International Treasury Management (ITM)

PROF. DR. THORSTEN FEIX

IBF MASTER LECTURES

3RD TERM

2016

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 2

Timing
1. 11.10.2016 International Treasury Management (ITM) strategies - I
2. 18.10.2016 International Treasury Management (ITM) strategies - II
3. 25.10.2016 FX, interest rate and pricing theories and realities
4. 01.11.2016 ITM FX, interest rate and commodities hedging tools - I
5. 08.11.2016 ITM FX, interest rate and commodities hedging tools - II
6. 15.11.2016 Analysis of FX exposures (transaction and operating)
7. 22.11.2016 ITM Financing Strategies (equity markets)
8. 29.11.2016 ITM Financing Strategies (debt markets)
9. 06.12.2016 ITM – Dynamic Investment Theories
10. 13.12.2016 ITM Term Papers - I
11. 20.12.2016 ITM Term Papers - II

Prof. Dr. Thorsten Feix Master Lectures: Investment Banking and Structured Finance 16.10.16
 International Treasury Management from MNE point
of view - 1: The role of the FX market
3

Learning objectives of ”The Foreign Exchange Market“

u  Discussion of the role & responsibilities of INTERNATIONAL TREASURY

MANAGEMENT (ITM)

u  A first Definition of a holistic ITM strategy and approach

u  Description of the Chance / Risk profile of a Multinational Enterprise (MNE)

u  A short Recap: The FX market: geographical extent, main functions, market
participants and transaction volumes

u  Technical Terms:

ü  Spot, forward, and swap transactions

ü  Methods of stating exchange rate quotations, and changes in exchange rates

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 ITM’s world of risks

Hot Topics and Global Corporate Risks

Liquidity Risk FX
Credit Risk Risk

Commodity
Counterparty
(Price) Risk
Risk

Interest
Reputation
Operational Rate / Market
Risk
Risk Risk

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 ITM’s hot topics

Hot Topics in ITM

Global Cash Bank(ing)
FX
Management Relationship
Management
+ optimize group liquidity Management
+ cash pooling
+ investing excess cash
Commodity
Global Finance(ing) Price
+ Debt markets (Bonds/Loans) Management
+ Equity markets; e.g. IPOs, capital
increase
+ Payout Policy: Dividends & Share
buybacks Interest Rate
Management

Regulatory changes:
Sepa, IFRS 13, Basel III, CRD IV, EMIR

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 Forces shaping today’s ITM world

6
Society & Economy Regulation
Stakeholder, Activists, Politicians Stakeholder, Activists, Politicians, …
Basel III / CRD IV,
SEPA, EMIR, MIFID2
EMIR, MIFID2
Top Mgt.
Reporting (Cash
visibility & real time),
Compliance

Capital Banks &

Markets ITM Operating Model Counterparties
Ongoing Volatility Increasing CoC;
B/S contraction
Strategy Organization
Global Reach, M&A, Operating Companies,
Portfolio, CF Mgt. Shared Services

Disruptive Business Models & Competition

Technology, Innovation

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 ITM’s hot topics

ITM priorities 2015/6 – Treasury Panel – Germany

70
60
50
40
30
20
10
0

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 Forces shaping today’s ITM world:
Example “Disruptive Technologies” - II
8

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
 A holistic ITM approach on Corporate level:
The non-financial corporate point of view
9
Capital Market Strategy

Financing Strategy o  TSR & VBM

Investment Strategy
o  Funding Strategy o  Peer Group / Benchmark
o  Optimized capital structure o  Capital Market Transaction
(IPO, Bonds,…) o  Valuation
o  Debt capacity and structure o  Project Finance, Leasing
o  Payout Policy: Dividends & o  Rating & Investor Relations
o  Performance Mgt. &
buy backs
Tracking
o  Working Capital / Liquidity
o  Cash Mgt. & Pooling
Corporate & M&A ITM Operating Model Liquidity management
Strategy
o  Portfolio Management o  Payment Factory
o  Growth Financing Risk Management o  Cash Mgt. & Pooling
o  Financial capability and fit o  Management Excess Cash
o  Valuation & Bridge Finance o  (Core) Bank Management
o  Hedging (FICC)
o  ITM competency o  Counterparty Risk o  Operating Cash
management Performance
o  (Credit Risk)
o  Market Risk
o  Compliance

