FIN201 Financial Institutions and Markets Trimester 1, 2017 Assessment 2 Instructions GROUP ASSIGNMENT Assessment 2 weighs 30% of the unit grade. 1. Assessment 2 is to be completed in groups, consisting of three members. Collaborating with the team members and managing this assignment as a project with specific learning outcomes will be beneficial. 2. Group Written Assignment is due Monday, Week 11, May 29, 2017 by 7:55 pm AEST a. Please submit the Assignment electronically on the portal. Copy and paste any Excel spreadsheet calculations into the written document as well as upload Excel spreadsheets that you used for computations as a separate file. 3. Please submit written answers through “Written Report” link and submit one Excel spreadsheet you used in calculating answers through “Excel File for Report” link (you can use multiple sheets in your one file). Both of these sections will be marked. 4. It is due 7:55 pm Australian Eastern Standard Time (AEST) if you are in Adelaide you need to make sure you submit at the right time. I.e. in Adelaide it is due 7:25 pm. The written part of your assignment will be put through Turnitin and any plagiarism will be traced and penalized.This document contains: 1. Group written assignment questions and instructions 2. Frequently asked questions 3. Template for recording group meetings 4. Group written assignment marking rubric Group Written Assignment Task Description Length: 1,500 words Due: Monday, Week 11, May 29, 2017 Total Marks: 102 marks (content) and 10 marks for quality of report. – Total: 112 marks How to submit: Under “Assessments” tab on the FIN201 portal homepage. • Please submit the Assignment electronically on the portal. Copy and paste any Excel spreadsheet calculations into the written document as well as upload Excel spreadsheets that you used for computations as a separate file. • As part of this assessment you are required to conduct research of market and financial data online, learn essential skills as well as apply knowledge of finance.Frequently asked Questions For the written assignment, what if I am above the word limit of 1,500? How much can I exceed the word limit? This is OK to a point. You have a 250-word lee-way. However, this is only if the additional words address the assessment task and are strictly necessary for your analysis. Can our group have less or more than 3 students? No, you need to stick to these parameters. If you cannot form a group of three you can speak to your lecturer and he will either, choose a group for you to be a member of or reach an alternate arrangement. Do I need to reference sources such as the textbook, other finance textbooks and online sources? Yes. Please use the referencing guide from the portal (under the assessments tab) and include a reference list at the end of your written assignments and group presentations. Also please use intext referencing. Do I need to reference the lecture slides or tutorials from this course? No you do not. What is plagiarism and what are the consequences? If you copy or reproduce someone else’s work without re-phrasing it or putting it in quotation marks, this is plagiarism. Also if you rephrase some else’s ideas and do not include an in- text reference this is also plagiarism. You will be penalized for this. The assignment will be put through Turnitin so any plagiarism will be identified by the software. Are references part of the word count? No. Will we be assessed on the quality of our group meeting records? No, you just need to hand them in as part of the written assignment. They are designed to help you organize your group- you, and to monitor the contribution of team members. Does the assignment have to be written in report form or do I just address each question? No, it does not have to be in essay or report form. You need to address every question directly with reference to theory, research findings and calculations. Are there marks given for the presentation of the report? Yes. Marks are awarded for consistent formatting (spacing, font, text sixe etc), as well as presentation of data (in table format) and calculation examples using formulas.Late Assignment Submission Penalties Penalties will be imposed on late assignment submissions in accordance with Kaplan Business School “late assignment submission penalties” policy. Number of days Penalty 1*-9 days 5% per day for each calendar day late deducted from the student’s total marks 10-14 days 50% deducted from the student’s total marks. After 14 days Assignments that are submitted more than 14 calendar days after the due datewill not be accepted and the student will receive a mark of zero For the assignment(s). Note Notwithstanding the above penalty rules, assignments will also be given a mark ofzero if they are submitted after assignments have been returned tostudents *Assignments submitted at any stage within the first 24 hours after deadline will be considered to be one day late and therefore subject to the associated penalty If you are unable to complete this assessment by the due date/time, please refer to the “Special Consideration