Strategies of Banks and Other Financial Institutions

Theories and Cases

Rajesh Kumar

• Publisher: Academic Press
• Year: 2014
• Print ISBN: 9780124169975
• eBook ISBN: 9780124171671
• Topic: Business
• Subtopic: Business Strategy
• Index: Business

How and why do strategic perspectives of financial institutions differ by class and region? Strategies of Banks and Other Financial Institutions: Theories and Cases is an introduction to global financial institutions that presents both theoretical and actual aspects of markets and institutions. The book encompasses depository and non-depository Institutions; money markets, bond markets, and mortgage markets; stock markets, derivative markets, and foreign exchange markets; mutual funds, insurance, and pension funds; and private equity and hedge funds. It also addresses Islamic financing and consolidation in financial institutions and markets. Featuring up-to-date case studies in its second half, Strategies of Banks and Other Financial Institutions proposes a useful theoretical framework and strategic perspectives about risk, regulation, markets, and challenges driving the financial sectors. - Describes theories and practices that define classes of institutions and differentiate one financial institution from another - Presents short, focused treatments of risk and growth strategies by balancing theories and cases - Places Islamic banking and finance into a comprehensive, universal perspective

Part

Part A

Chapter 1

Strategies and Structures of Financial Institutions

Abstract

A financial sector comprises a set of institutions, instruments, and markets established in the context of a legal and regulatory framework. Financial institutions face challenges for gaining competitive advantage in the context of rapid changes in technological, economic, social, demographic, and regulatory environments. The deep transformation the financial sector is witnessing can be attributed to a number of factors such as technology innovation, deregulation, worldwide consolidation and restructuring, deregulation, and changing demographic profiles. Information technology is the primary force that keeps the financial industry dynamic. The post-economic crisis ­witnessed a series of policy reforms initiated by regulatory authorities. The global technology trends in the financial industry indicate the relevance of next-generation remote banking solutions, business intelligence, and analytics in transaction monitoring. Financial institutions face much complexity in the types of risks they have to manage. The trends indicate the growing significance of the emerging Asia market, consisting of China, India, and ASEAN countries for growth opportunities in the financial services industry.

Keywords

Financial institutions

Strategic trends

Technology trends

Reform policy trends

Universal banking

Digital banking

Mobile banking

Remote deposit capture

Consolidation

Emerging markets

Corporate governance

Shadow banking

1.1 Introduction

Financial institutions basically serve as financial intermediaries between primary saving and borrowing sectors. In the current environment it has become critical for financial institutions to evolve strategies for competitiveness in the context of rapid changes within technological, economic, social, demographic, and regulatory environments. The financial sector encompasses a set of institutions, instruments, and markets as well as the legal and regulatory framework. Globalization, regulatory compliance, risk management, technological innovation, and demographics are the major transformative issues that will determine the growth of the global financial sector. Consolidation and cross-border mergers and acquisitions (M&A) in the context of easing cross-border investment regulations are also visible trends observed in the global financial sector. Technology has transformed products offered by financial institutions into commodities. Technology has transformed the internal operating environment as well as the external market environment. Information technology (IT) is the primary force that keeps the financial industry dynamic.

The biggest banking markets by assets are the United States, the United Kingdom, Japan, China, and France. Of these countries, the United States has the largest number of banking institutions in the world. In 2011, there were 6291 commercial banking institutions with 83,209 branches in the United States. In the 1990s, the number of US banking institutions was approximately 12,000. In 2011, the number of savings institutions was 1067.¹

US, German, and Japanese banks are dominant both in terms of assets and number of institutions. There are 20 US banks, 16 German banks, and 11 Japanese banks among the top 100 banks.²

1.2 Banking Performance Trends

A McKinsey Global Institute report indicates that during the next 10 years, the growth rate of the global banking industry will exceed that of the gross domestic product (GDP). Experts estimate that the banking industry is likely to more than double its revenues and profits over this period. The shadow banking system around the world had grown to a $67 trillion market by 2011, according to the Financial Stability Board (FSB) Monitoring Report of 2012.

According to the FSB report, the global banks sector is forecast to have a value of $136,946.8 billion by 2015, which represents an increase of approximately 34% from 2010. Bank credit is the largest segment of global banking, accounting for 59.7% of the total sector value. Europe accounts for 53% of the global banks’ sector value. In 2010, the global banks industry group had total assets of $101,880.2 billion, representing a compounded annual growth rate (CAGR) of 7.6% during the period 2006-2010.

