Gaining Insight into the International Financial Markets with The Reuters Guide

also discusses the roles within those markets and profiles five customer groups: Foreign Exchange traders, Fixed Income traders, Salespeople, Analysts, and Fund Managers. The guide further contains a detailed analysis of each role, including characteristics such as demographics and career path, information about working relationships both within and external to the institution where they work, and common tasks. The University Relations Department at Reuters Ltd in London welcomes any comments on how to improve the guide.

Sources of information for Reuters Guide to the International Financial Markets include: See Bibliography on + introductory finance books + internal Reuters documents + interviews with financial markets practitioners + interviews with Reuters customer trainers and marketing staff.

The Roles in the International Financial Markets

Traders

Traders participate in purchasing and selling activities within the financial markets, either at physical exchanges (such as commodities or futures) or over-the-counter (such as foreign exchange). Traders usually specialize in a particular type of financial instrument and have diverse roles and criteria.

Common types of traders are outlined below. Money traders act on behalf of their employer to purchase and sell currencies as well as short-term debt. They do so with the purpose of supporting the employer's business activities, such as lending or trade, or for personal gain. The financial instruments involved typically have a maturity period ranging from one month to one year. These instruments can take the form of cash (e.g., deposits, treasury bills, Certificates of Deposits) or derivatives like Interest Rate Futures, FRAs, and swaps.

Money traders and foreign exchange traders both work in banks and corporate treasury departments. While money traders trade in the cash market over the counter using telephones and dealing terminals, foreign

exchange traders generally trade currencies on a shorter term basis, also over the counter using telephones and dealing terminals. Both types of traders require foreign exchange rates, bank deposit rates, and news information. For more information on foreign exchange traders, please see page 33.

Bonds

Bond trading involves buying and selling government, quasi-government, and corporate bonds for customers and for their own account. This activity takes place in investment banks and securities houses. The majority of bond trading occurs over the counter. Traders in this field require bond data including issuers, prices, and yields, as well as knowledge of interest rates, foreign exchange rates, graphical analysis, and news.

Equities

Equities traders engage in the buying and selling of stocks and shares for customers and for their own account.

Traders in the financial industry work for investment and securities houses and are members of exchanges like the London Stock Exchange. Some traders specialize as market makers, meaning they have to provide buy and sell prices for certain instruments at all times during market hours. While most equity trading occurs on exchanges, there are also large over-the-counter equity markets like NASDAQ in the US. Equities traders need information on equity prices, related instruments such as convertibles and warrants, interest rates, graphical analysis, and news.

Commodities traders deal with buying and selling commodities such as metals, softs (agricultural products), and grains for both customers and their own account. They typically belong to commodity exchanges like the Chicago Board of Trade where trading takes place.

Commodities traders, both working in independent companies and larger financial institutions, rely on market future and spot prices, graphical analysis, and

news.

Energy traders, on the other hand, engage in buying and selling energy contracts such as oil and gas. They conduct these trades for both customers and their own accounts. These traders are typically members of exchanges where the trading occurs, like the International Petroleum Exchange in London. Energy traders can be found in both independent companies and a limited number of financial institutions.

They need information about market future and spot prices, foreign exchange rates, graphical analysis and news.

Derivatives

Trading derivatives is a new activity. Traders buy and sell derivative instruments like swaps, futures, and options for customers and themselves. They work in money, bond, equity, and commodity markets. Derivatives traders require different information including data about the underlying instruments of the derivatives they trade. They need access to exchange and over-the-counter (OTC) prices in real-time or historical format along with relevant news.

Brokers: Brokers are intermediaries who earn commission on arranged deals between traders and customers. They operate in foreign exchange, bond, and equity markets but do not manage positions or own assets in the markets they trade.

They work for independent brokerage companies. Brokers require the same type of information as traders: a money broker would require foreign exchange rates, bank deposit rates, bond data, graphical analysis, and news. However, brokers need to obtain this data from a large number of players in the market, so that their prices reflect the market as closely as possible. Brokers also need to create interest in instruments to persuade their customers to do business. They need to publicize their prices and be able to respond quickly to calls asking their opinion on particular

markets and instruments.

Sales See Salespeople in the Financial Markets on page 65. Sales staff transact buy and sell orders for customers, often institutional investors, and also act as an intermediary between customers and traders. They work for investment banks, integrated securities houses, and stock, commodity, and energy brokerage houses, and include those working on the corporate desk. The sales function exists in all markets. In equity, commodity, and energy markets, sales staff may also be known as brokers.

