Topic 7: NonBank Financial Institutions II: Savings Institutions, Mutual Fund, and Credit Unions

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Topic 7 Non-Bank Financial Institutions II
Savings Institutions Mutual Fund and Credit
Unions

• Savings Institutions Structure principal
  sources and uses of Funds Performance
  Evaluation.
• Mutual Funds Structure principal sources and
  uses of Funds Performance Evaluation.
• Credit Unions Structure principal sources and
  uses of Funds Performance Evaluation.
• Finance Companies Structure principal sources
  and uses of Funds Performance Evaluation.

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Savings Institutions (SIs)

• They are deposit taking financial intermediaries
  that pool funds from owners/depositors for
  purpose of investing in financial securities.
• Unlike commercial banks SIs provide loans
  (mostly consumption mortgage etc.) to households
  and individuals.
• SIs can be classified as mutual or stock owned.
  SIs are often referred to as mutual banks or
  savings and loans associations (S L).
• Activities of SIs are regulated by special
  regulatory agency of government.
• Regulation of Sis covers their capital risk
  exposure performance among other. They are
  monitored using CAMELs rating.

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• Sources of funds
• Deposits savings and time deposits retail CDs
  money market deposit accounts (MMDA).
• Borrowed funds (usually for short-term basis)
  from other institutions deposits with the Central
  Bank (CB) CB discount windows or repos.
• Capital retained earnings or issued stocks.
• Uses of funds
• Cash
• Mortgages
• Mortgage-backed securities
• Other securities
• Consumer and commercial loans
• Other uses

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• Risk exposure of SIs
• Like other FIs Sis are exposed to certain
  risks such as
• - Liquidity risk
• - Credit risk
• - interest rate risk
• Valuation of SIs
• SIs are valued in the same way commercial are
  valued. That is
• The same factors that affects CF K Rf and RP
  in commercial banks also affect them in SIs.

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• SIs Performance analysis
• SIs performance can be analysed by an
  examination of their income statement.
• Performance indicators are measures as percentage
  of total assets.

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Mutual Fund

• MF They are financial intermediaries that pool
  funds from small investors through the sales of
  shares and then use the proceeds to invest in
  financial securities.
• MF are also known as Unit Trust (UT) and they
  serve as importance sources of finance for
  government and corporate bodies within the
  primary market.
• MF/UT are made up of three components - trustee
  management company (portfolio managers) and funds
  or unit holders.
• Fund Types
• - open end shares can be increased/reduced
  new savers can join the trust
• - closed end fixed number of shares
• - Hedge fund
• - money market mutual fund
• - Exchange traded fund are designed to mimic
  stock indexes and are usually traded on a stock
  exchange just like stocks.
• - Sales Load - front-end load back-end load
  and level load

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• Value of Fund
• The net worth of MF is measured in terms of
  value per share.
• Net asset value of fund is calculated on daily
  basis as
• Net asset value Market value of fund/number
  of shares
• where market value is obtained by multiplying
  number of shares by prevailing unit price
• Interest/dividends accrued are usually added to
  the market value and all expenses incurred are
  deducted
• Category of MF
• Stock Mutual fund
• - growth funds
• - capital appreciation funds

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• - growth and income
• - international and global funds
• - specialty funds
• - index funds
• - multi-fund mutual funds
• Bond MF
• - income funds
• - tax-free funds
• - high-yield (junk) funds
• - international and global funds
• MF Performance
• Performance measurement of MF depends on the
  nature and category of the fund

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• Stock Mutual Fund performance
• - open-end fund
• PERF f(MKT SECT MANAB)
• - for a closed-end stock fund change in
  premium or discount is another factor that
  affects performance
• Bond Mutual Fund Performance
• - open-end fund
• PERF f(Rf RP CLASS MANAB)
• - for a closed-end stock fund change in
  premium or discount is another factor that
  affects performance

