The models presented in the previous chapters describe the price formation process in markets with different structures. As we saw in the previous article, among the markets with trade pricing rules, those governed by an order-driven execution system can be organized either as a continuous or as a call auction, while markets with a quote-driven system can be either a bilateral dealer market or a continuous auction that works as a limit order book.Within this outline, the Glosten and Milgrom (1985) model describes a bilateral quote-driven market in which dealers’ competition guarantees semi-strong efficiency; Kyle’s (1985) model proxies an order-driven call auction market where a specialist, or a number of market-makers, sets the market-clearing price after observing his, or their, customers’ aggregated order flow. Finally, the Grossman and Stiglitz (1980) model proxies an order-driven market where all participants can submit their demand schedules simultaneously.1 Since each demand function is a fairly accurate representation of a large number of small limit orders (Brown and Zhang, 1997), this market can be interpreted as a limit order book. As the next section shows, this interpretation has the advantage of considering all market participants as potential liquidity suppliers, i.e. of embodying the order-driven feature of a limit order book (LOB); it fails, however, to incorporate either the discriminatory pricing rule that characterizes an LOB or the agents’ strategic choices between limit orders and market orders. Section8.1 will introduce the reader to the discriminatory pricing rule and will sketch a basic model that embodies this rule; in this model, however, agents cannot choose the type of order to submit to the LOB, so section 8.2 presents models in which the choice between market and limit orders is endogenous.
Category Archives: bank deposits
A credit discriminatory pricing rule
Different degrees of loans subordination
A second method to slice the corporate bond universe, especially the financial sector, is by different degrees of subordination. We discuss the characteristics of different types of bank debt in detail. In summary, Tier 1 preferred, Upper Tier 2 and Lower Tier 2 differ from senior bank debt in two major dimensions: with respect to loss absorption and interest deferral features. Both Tier 1 and Upper Tier 2 capital are able to absorb losses. But while missed interest payments are canceled immediately for Tier 1 issues they are repaid at a later date for Upper Tier 2 bonds. On the other hand, Lower Tier 2 debt contains no loss absorption features.
If the exuberant loans expectations would be fulfilled,
A lot of this M&A frenzy was financed by debt. Consequently, the balance sheets of many companies deteriorated rapidly. Doubts, if the exuberant profit expectations would be fulfilled, and concerns about company leverage initiated the decline in equity markets. The bubble burst when investors realized that they were not compensated for the downside risks associated with investing in overvaluated tech companies. When a few of the TMT newcomers began to struggle, investors had to acknowledge that there was no free money to be made in TMT IPOs. Highly leveraged balance sheets caused serious problems for some of the brightest stars of the equity hype, and for some of the big companies. Actually much of the equity bubble was concentrated on large cap companies.
Money managers dance better for a price
A money manager is not a psychologist for the difficult years. A money manager’s primary interest is in keeping your account, not helping you with your emotions. When the market and your account crash, a money manager is unlikely to admit his responsibility in loading up on overpriced stocks at the wrong time. More likely, he will attribute the loss to forces over which he is powerless and recommend you hold on for the certain recovery. Though recovery is never certain, and often takes decades, the money manager will be paid during the wait. Or the money manager might recommend a shift into less volatile bonds to quell your nerves. Typically, bonds require little research and monitoring for the money manager, and often they are chosen just as bond prices have peaked.
Your biggest liability working with a money manager is your sense of loyalty. You must be willing to cut and run when it becomes apparent that your money manager is not performing. Your ego also gets the best of you here. Beginning a conversation with “My money manager says…” indicates a degree of wealth and sophistication. “My index fund…” will only elicit boredom. Denial is not your friend either. You must analyze what your money manager is doing, get second opinions, and question him directly.
People pleasers will have difficulty here.
Trade Discounts Can Add Up!
