International Business
11e
By Charles W.L. Hill
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Chapter 12
The Global Capital
Market
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Why Do
Capital Markets Exist?
Capital markets bring together investors and
borrowers
investors - corporations with surplus cash,
individuals, and non-bank financial institutions
borrowers - individuals, companies, and
governments
markets makers - the financial service companies
that connect investors and borrowers, either directly
(investment banks) or indirectly (commercial
banks)
capital market loans can be equity or debt
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Who Are the Main Players
in Capital Markets?
The Main Players in the Generic Capital Market
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What Makes the Global
Capital Market Attractive?
Today’s capital markets are highly
interconnected and facilitate the free flow
of money around the world
Borrowers benefit from the additional
supply of funds global capital markets
provide
lowers the cost of capital
the price of borrowing money or the rate of
return that borrowers pay investors
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What Makes the Global
Capital Market Attractive?
Market Liquidity and the Cost of
Capital
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What Makes the Global
Capital Market Attractive?
Investors benefit from the wider range of
investment opportunities
diversify portfolios and lower risk
But, volatile exchange rates can make
what would otherwise be profitable
investments, unprofitable
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How Have Global Capital
Markets Changed Since 1990?
Global capital markets have grown rapidly
the stock of cross-border bank loans was just
$3,600 billion in 1990, $7,859 billion in 2000,
$33,913 billion in 2012
the international bond market has grown
from
$3,515 billion in 1997, $5,908 billion in 2000,
$21,979 billion in 2012
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Why Is the Global Capital
Market Growing?
Two factors are responsible for the
growth of capital markets
1. Advances in information
technology
the growth of international communications
technology and advances in data processing
capabilities
24-hour-a-day trading
so, shocks that occur in one financial market
spread around the globe very quickly
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Why Is the Global Capital
Market Growing?
2. Deregulation by governments
has facilitated growth in international capital
markets
governments have traditionally limited foreign
investment in domestic companies, and the
amount of foreign investment citizens could
make
since the 1980s, these restrictions have been
falling
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Why Is the Global Capital
Market Growing?
Deregulation began in the U.S., then moved to
Great Britain, Japan, and France
Many countries have dismantled capital controls
making it easier for both inward and outward
investment to occur
The 2008-2009 global financial crisis raised
questions as to whether deregulation had gone
too far
Question: Are new regulations for the financial
services industry needed?
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What Are the Risks of the
Global Capital Markets?
Question: Could deregulation of capital markets
and fewer controls on cross-border capital
flows make nations more vulnerable to the
effects of speculative capital flows?
can have a destabilizing effect on economies
Speculative capital flows may be the result of
inaccurate information about investment
opportunities
if global capital markets continue to grow, better
quality information is likely to be available from
financial intermediaries
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What Is a Eurocurrency?
A Eurocurrency is any currency banked outside
its country of origin
About two-thirds of all Eurocurrencies are
Eurodollars
dollars banked outside the U.S.
Other important Eurocurrencies are the euro-yen, the
euro-pound, and the euro-euro
The Eurocurrency market is an important
source of low-cost funds for
international companies
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Why Has the Eurocurrency
Market Grown?
The Eurocurrency market began in the
1950s when the Eastern bloc countries
feared that the United States might seize
their dollars
so, they deposited them in Europe
additional dollar deposits came from Western
European central banks and companies that
exported to the U.S.
could earn a higher rate of interest in London
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Why Has the Eurocurrency
Market Grown?
In 1957, the market surged again after
changes in British laws
under the new laws, British banks had to
attract dollar deposits and loan dollars rather
pounds to finance non-British trade
London became the leading center of the
Eurocurrency market
continues to hold this position today
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Why Has the Eurocurrency
Market Grown?
In the 1960s, the market grew once again
Changes in U.S. regulations discouraged
U.S. banks from lending to non-U.S.
residents
would-be borrowers of dollars outside
the
U.S. turned to the Euromarket as a source of
dollars
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Why Has the Eurocurrency
Market Grown?
The next big increase came after the
1973-74 and 1979-80 oil price increases
Arab members of OPEC accumulated
huge amounts of dollars
avoided potential confiscation of their dollars
by the U.S. by depositing them in banks in
London
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What Makes the Eurocurrency
Market Attractive?