Application”, which is available at http://www.kbs.edu.au/wp-content/uploads/2015/12/KBS-Assessment-Policyv4.2.Group Meeting Record Each Group please fill in the table for a minimum of three meetings and paste into your written assignment. The notes can be brief. The following table format can be utilised: Meeting Group Issues Discussed Tasks Completed and Duties Delegated A list of group members who attended the meeting A list of issues discussed A brief list of tasks to be done before next meeting and who is going to do the tasks 1. Name ___________________ _ Signature ___________________Date_________________ 2. Name ___________________ _ Signature ___________________Date_________________ 3. Name ___________________ _ Signature ___________________Date_________________Assessment Marking Rubric Criteria High Distinction (HD) 85%-100% Distinction (DN) 75%- 84% Credit (CR) 65%-74% Pass (P) 50%-64% Fail (NM) 0%-49% Score Knowledge, Comprehension and Application In addressing the financial issues, the assignment clearly identifies, defines and critically applies relevant theories and concepts sourced from more than 3 quality sources. Correct graphs and charts are applied and correct analysis is undertaken with reference to the resources. In addressing the financial issues in the case study, the assignment clearly identifies, defines and applies relevant theories and concepts sourced from more than 3 quality sources. Correct sources are used, but minimal explanations are given In responding to the financial issues in the case study, the assignment defines and applies relevant theories and concepts sourced from at least 3 sources. In responding to the financial issues in the case study, the assignment identifies and defines relevant theories and concepts with little application in response to the case questions. At least 3 sources used in assignment. Key concepts not identified or defined. Unclear application of concepts to the case study. Less than 3 sources used in assignment. Analysis, evaluation and judgment Analysis and evaluation supported by comprehensive discussion and argument and leading to a supported judgment which addresses the case study questions. Student is able to link analysis with the data - making informed judgment by combining data and theory in coming up with their conclusions. Copious evidence in the work of critical reasoning and synthesis. Analysis and evaluation supported by comprehensive discussion and argument and leading to a clear judgment which addresses the case study questions. Copious evidence in the work of critical reasoning. Analysis and evaluation supported by broad discussion and argument. Much evidence in the work of critical reasoning. Analysis and argument supported in part by some discussion and argument. Some evidence in the work of critical reasoning. Analysis and argument not apparent. Lacks argument and discussion. Little or no evidence in the work of critical reasoning. Conclusion and written assignment Assignment written in a cohesive manner, by addressing questions directly and Assignment written in a cohesive manner, by addressing questions directly. Sound and Assignment written in a somewhat cohesive manner, by somewhat addressing the Assignment written with structure but reads awkwardly. Assignment question answers draw a Assignment reads piecemeal with no proper structure given. No or limited conclusioncomprehensively. Sound and convincing conclusions and judgements drawn from the discussion. Appropriate citation and references given to support the discussion to help draw a sound well-argued conclusion. Assignment written within the word limits. convincing conclusions and judgements drawn from the discussion. Appropriate citation and references given to support the discussion to help draw a sound conclusion. Assignment written within the word limits. questions. Sound conclusion drawn from the discussion. Appropriate citation and references given to support the discussion to help draw a conclusion. Assignment written within the word limits. conclusion but not necessarily drawn from the discussion. Some missing references and citations. Assignment written exceeding the word limits. draw from the discussion. Missing references and citations. No attempts to stick to the word limits. Comments: Assignment Mark/Grade: Total Score:Question 1 – Debt Securities - 31 marks 1. Commonwealth Bank is in the process of managing its short-term liquidity. They intend to obtain short-term funds on the money market from a wholesale investor. To do so, they issue a 60-day Certificate of Deposit (COD) at 5.2% p.a. The value raised is $50,000,000 (fifty million Australian Dollars). a. What is the Face Value of one of the Certificates of Deposit? What does this value mean? (5 marks) b. If the bank wants to raise $250,000,000 (two-hundred and fifty million Australian Dollars) how many of these COD’s would they issue? (2 marks) c. What will be the dollar return to the investor if they hold the COD until maturity? (3 marks) 2. Rio Tinto is looking to expand through exploration into a new mine, 100km south-east