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management
Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management
Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management
Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management
Prof. Dr. Thorsten Feix Master
Master
Lectures:
Lectures:
International
International
Treasury
Treasury
Management
Management 16.10.16
 The meaning of Foreign Exchange (FX)

15

The Foreign Exchange Market: Definitions

u  The Foreign Exchange Market provides:

v  The physical and institutional structure through which the money of one
country is exchanged for that of another country,

v  The determination of the rate of exchange between currencies, and

v  Where FX transactions are physically completed.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 16.10.16
Four broad categories of participants operate within these two
tiers

Bank and
nonbank FX
dealers &
brokers

Central banks FX market Individuals and

and treasuries participants firms

Speculators and
arbitragers

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 A Spot transaction requires almost immediately delivery of
FX, a Forward transaction delivery of FX at some future date
17

Transactions in the Interbank Market: Spot

Transactions in the FX market can be executed on different basis

u  Spot,

u  Forward, or

u  Swap

A broader definition of the FX market includes:

u FX Options and

u  Futures:

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Transactions in the Interbank Market:
Spot Transactions

18

A SPOT TRANSACTION IN THE INTERBANK MARKET IS THE

PURCHASE OF FOREIGN EXCHANGE, WITH DELIVERY AND
PAYMENT BETWEEN BANKS TO TAKE PLACE, NORMALLY, ON THE
SECOND FOLLOWING BUSINESS DAY.

THE DATE OF SETTLEMENT IS REFERRED TO AS THE VALUE

DATE.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Transactions in the Interbank Market:
Forward Transactions

19

AN OUTRIGHT FORWARD TRANSACTION REQUIRES DELIVERY

AT A FUTURE VALUE DATE OF A SPECIFIED AMOUNT OF ONE
CURRENCY FOR A SPECIFIED AMOUNT OF ANOTHER CURRENCY.

THE EXCHANGE RATE IS ESTABLISHED AT THE TIME OF THE

AGREEMENT, BUT PAYMENT AND DELIVERY ARE NOT
REQUIRED UNTIL MATURITY.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Transactions in the Interbank Market:
Swap Transactions

20

A SWAPTRANSACTION IN THE INTERBANK MARKET IS THE

SIMULTANEOUS PURCHASE AND SALE OF A GIVEN AMOUNT OF
FX FOR TWO DIFFERENT VALUE DATES.

BOTH PURCHASE AND SALE ARE CONDUCTED WITH THE SAME

COUNTERPARTY.

SOME DIFFERENT TYPES OF SWAPS ARE:

v  SPOT AGAINST FORWARD,

v  FORWARD-FORWARD,
v  NON-DELIVERABLE FORWARDS (NDF).

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
All 3 categories, Spot transactions, Forward transactions, and
Swap transactions, rose significantly
21

Global FX Market Turnover, 1989-2013 (daily averages in April, bn. US$)

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 London and NY alone make up 60% of all FX activity

22

Top 10 Geographic Trading Centers in the FX Market 1992–2013

(daily averages in April, billions of U.S. dollars)

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 U.S. dollar/euro cross-rate and the Japanese yen/U.S. dollar
cross-rate still the most important pairings
23

Foreign Exchange Market Turnover by Currency Pair

(Daily averages in April)

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Foreign Exchange Rates and Quotations

24

A FOREIGN EXCHANGE RATE IS THE PRICE OF ONE CURRENCY

EXPRESSED IN TERMS OF ANOTHER CURRENCY.

A FOREIGN EXCHANGE QUOTATION (OR QUOTE) IS A

STATEMENT OF WILLINGNESS TO BUY OR SELL AT AN
ANNOUNCED RATE.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 The Tower of Babel

25

CURRENCY SYMBOLS

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Foreign Exchange Rates and Quotations

26

FX Rate Quotes: The Banking Definition

u  Every currency exchange involves two currencies: the base or unit currency
(CUR1), and the price or quote currency (CUR2):
CUR1 / CUR2
u  The quotation indicates the number of units of CUR2 required in exchange for
receiving one unit of CUR1.
u  For example, a quotation of
EUR / USD1.2174
o  Designates the euro (EUR) as the base currency, the dollar (USD) as the price
currency.
o  The exchange rate is USD 1.2174 = EUR 1.00.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
Most foreign currencies in the world are stated in terms of the
number of units of foreign currency needed to buy one dollar
27