The United States accounts for 11.5% of the global banks sector value. By 2015, the US banks sector is forecasted to have a value of $15.617 billion dollars.³ The Asia Pacific bank sector is forecasted to have a value of $40,669 billion. Currently, China accounts for 47.9% of the Asia Pacific bank sector value,⁴ and Japan accounts for a further 31.3% of the Asia Pacific sector. In the year 2011, the biggest banks in terms of market capitalization were the Industrial and Commercial Bank of China, China Construction Bank Corporation, HSBC Holdings, and JPMorgan.

The industry growth rate of assets of the top 1000 banks was 2.7% in the post-crisis period of 2008-2010, as compared to the double-digit growth witnessed by the sector during the period 2006-2007.⁵ At the same time, the capital adequacy ratio of the banks registered a growth rate of 3.8% during the period 2007-2010. In the period between 2007 and 2008, the profit before tax of the top 1000 global banks declined by $667 billion.⁶

The highest growth was registered by Latin American banks whose assets grew at a CAGR of 28.1% during 2007-2010. During the same period, the assets of the banking sectors in Asia Pacific and North America grew at rates of 16.3% and 6.9%, respectively, while the assets of European banks declined at a rate of 3.3%.⁷

In the post-crisis period, the cost-to-income ratio showed impressive improvement in North America, Europe, and Latin America. This improvement was primarily because of the reduction of operational costs owing to the adoption of the Basel recommendations.

According to a McKinsey Quarterly report in 2011, “The state of global banking—in search of a sustainable model,” despite a strong global profit performance in 2010 and the first half of 2011, the return on equity (ROE) of banks in Europe and the United States has still not recovered, particularly in the context of gaps that arise from the new regulatory requirements. The global banking revenues reached a record $3.8 trillion in 2010 compared to $3.5 trillion in 2009. Global banking profits after tax grew to $712 billion in 2010, up from $400 billion in 2009. But 90% of the profit increase was attributable to a decline in provisions for loan losses. In 2010, US and European banking industries had an ROE of just 7% and 7.9%, respectively. Bank revenues in such developing countries as India, Brazil, and China grew by approximately 19.8%, 17.6%, and 13.7%, respectively, during 2010.⁸ In spite of the economic crisis of 2008, total banking assets are predicted to reach an estimated $163,058 billion in 2017 with a CAGR of 8% over the next five years.⁹ Table 1.1 highlights the global banking performance trends in terms of profits. Table 1.2 shows the financial position of the global banking industry in terms of loans and deposits, total assets and liabilities during the period 2009-2011.

Table 1.1

Global Banking After-Tax Profits (Billions of US Dollars)

Year	Profits
2000	366
2005	681
2006	802
2007	952
2008	852
2009	549
2010	730

Source: McKinsey Global Banking Pools.

The estimated profits realized by banks and nonbanking financial institutions from the provision of banking services to clients. Nonclient driven banking activities such as asset liability management, market making, proprietary trading (the latter two with the exception of Asia Pacific) and banks’ nonbanking activities are excluded.

Table 1.2

Global Banking Amounts Outstanding (Billions of US Dollars)

Positions	December 2009	December 2010	September 2011
Total assets	33,841.4	33,989.1	35,878.1
Loans and deposits	21,664.1	22,083.7	23,303.2
Total liabilities	32,338.9	32,801.6	34,878.7

Source: BIS Quarterly Review, March 2012.

1.3 Strategic Trends

The gap for bank revenue growth is expected to widen between growing markets in emerging markets and saturated developed markets. Banks from the emerging markets will become the growth drivers of the global banking industry. Geographically the regions of biggest potential are China, India, Brazil, and Russia. The most populous nation in the world, China has one of the largest savings rates at 40% of the GDP. Financial institutions have spent billions to acquire stakes in Chinese banks. Chinese markets are characterized by a large savings rate and a dearth of health care and pension funds.

With the imposition of more stringent capital adequacy and risk management standards, banks face strains on their trad...

Table of contents

• Cover image
• Title page
• Table of Contents
• Copyright
• Preface
• Acknowledgments
• Dedication
• Part: Part A
• Cases on Universal Banking
• Cases on Mortgage Institutions and Credit Unions
• Cases on Investment Banks
• Cases on Investment Management Companies
• Cases on Insurance Companies
• Cases on Pension Funds
• Cases on Private Equity Firms
• Cases on Hedge Funds
• Cases on Islamic Banks
• Cases on Sovereign Wealth Funds
• Index