of Port Hedland, Western Australia. To obtain long-term funding, 3 years ago Rio Tinto issued 250 (two hundred and fifty) 10-year bonds with a face value of $1,000 and an annual coupon of 7%. a. If three years ago, investors required a yield to maturity on bonds in the same risk class of 8%, how much financing would Rio Tinto have raised when they issued the bonds? (10 marks) b. Over the last three years, interest rates in the economy have fallen. Does this mean that Rio Tinto was better off issuing bonds three years ago or would they have raised more money by issuing bonds today? (3 marks) 3. The previous two questions consider short and long-term debt financing. Define short and long-term debt issuance and identify them as short or long-term debt securities. Explain factors that are considered when deciding which type of financing to use. (8 marks)Question 2 – GFC and Commercial Banking (35 marks) Read the article below and answer the following questions. You may need to do some of your own additional research. _____________________________________________________________ Next financial crash is coming – and before we’ve fixed flaws from the last one IMF Global Stability report makes for a sobering read, saying sustainable recovery has failed to materialised and cheap money has led to bubbles and debt. The next financial crisis is coming, it’s a just a matter of time – and we haven’t finished fixing the flaws in the global system that were so brutally exposed by the last one. That is the message from the International Monetary Fund’s latest Global Financial Stability report, which will make sobering reading for the finance ministers and central bankers gathered in Lima, Peru, for its annual meeting. Risk of global financial crash has increased, warns IMF Massive monetary policy stimulus has rekindled growth in developed economies since the deep recession that followed the collapse of Lehman Brothers in 2008; but what the IMF calls the “handover” to a more sustainable recovery – without the extra prop of ultra-low borrowing costs – has so far failed to materialise. Meanwhile, the cheap money created to rescue the developed economies has flooded out into emerging markets, inflating asset bubbles, and encouraging companies and governments to take advantage of unusually low borrowing costs and load up on debt. “Balance sheets have become stretched thinner in many emerging market companies and banks. These firms have become more susceptible to financial stress,” the IMF says. Meanwhile, the failure to patch up the international financial system after the last crash, by ensuring that banks in emerging markets hold enough capital, and constraining risky borrowing, for example, means that a new Lehman Brothers-type shock could spark another global panic. “Shocks may originate in advanced or emerging markets and, combined with unaddressed system vulnerabilities, could lead to a global asset market disruption and a sudden drying up of market liquidity in many asset classes,” the IMF says, warning that some markets appear to be “brittle”. So as the US Federal Reserve lays the groundwork for a return to peacetime interest rates, from the emergency levels of the past seven years, financial markets face what the IMF calls an “unprecedented adjustment”; and the world looks woefully underprepared. The IMF’s warning echoes a chorus of others. The Bank of England’s chief economist, Andy Haldane, has argued that the world is entering the latest episode of a “three-part crisis trilogy”. Unctad, the UN’s trade and development arm, would like to see advanced economies boost public spending to offset the downturn in emerging economies. The Bank for International Settlements believes interest rates have been too low for too long, encouraging too much risk-taking in financial markets. All of them fear that the global financial system is primed for a crisis.The IMF has not given up hope of what it calls a “successful normalisation” – it lays out a series of conditions that would need to be met, from a successful rebalancing of growth in China, to “safeguarding against market illiquidity” in financial markets. Yet the failure of the world’s policymakers to get to grips with the shortcomings of the international financial system over the past seven years, despite the long shadow cast by Lehman and its aftermath, suggests that any measures enacted now are likely to be too little, too late. The message many may take home from Lima is, “batten down the hatches”. END OF ARTICLE____________________________________________________ Source: https://www.theguardian.com/business/2015/oct/07/next-financial-crash-is-comingimf-global-stability-report Using your knowledge from the course and the article above, answer the following questions: a) Outline two important functions that the financial system performs in the economy. Why is the smooth functioning of the financial system important to the economy? (10 marks) b) What are some of the dangers and incentive problems of the financial sector getting “too big”? (5 marks) c) Basel III is explained as an extension