One of the untapped income sources for many companies is the trade discount offered for prompt payments. Many suppliers offer anywhere from a one percent to three percent discount if the invoice is paid within 10 days, as opposed the usual net 30 days and beyond. Use the following equation to predict your trade discount:
discount income = discount percent / (due date – discount date) x 360
Let’s assume our example company that receives a two percent discount on payments made within 10 days, rather than by the 45-day average established through weighted average invoice aging. That discount equation would be as follows:
2% / (45 – 10) x 360 = 20.5%
Unless the company’s cost of funds or interest earnings match or exceed 20.5 percent, the company gains more financial value if it pays within the trade discount period.
Many companies curry favor with suppliers by paying either prior to the due date or as an exception to their own weighted average. A company that does this should make sure the vendors know the company is making a policy exception and, if appropriate, why it’s doing so. If the company chooses to reward vendors with cash for some reason, the vendors should know why.
Keeping Payables on Track
One of the keys to effective ACCOUNTS PAYABLE management is keeping track of disbursements to make sure they are in line with the company’s payment policy. Consider it the flip side of collections and remember that better tracking of payables results in better management of cash flow and reserves, even if only on a minor basis.
Earlier we suggested timely and regular payments. Let’s amend that recommendation slightly to say that payables should turn over as quickly as they need to in terms of the vendor agreement, company policy, or both. If cash is released too quickly, the company may not be taking full advantage of the trade credits offered by vendors. Also, that money, if invested, could be earning interest a little longer.
Need a benchmark? Your accounting department may want to try and match payables turnover with receivables turnover whenever possible. If the average collection time on receivables is 30 days (you wish!), then the average payables turnover time also should be 30 days. Under that scenario, the firm is using its suppliers to underwrite inventory. That means it can keep less cash on reserve, freeing it up for other, more important things.
How to Make Entries to Your Accounts Payable – part 1
Making entries to the ACCOUNTS PAYABLE system is as easy as one, two, three:
1. Post purchases or other transactions to the appropriate vendor account.
2. Post vendor purchases to the A/I1 subledger.
3. Post summary of ACCOUNTS PAYABLE in the general ledger and any other offsetting accounts.
Automated accounts payable systems generally post to the vendor account, summarize those accounts, and post to the general ledger at the same time. Accountants working with manual systems will have to remember to complete all three steps with each and every entry.
What are accounts payable? – part 1
Just as there are accounts receivable (A/R), or money that is owed to you, there are accounts payable (ACCOUNTS PAYABLE), or money that you owe to others. ACCOUNTS PAYABLE isn’t nearly as much fun as the former, but it’s a part of business life. Taking care of the A/1′ is important, because your company’s credit rating and reliability as a business could be at stake. As a manager, you will need to understand how this all comes into play.
Let’s start with a definition. Similar in structure but opposite in purpose to accounts receivable, accounts payable is a list of monies owed by the company to creditors, usually from the purchase of merchandise, materials, supplies, equipment, or services.
guidelines your collection staff should follow when dealing with debtors – part 2
Help the debtor solve problems associated with the delinquency. If the company alters its expectations a little, a debtor inconvenienced by a minor setback in personal fortunes may be able to pay more quickly and easily. Sometimes a debtor can feel overwhelmed, like it’s impossible to pay off the debts. Companies that work with the debtor help make the dunning effort a service of sorts that may help resolve matters for the company and the debtor.
Maximizing Your Collections Efforts – part 2
The accounting function can help, too, by sending timely accurate statements to customers to remind them of the debt they owe the company. The old phrase, “Out of sight, out of mind,” was never truer than when it comes to debts.
For companies that simply must launch a collections action, a collections professional is always the preferred route. Whether it’s a staff person specially trained at collecting past due amounts or a firm hired for this specific purpose, the money recovered should be worth the time and effort they spend. But make sure not to leave a bad impression with customers you may eventually want back.
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Recent Posts
- A credit discriminatory pricing rule
- Types of bank capital represent its own credit risk class
- Different degrees of loans subordination
- General fluctuations of credit spreads
- Investors require a premium for taking on credit risk
- Lagging indicators of credit quality
- Selection of your credit spread class
- The tactical asset allocation in credit portfolios
- The flow of your credit funds
- Substituted equity by debt
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