating securities, underwriting them, and then placing them with investors.
Reserve (or central) banks
The role of the reserve or central bank is to maintain price stability in the interests of balanced and sustainable economic growth.
Carries out these missions througn:
- formulation and implementation of inflation targeting and monetary policy
Development banks
Also known as Development Financial Institutions.
- They provide credit through higher risk loans
- Usually supported by the government of a country
- Usually focuses on large infrastructure projects within the public and private sector
Traditional deposit taking banks
Known as commercial or retail banks.
Provide services such as:
- accepting deposits
- providing loans
- mortgage lending
- other basic investment products
They are usually public companies that are regulated, listed on an exchange and owned by their shareholders.
How are loans priced?
Lending is typically priced relative to a benchmark rate (prime).
To account for credit risk, banks add a premium to the benchmark rate, to determine the lending rate.
The premium is intended to cover expected loan losses, while allowing the bank to make a profit.
List 3 things that will influence the lending rate
- Credit quality of the customer
- Whether there is any security involved
- The tenor of the loan
Tenor - The length of time until the loan is due
What will determine the deposit rates offered by banks?
The bank’s own credit quality.
How do banks make a profit?
Banks make a profit on the positive spread between what is earned on their loans and what is paid on their deposits and other funding.
Provisioning
Banks create provisions for loan losses.
- Represents a charge against the income statement
- An ‘overlay’ reserve may be created if there is an anticipation of worse than expected performance of the loan book.