of Basel II. Do you agree with this statement? Why or why not. (10 marks) d) Why is “the drying up of market liquidity” a perceived problem? Explain the issue with reference to the recent GFC and any other relevant examples. (10 marks)Question 3 – Share Valuation (38 marks) Read the article below and answer the following questions. You may need to do some of your own additional research. _____________________________________________________________________ Housing, banks at risk of significant overvaluation: ANALYST OPINION < by Christopher Joye Two markets are at risk of significant overvaluation – Australia’s $4 trillion housing sector and the $405 billion big banks (Commonwealth Bank, NAB, Westpac and ANZ) that furnish most of the funding we use to buy homes. Two of the majors, Commonwealth Bank of Australia and Westpac, are worth more than $100 billion each – more than global icons such as McDonald’s and American Express. Amazingly, CBA’s market capitalisation is loftier than the world’s largest chip manufacturer, Intel. Since there is so much hysteria around housing, it is useful to focus on cold facts. So here are some more facts. Today, Australian house prices are more expensive than they have ever been. They are 16 per cent above the peak reached in March 2008 before the global financial crisis hit our shores. Yet, prices are also more than 2 per cent dearer than the last official high watermark in October 2010….The bottom line is that we may be only six months away from Australia’s housing market being more expensive than it ever has been. That should give all of us pause. With the risk that mortgage rates need to increase by 50 per cent off their lows of about 5 per cent to get back to the more “normal" levels that have prevailed since the early 1990s, the potential for a future correction is significant. New normal ….The challenge for banks today is that credit growth is likely to remain anchored by singledigit disposable income growth over the course of the cycle. A key question is how the majors have manufactured strong earnings per share and dividend growth during these straitened times. The answer is found in accounting and capital management manipulations.Analysis by UBS shows 51 per cent and 69 per cent of the major banks’ earnings per share growth over the past six months and 12 months, respectively, was explained by non-cash reductions in provisions for bad and doubtful debts. If you remove these effects, earnings per share growth fell 0.2 per cent in the second half of 2013. That’s right: bank profits declined! A similar story also plays out over the full financial year. Lessons of GFC A key lesson from the GFC was meant to be that banks would boost their insurance against losses during the good times so they could draw down on this protection when conditions sour. …Looking ahead, big bank investors need to be mindful of two key headwinds. The first is that as systematically important institutions that are “too big to fail", the majors will be asked to hold even more core capital to protect against adverse future contingencies. This should mechanically result in lower leverage and returns on equity. A second threat is that regulators seek greater convergence in the “risk-weights" the majors are allowed to apply against the assets they hold relative to competitors. Across their home loan books, which account for 60 per cent of total assets, the majors get to use ultra-low riskweights of between 15 per cent and 20 per cent of the assets’ actual values. With the exception of Macquarie, all other banks are required to apply much higher 40 per cent riskweights. As a consequence, the majors hold less than half the capital, and hence have more than twice the leverage, of most rivals, for every dollar of home loans sitting on their balance sheets. END OF ARTICLE_________________________________________________________ Source: http://www.afr.com/real-estate/residential/housing-banks-at-risk-of-significantovervaluation-20131108-ix058 Using your knowledge from the course and the article above, answer the following questions: a. NAB shares just paid a dividend of $2.83. You expect the dividends to grow at 5% forever. The required rate of return on NAB shares are 8%. What is the price of NAB shares today? (5 marks) b. What does a high P/E ratio say about investor expectations? Under what circumstances can a P/E ratio be “too high”? What are the P/E ratios currently for CBA, WBC and ANZ and what do these indicate about investor expectations? (11 marks) c. Use P/E analysis and market data to estimate a price for NAB shares. Do you think this value is a correct valuation of NAB shares? Justify your opinion. (10 marks)d. Based on your analysis in questions a) - d) do you think there is a “price bubble” in Australian banking shares at the moment? Justify your answer with theory and some research. (5 marks) e. According to the article what will happen to bank share prices if EPS for the big four banks fall? As a result, what would happen to the banks’ Tier 1 and Tier 2 capital and therefore its capital ratio (CAR)? (7 marks)