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Financial Intermediary
Institution, firm or individual performs
intermediation financial context.
First party is provider of product or
service and second party is
consumer or customer.
Institution acting as middleman
between investors/firms raising funds
is financial institutions. Includes
chartered banks, insurance
companies, investment dealers,
mutual funds, and pension funds.
Types of Intermediaries
Banking and Non-banking institutions
They transfer funds from economic
agents with surplus funds (surplus
units) to economic agents (deficit units)
that would like to utilize those funds.
Bank Financial Intermediaries, BFIs
(Central banks and Commercial banks)
Non-Bank Financial Intermediaries,
NBFIs (insurance companies, mutual
trust funds, investment companies,
pensions funds, discount houses and
bureaux de change).
Functions
Maturity transformation-Converting
short-term liabilities to long term
assets. Banks deal with large number
of lenders and borrowers and reconcile
their conflicting needs.
Risk transformation-Converting risky
investments into relatively risk-free
ones. Banks lend to multiple borrowers
to spread the risk.
Convenience denomination-Matching
small deposits with large loans and
large deposits with small loans.
Advantages of financial
intermediaries
Cost advantage over direct
lending/borrowing
Market failure protection the
conflicting needs of lenders and
borrowers are reconciled, preventing
market failure
Insurance Companies
Insurance companies fulfill insurance needs of
the community, both for life and non life
insurance.
With globalization large number of private
players have entered into this field, offering
products that allow investors to select the kind
of policies to suit their financial planning
needs.
Many of these are formed as subsidiaries of
banks that enable the banks to cross sell
insurance products to their existing customers.
Banks benefit by way of fee income through
referrals and enhanced relationships with
insurance companies for their banking needs.
Mutual Funds
Satisfy needs of individual investors through
pooling resources from a large number with
similar investment goals and risk appetite.
Resources collected are invested in capital
market and money market securities and
returns generated distributed to investors.
MFs fund managers - specialists in investment
analysis, able to diversify and even out risks
through portfolio mix.
MFs offer wide variety of schemes - growth
funds, income funds, balanced funds, money
market funds and equity related funds
designed to cater to the different needs of
investors.
Financial adviser
Professional renders financial services to
individuals, businesses and governments.
Involves investment advice, may include pension
planning, and/or advice on life insurance, other
insurances as income protection insurance, critical
illness insurance, mortgages
Many FA receive commission for the various
financial products that they broker, although "feebased" planning is becoming increasingly popular in
financial services industry.
There are two types of financial advisers - "feebased" and "fee-only" advisers. Fee-based advisers
often charge asset based fees but may also collect
commissions. Fee-only advisers do not collect
commissions or referral fees paid by other product
or service providers.
Broker
Arranges transactions between a
buyer & seller and gets commission
when the deal is executed.
Acts as a seller or as a buyer
becomes a principal party to the
deal. The agent is one who acts on
behalf of a principal.
Types of risk
Depending on the nature of the investment, the
type of 'investment risk' will vary.
A common concern is that of losing the money
invested, i.e., capital. This risk is referred to as
capital risk.
If investments are held in another currency there
is a risk that currency movements alone may
affect the value. This is referred to as currency
risk.
Many forms of investment may not be readily
salable on the open market (e.g. commercial
property) or the market has a small capacity and
investments may take time to sell. Assets that
are easily sold are termed liquid therefore this
type of risk is termed liquidity risk.