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Credit Union

• Definition of Credit Unions
• Types of Credit Unions
• Ownership Structure
• Principal Sources and Uses of Funds
• Performance evaluation indicators
• Problems of Credit Unions

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Definition of Credit Unions

• A credit union is a cooperative financial
  institution owned and controlled by the members
  who use its services.
• Credit unions serve groups that share a common
  bond.
• Credit unions are also not-for-profit and exist
  to provide a safe convenient place for members
  to save money and to get loans and other
  financial services at reasonable rates.
• Credit unions are cooperative financial
  institutions that provide many of the same
  financial services that banks do.
• Credit unions have grown within and around the
  Caribbean over the years Jamaica -49 Caribbean
  351.

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Types of Credit Union

• Employee-based credit union e.g. UWI-Mona CU
• Professional organisations credit unions e.g.
  Farmers credit union.
• Region or national-based credit union e.g.
  labour union.
• Ownership Structure of Credit Union
• Each member of a credit union is an equal owner -
  entitled to one vote at the annual meeting.
• Voluntary leadership - Credit unions are led by a
  board of directors elected from the membership at
  the annual meeting.

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Principal Sources and Uses of Funds

• Sources of Funds
• - member deposits/savings
• - reserves retained earnings
• - subscriptions and contributions
• - external credit
• - institutional capital
• Uses of Funds
• - loans
• - liquid investments
• - financial investments
• - non-earning assets

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Performance evaluation indicators

• In general there is no fixed rule for evaluating
  credit unions performance.
• However credit unions performance can be
  monitored and evaluated on the basis of PEARLS.
• PEARLS stands for a financial performance
  monitoring system designed to offer management
  guidance for credit unions. It stands for
  protection effective financial structure asset
  quality rates of returns and costs Liquidity
  and signs of growth.
• PEARLS is set of financial ratios or indicators
  that help to standardize terminology among credit
  unions.

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Components of PEARLS

• Protection ensure that the financial
  institution provides depositors a safe place to
  save their money. Provision against loan losses.
  It comprises
• - delinquency outstanding
  port-folio-at-risk
• - Solvency measures the worth of member
  savings after adjusting for losses
• Loan delinquent Total liabilities Problem
  Assets
• Total shares Total deposits

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Components of PEARLS (contd.)

• Effective financial structure measures the
  adequacy of funds (savings shares external
  credit and institutional capital) and its uses of
  funds (loans liquid investments financial
  investments and non-earning assets).
• - Net Funds/ Total assets.
• Asset quality ratio of non-earning assets to
  total assets
• Rates of Return and costs measures rates of
  return on each type of asset (use of funds) and
  the cost of each type of liability (source of
  funds).
• e.g. Net loan income/Average net loan
  portfolio.

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• - financial cost ratio costs of savings
  deposits external credit and dividends on
  Liquidity shares.
• Liquidity measure the extent of liquidity
• - non-earning liquid assets/total assets.
• Signs of growth measures growth of institution
  e.g. the growth in Shares income savings
  assets.
• Risk exposure of CU
• CU are exposed to three basic risks
• - Liquidity risk
• - Credit risk
• - Interest rate risk

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Finance Companies

• Finance companies are specialised FIs that
  provide short- and intermediate-term credit to
  consumers and small businesses.
• They raise funds through the sales of commercial
  papers stocks and bonds and use same to provide
  loans.
• Finance companies are usually in the form of
• Sales Finance companies owned by companies for
  the purpose of providing sales credit to
  customers or be a separate firm that grants
  credits to retailers and dealers.
• Consumer finance companies they may be owned by
  banks or be a separate companies. They offer
  specific consumption loans
• Business finance companies provide loans and
  equipment leasing.

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• Risk exposure of FC
• - liquidity risk
• - interest rate risk
• - credit risk
• Valuation of FC
• FCs are valued in the same way commercial are
  valued. That is
• The same factors that affects CF K Rf and RP
  in commercial banks also affect them in FCs.