However, sales staff differ from traditional brokerage in that they may hold positions in the market. Sales staff may use the same information as brokers, depending on the instruments they specialise in. This includes foreign exchange rates, bond and equity data, other market prices, graphical analysis and news. They use any information they can to build relationships with customers, including leisure topics such as sport.

See Fund Managers on page 89 The primary interest of some institutions is to invest in, that is, buy and hold, instruments. These institutions are said to work on the buy side.

Fund managers, portfolio managers, and corporate treasury staff invest funds in various financial markets to generate returns for investors. These professionals can be found working for pension fund and insurance companies, as well as major investment institutions with fund management divisions. In addition, corporate treasury departments are commonly present in large corporations to oversee their capital requirements, whether they have a surplus or deficit. Those involved in buying assets utilize interest rate, foreign exchange, bond, and equity data spanning across a wider range of markets compared to traders.

Corporate treasurers and fund managers require forward and deposit rates as well as portfolio management facilities

with data-feed inputs for valuing their portfolios.
Decision Support: Decision support refers to the function that provides research information, analysis, and interpretation. It involves economists, analysts, and researchers who forecast economic performance and market movements to guide traders and sales staff.

They can also charge a fee to publish their forecasts to a wider market audience. Analysts play a vital role in the services offered by the sell side to the buy side. Decision management is present in all markets and financial institutions. Those involved in decision management need price information, access to large amounts of historical data, tools for spreadsheet and graphical analysis, and information on upcoming financial events and announcements.

General Management

The term "general management" refers to the following groups: + individuals from the dealing room manager position and above who are actively involved in day-to-day trading operations + individuals in corporate finance and mergers and acquisitions within financial institutions + managers in various roles in non-financial companies who rely on limited financial information and news.

Managers may need both historical and current information about companies in their sector or areas of interest. They also need basic foreign exchange information for the countries where they do business.

Trader Support

This support for traders can be divided into two distinct roles: position keeping, which involves assisting traders in the dealing room, and order entry, which is a book-keeping role in the Back Office of a financial institution. Individuals working in trader support roles need an overall perspective of the financial marketplace, such as foreign exchange rates, interest rates, and inter-bank offered rates for relevant currencies.

The Back Office

The Back Office

is responsible for performing administrative tasks related to dealing in all financial institutions. It handles transaction administration (clearing and settlement), credit control (limit setting), and statutory and management accounting. The Back Office mainly requires internal information, such as company financial data for credit control.

Retail Sector

In the retail banking industry, the term "Retail Sector" refers to those working in it. These banks offer exchange transactions and derivatives trading.

Introduction to Financial Markets

A Financial Market is an environment where different types of financial entities, such as equities, currencies, money, bonds, commodities, and energy, are bought and sold according to a set of rules.

Along with futures, options, and swaps, various derivatives of these base entities are also exchanged in trading. The presence of sufficient buyers and sellers affects the liquidity of a market for a particular entity. When there is an increased number of buyers and sellers, a market is regarded as more liquid. In the past, markets were physical venues such as trading floors. However, they have now predominantly transitioned to electronic platforms where traders utilize computer terminals to communicate their buying and selling requirements among themselves and execute trades.

Financial securities, traded in financial markets, encompass diverse types including foreign exchange and money. These contracts facilitate agreements between buyers and sellers, outlining future cash flows such as quantity, schedule, tenure, and cost of the security. The roles of buyers and sellers are generally uncomplicated; however, certain securities like swaps adhere to distinct conventions. A prime example is a fixed-for-floating interest rate swap where the party paying the fixed rate assumes the buyer role. Financial markets can be classified

into exchanges or over-the-counter (OTC). Exchanges deal with standardized products and handle functions like administration, clearing, settlement, regulation, and price dissemination.The Financial Markets consist of participants who engage in the purchase and sale of various financial products. These products can be tailored to meet specific needs, such as a client's request for a broken date FRA in the Over-the-counter market. The participants are divided into different roles, including buyers, sellers, regulators, clearers, information providers, and intermediaries. Among these intermediaries, brokers have a significant role in connecting buyers and sellers for a commission.

Types of Instruments: Financial instruments have various classifications – they can be equity, debt or commodity-related; traded over the counter or on exchanges; cash-based or derivative-based; domestic or global; electronic or physical.

Equity: Equity securities represent ownership in a company and grant entitlement to share in its profits.

Debt: Debt involves lending money at an agreed interest rate.

The lender, who provides the money, receives both interest and principal from the borrower for taking on the risk. There are different types of debt instruments such as money market deposits, company bonds, government bonds, and mortgages.