Foreign Exchange Rates and Quotations

u  Foreign Exchange Quotations may be stated in one of two ways:

v  The foreign currency price of one dollar, or

v  The dollar price of a unit of foreign currency.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Foreign Exchange Rates and Quotations

28

FX Rate Quotes: Overview

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Excluding two important exceptions, most FX quotations
around the world are stated in European terms
29

European terms American terms

u  For example, the FX rate between u  However, this rate can also be stated
US dollars and the Swiss franc is as:
normally stated:

Banks: $/SF 1.6000 Banks: SF/$0.6250

Corp: SF 1.6000/$ Corp: $0.6250/SF

European terms: foreign American terms: dollar price of a

currency price of one dollar unit of foreign currency)

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Euros are normally quoted in American terms

30

Foreign Exchange Rates and Quotations

u  Several exceptions exist to the use of European terms quotes:

u  The two most important are quotes for the Euro and U.K. pound sterling
which are both normally quoted in American terms.

u  American terms are also utilized in quoting rates for most Foreign
Currency Options and Futures, as well as in retail markets that deal with
tourists.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 For the definition of FX quotes as either direct or indirect,
the home or base country of the currencies is critical
31

Direct Quote Indirect Quote

u  A direct quote is a home currency u  An indirect quote is a foreign

price of a unit of foreign currency price of a unit of home
currency, or… currency, or

u  … the price of a foreign currency u  ... the price of the domestic
in domestic currency units currency in foreign currency
(14th ed) units (14th ed)

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Interbank quotes are given as a bid and ask (offer). Dealers
bid (buy) at one price and ask (sell) at a slightly higher price
32

Bid price Ask price

u Abid is the price (i.e. FX rate) in one u  Anask is the price (i.e. FX rate) at
currency at which a dealer will which a dealer will sell the other
buy another currency currency

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Bid, Ask, and Mid-Point Quotation

33

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 34

Exchange
Rates Quotes
New York Closing

Wall Street Journal

19th of Feb. 2015

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 The FX Quotation puzzle

35

FX Quotation Style

u  The order of currencies in quotations used by traders can be confusing:

u  The quotation EUR/…USD is the system used by traders, also mathematically it
would be more correct to express FX-Rates the other way round, as it shows
how many US dollar have to be paid to obtain 1 EUR.

u  This is why the currency quotes shown previously – like EUR/USD, USD/JPN,
… - recorded and used in business, in most text books and in the rest of this
lectures is:
•  USD1.0970/EUR,
•  Yen83.16/$, and
•  USD1.5552/GBP.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Cross rates determine exchange rates through a third
currency relationship
36

Foreign Exchange Rates and Quotations: Cross Rates

u  Many currency pairs are only inactively traded, so their FX rate is determined through
their relationship to a widely traded third currency (cross rate).

u  Assume:
u  Japanese yen ¥110.73/$
u  Mexican peso Ps11.4456/$

u  Cross rate:

Japanese yen / $ = ¥110.73/$ = ¥9.6745/Ps
Mexican Peso / $ Ps11.4456/$
u  Or as reciprocal:
Mexican Peso / $ = Ps11.4456/$ = Ps 0.1024/¥
Jap. Yen / $ ¥110.73/$

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Interbank Arbitrage I

37

Foreign Exchange Rates and Quotations: Interbank Arbitrage

u  Citibank quote - $/€ $1.3297/€

u  Barclays quote - $/£ $1.5585/£
u  Deutsche quote - €/£ €1.1722/£

u  Cross rate calculation between Citi Bank and Barcleys:

$1.5585/£ = € 1.1721/£
$1.3297/€

u  This cross rate is not the same as Deutsche´s quotation of €1.1722/£, so an opportunity
exists to profit from arbitrage between the 3 players/markets.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Interbank Arbitrage II

38

Triangular Arbitrage

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Appreciation and depreciation

39

Measuring a Change in Spot Exchange Rates

Assumption:
u  SF1.6351/$ ($0.61158/SF) strengthen to
u  SF1.5000/$ ($0.6667/SF).

u  Quotations expressed in foreign currency terms (indirect quotations):