The Eurocurrency market is attractive
because it is not regulated by the
government
banks can offer higher interest rates on
Eurocurrency deposits than on deposits
made in the home currency
banks can charge lower interest rates to
Eurocurrency borrowers than to those who
borrow the home currency
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What Makes the Eurocurrency
Market Attractive?
The spread between the Eurocurrency
deposit and lending rates is less than the
spread between the domestic deposit and
lending rates
Gives Eurocurrency banks a competitive
edge over domestic banks
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What Makes the Eurocurrency
Market Attractive?
Interest Rate Spreads in Domestic and Eurocurrency
Markets
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What Makes the Eurocurrency
Market Unattractive?
The Eurocurrency market has two significant
drawbacks:
1. Because the Eurocurrency market is
unregulated, there is a higher risk that bank
failure could cause depositors to lose
funds
can avoid this risk by accepting a lower return on a
home-country deposit
2. Companies borrowing Eurocurrencies can be
exposed to foreign exchange risk
can minimize this risk through forward market
hedges
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What Is the
Global Bond Market?
Bonds are an important means of
financing for many companies
the most common bond is a fixed rate which
gives investors fixed cash payoffs
The global bond market grew rapidly
during the 1980s and 1990s and
continues to do so in the 20th century
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What Is the
Global Bond Market?
There are two types of international bonds
1. Foreign bonds are sold outside the borrower’s
country and are denominated in the currency of
the country in which they are issued
used by companies when they think they will reduce
the cost of capital
2. Eurobonds are underwritten by a syndicate of
banks and placed in countries other than the
one in whose currency the bond is
denominated
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What Makes the Eurobond
Market Attractive?
The Eurobond market is attractive because
1. It lacks regulatory interference
since companies do not have to adhere to strict
regulations, the cost of issuing bonds is lower
2. It has less stringent disclosure requirements
than domestic bond markets
it can be cheaper and less time-consuming to offer
Eurobonds than dollar-denominated bonds
3. It is more favorable from a tax perspective
Eurobonds can be sold directly to foreign investors
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What Is the
Global Equity Market?
The global equity market allows firms to
1. Attract capital from international investors
many investors buy foreign equities to
diversify their portfolios
2. List their stock on multiple
exchanges
this type of trend may result in an
internationalization of corporate ownership
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What Is the
Global Equity Market?
3. Raise funds by issuing debt or equity
around the world
by issuing stock in other countries, firms
open the door to raising capital in the foreign
market
gives the firm the option of compensating
local managers and employees with stock
provides for local ownership
increases visibility with local stakeholders
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How Do Exchange Rates
Affect the Cost of Capital?
Adverse exchange rates can increase the cost
of foreign currency loans
Although it may initially seem attractive to
borrow foreign currencies, it may be less
attractive when exchange-rate risk is factored in
firms can hedge their risk by entering into forward
contracts
but this will also raise costs
Firms must weigh the benefits of a lower
interest rate against the risk of an increase in
the real cost of capital
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Imagine that you are the owner of a promising,
privately owned U.S.-based tech startup with projected
sales of $1 billion over the next 10 years. In order to
expand your company’s infrastructure, you wish to
borrow $5 million, but interest rates in the United
States are unfavorable to borrowers. To lower your cost
of capital, you turn to the global capital market.
Given your current need for capital and your projected
future earnings, do you source your funds from the
Eurocurrency market, the global bond market, or the
global equity market? Explain your reasoning.
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What Do Global Capital
Markets Mean for Managers?
Growth in global capital markets has
created opportunities for firms to borrow
or invest internationally
firms can often borrow at a lower cost than in
the domestic capital market
firms must balance the cost savings against
the foreign-exchange risk associated with
borrowing in foreign currencies
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What Do Global Capital
Markets Mean for Managers?
Growth in capital markets offers
opportunities for firms, institutions, and
individuals to diversify their investments
and reduce risk
again though, investors must consider
foreign exchange rate risk
Capital markets are likely to continue to
integrate, providing more opportunities for
business
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