Commodity The commodities market involves trading products like metals, grains, and softs. While some commodities are traded immediately (spot), most trading occurs in the futures market. The Chicago Board of Trade (CBOT) is the largest futures market.

Over The Counter or Exchange Traded Instruments that are directly traded between parties are known as over the counter (OTC) traded instruments, while those traded on an exchange are called exchange traded. Exchange trading involves electronically or physically matching buyers and sellers.

An OTC instrument is customized for the buyer or seller and can be traded in

different denominations, amounts, and maturities. In contrast, Exchange traded instruments are typically standardized, although exchanges are moving towards trading OTC-like products to compete with OTC markets.

Cash or Derivative

Derivatives can be defined as instruments that are derived from existing instruments in the cash market. The underlying cash instrument is the source of the derivative.

Derivative and cash markets typically have separate participants, but security houses are increasingly merging their cash and derivative operations. A derivative can be based on more than one underlying instrument, such as an equity convertib le bond. In theory, it is possible to have a derivative of a derivative, such as a compound option, but these instruments are not actively traded. The value of a derivative is influenced by the price and other market characteristics, such as volatility or correlation, of the underlying instruments.

Domestic or Global The expansion of global financial markets has led to the international trading of numerous instruments. This has made geographical boundaries between markets less relevant as trading books are often passed from one time zone to another when markets close and open. The foreign exchange cash market is the biggest example of a truly global market, operating 24 hours a day. There are also instruments that are issued in one currency but traded in another, such as Japanese warrants issued in Yen but traded in Swiss Francs or US dollars.

Electronic or Physical Financial markets have traditionally involved physical trading, with buyers and sellers meeting face to face or conducting transactions over the telephone.

Increasingly, technology is creating electronic 'places' where instruments can be traded over computer networks. The first major market was in Foreign Exchange with Reuters Dealing 2000-1,

which had an OTC nature that made it suitable for screen-based trading. Today, electronic trading is possible in various markets including equities, bonds, commodities, and Foreign Exchange. Even traditional exchanges are now introducing electronic systems.

Types of Markets

Markets use instruments to exchange assets.

The following text provides a brief introduction to the main markets in the financial sector: Foreign Exchange, Fixed Income, Equities and Equity Linked, and Commodities. These markets trade various instruments, as defined in the Types of Instrument section.

The Foreign Exchange (FX) Market

The FX market is an international market where currencies are exchanged for spot or forward delivery. The prices of currencies are often quoted against the US dollar, but can also be quoted as cross rates.

Fixed Income Market

The FI market trades bonds of different types.

A bond is an agreement where one organization owes a debt to the bond holder. In the fixed income market, various types of bonds are available, such as corporate, euro, government, and asset-backed bonds, including mortgage bonds. Typically, government bonds are the most significant in the market as the government is usually the primary issuer of bonds in a country. Moreover, government bonds in developed nations are considered to be free of risk.

The maturity of fixed income instruments in the fixed income market tends to be longer, distinguishing it from the money market. In general, any debt instrument that matures in more than 1 year is considered a fixed income instrument or bond. However, this strict boundary is not always followed. For example, a 12X18 FRA has a maturity of over 1 year

but is still considered a money market instrument.

The Equities Market

What is traded on the equities market? When a business becomes an incorporated company, it issues a certain number of shares that represent partial ownership of the company. If a company wants to raise capital by selling shares to the public, it often chooses to list its shares on an exchange.

In order for a company to be listed on an exchange, it must follow the regulations set by that exchange, which typically include reporting their financials. The exchange allows institutions and the public to purchase newly issued shares as well as trade previously issued shares. This trading occurs in the equities market, and traders in this market must be members of a stock exchange, like the London Stock Exchange, and abide by its rules. The shares issued by companies remain valid for the duration of the company.

Commodities Market - The Commodities Market involves the trading of physical commodities such as metals, grains, and precious metals. These trading activities typically occur within a commodity exchange like the LME. While futures trading is a common practice in this market, where commodities are agreed upon for delivery at a future date, cash settlement is also prevalent. Cash settlement means that there is no physical delivery of the commodities. The term financial institution is used to describe an organization that has involvement in the financial markets.

Care should be taken when using the term "institution" as it can sometimes be used specifically for the "buy-side" of the market, while "securities house" typically refers to the "sell side". Discussing institutions is valuable as their business objectives and

the financial instruments they trade greatly influence the roles of their employees. There are both international and domestic institutions in the financial market, with international institutions specializing in international loans, import/export finance, and foreign exchange transactions.