%∆ = Beginning Rate – Ending Rate x 100 = SF1.63/$ - SF1.50/$ = +9.01%
Ending Rate SF1.500/$

u  Measuring a change in the Spot Rate for quotations expressed in home currency
terms (direct quotations):
%∆ = Ending rate – Beginning Rate x 100 = $0.6667/SF -$0.61158/SF = +9.01%
Beginning Rate $0.61158/SF

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 FX trader buy dollars (sell Japanese yen) at the bid price of
¥118.27/$, and sell dollars at the ask price of Y118.37/$
40

Spot & Forward Quotations for the Euro and Japanese Yen

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 The Forward Rates are typically quoted in terms of points

41

Foreign Exchange Rates and Quotations

u  Forward Rates are typically quoted in terms of points.

u  A Forward quotation expressed in points is not a foreign exchange rate as such.

u  Rather, it is the difference between the Forward Rate and the Spot Rate.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
The percent-per-annum FORWARD PREMIUM or DIS-
COUNT could be defined in foreign or home currency terms
42

Foreign Exchange Rates and Quotations

Foreign currency / home currency Home Currency / Foreign Currency

Spot Rate ¥118.27/$ $0.0084552/¥

3 month Forward ¥116.84/$ $0.0085587/¥

u  For Quotations expressed in foreign currency terms (Indirect quotations) the
formula becomes:
f ¥ = Spot – Forward × 360 ×100 = 118.27-116.84 × 360 × 100 = +4.90%
Forward n 116.84 90

u  For quotations expressed in home currency terms (Direct quotations) the formula
becomes:
f ¥ = Forward – Spot × 360 × 100 = 0.0085587-0.0084552 × 360 × 100 = +4,9%
Spot n 0.0084552 90

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 43
1.) A FX rate is the price of one currency expressed in terms of
another currency. A FX quotation is a statement of
Recapitulation willingness to buy or sell currency at the announced price

2.) Transactions within the FX market are executed either on a

spot basis, requiring settlement 2 days after the
transaction, or on a forward or swap basis, which
requires settlement at some designated future date

3.) European terms quotations are the foreign currency

price of one USD. American terms quotations are the
dollar price of a foreign currency

4.) A direct quote is the home currency price of a unit of

foreign exchange, while the indirect quote is the foreign
currency price of a unit of home currency

5.) A cross rate is an FX rate calculated from their common

relationship with a third currency.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Literature I

44
Required reading:
v  Eitman, D.K.; Stonehill, A.I.; Moffett, M.H.: “Multinational Business Finance”, 14th edition, 2016;
Chapter 5, pages 138-166.

Supplementary:
v  Butler, K.C.: “Multinational Finance – Evaluating Opportunities, Costs, and Risks of Operation”,
5th edition, 2012; Chapter 3, pages 45-71.

v  Shapiro, A.C.: “Multinational Financial Management”, 9th edition, 2010; Chapter 7, pages 264-291.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Literature II

45
Articles:

v  Financial Times (25th of January 2014): “Currencies hit in wake of Argentina”; page 1.

v  Financial Times (7th of April 2014): “FX market and why it matters”; page 1.

v  Financial Times (24th of September 2014): “Euro weakness strengthens hand of ECB policy makers”;
page 1.

v  Financial Times (28th of October 2014): “Rousseff election victory sparks sharp falls in stocks and the
real”; page 1.

v  Financial Times (2nd of July 2015): “Currencies: Greenback hits 9-year high on rate rise hopes”, p26.

v  Financial Times (12th of January 2016): “Renminbi borrowing rate plunges in Hong Kong”, online.

v  Financial Times (7th of October 2016): “Pound plunges 6% in 2 minutes”, online.

Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16
 Literature III

46
Articles:
v  THE ECONOMIST (1st of February 2013): “The Foreign-Exchange market: Special FX”.

v  THE ECONOMIST (16th of November 2013): “The Argentine Peso: Clamped”.

v  THE ECONOMIST (14th of February 2014): “Turmoil in financial markets: Goldilocks and the bears”.

v  THE ECONOMIST (30th of August 2014): “The euro zone: That sinking feeling (again)”; page 9.

v  THE ECONOMIST (11th of October 2014): “Currencies: Buck to the future”; page 74.

v  THE ECONOMIST (21st of November 2015): “What a carry on Monetary policy could drive currency
volatility”.

Internet Sources for FX quotes:

v  https://www.ubs.com/global/en/quotes.html
Prof. Dr. Thorsten Feix Master Lectures: International Treasury Management 17.10.16