Domestic institutions, such as banks, building societies, broking firms, corporations, local authorities, fund management and insurance companies, deal with banking and monetary issues in their respective countries (although some domestic institutions are becoming increasingly global). These institutions use investors, depositors or their own funds to invest in financial assets like equities or bonds in order to generate profit. In most countries, including the United Kingdom, regulations govern the operation of banks. To operate as a bank, a company must obtain a government-issued license and comply with the regulations specific to banks in that country. In the United Kingdom, for example, an institution must be authorized by The Bank of England to operate as a bank.

The institution must meet the Bank of England's requirements regarding capital adequacy, liquidity adequacy, realistic business plan, systems and controls, provision for bad or doubtful debts, prudent business conduct, and "fit and proper" directors, managers, and controllers. Banks are granted exclusive privileges such as accepting deposits and clearing cheques. The government usually guarantees bank deposits, making banks critical in the financial market due to their substantial financial asset base. The majority of a bank's assets consist of loans or other instruments that generate returns, ensuring cash flow. Additionally, banks hold deposits as liabilities and aim to maximize the difference between payments to depositors and funds obtained from creditors or financial assets held.

Although there are different types of banks, they can all be classified as

financial institutions. The different types of banks include commercial banks, investment banks, universal banks, and central banks. Commercial banks, also known as retail, clearing, or commercial banks, primarily focus on taking deposits and lending money to individuals and small and medium-sized businesses. These banks strive to maximize their profits by obtaining the largest possible difference between the rates at which they acquire money and lend money. They actively participate in financial markets to manage cash flow and optimize the return on their financial assets. On the other hand, an investment bank, sometimes referred to as a merchant bank in the UK, assists large businesses in raising capital by underwriting shares or bonds.

Fees charged for this service provide income for the investment bank. Additionally, investment banks engage in proprietary trading by using the company's assets, which is referred to as proprietary trading. It is crucial for investment banks to manage the risks associated with underwriting and proprietary trading activities. A universal bank, on the other hand, is a financial institution that accepts deposits, underwrites securities, and provides fund management services.

Regulations concerning the operation of universal banks vary across different countries. For instance, in the United States, the Glass-Steagall Act of 1933 prohibits banks that underwrite securities from accepting deposits. This law aims to safeguard depositors' funds from the potentially risky nature of underwriting securities. On the other hand, certain European banks, particularly those in Switzerland and Germany, do not face the same limitations and are permitted to both accept deposits and underwrite securities. These banks are referred to as Universal Banks since they engage in all aspects of banking activities. In the United States and the

United Kingdom, there has been a trend of increasing deregulation, resulting in banks from these countries either widening their operational scope or merging with banks that operate in different domains.

Central Banks Governments are involved in financial markets for two main purposes. Firstly, they aim to implement their monetary policy. Secondly, they seek to raise funds to finance the government's activities. To achieve these goals, most governments choose to participate in the financial markets through a central bank. These banks have multiple functions including issuing bank notes, supervising banks, managing exchange reserves, and issuing Government debt. The names of central banks differ across countries, examples being The United State Federal Reserve System, Deutsche Bundesbank, and The Bank of England.

The Bank of England is responsible for maintaining the stability of the financial system, both domestically and internationally, as well as ensuring the effectiveness of the UK's financial services sector according to the 1995 Report and Accounts. When central banks engage in financial markets, they often intervene in the currency market or implement monetary policy by setting interest rates. The central banks of major economic powers have significant influence on global interest rates.

Building Societies, also known as Savings and Loans in the United States, are organizations that aggregate depositors' funds for lending to other members for real estate purchases. While they have smaller asset bases compared to commercial banks, they function similarly by accepting deposits and providing loans. Traditionally, their lending activities have been limited to real estate mortgages. However, there has been a recent trend of building societies merging and obtaining licenses to operate as banks.

Broking Firms provide an intermediary service between buyers and sellers in the

financial market. They charge the buyer and the seller a commission on any deal they broke, and the more deals they broke, the greater the profit they make. Brokers are agents working within a broking firm who do not hold a position in the market. They simply provide a matching service between buyers and sellers.

Corporations may have large and variable cash flows due to the nature of their business. They may need to buy or sell goods and services overseas or raise capital for large projects. This is where Corporate Treasury comes in.

The corporate treasury department typically manages the cash flow, assets, and liabilities of a company. Local Authorities, which are part of the government structure, often participate in financial markets independently of central banks. They have significant cash flows and may require short-term funding or have temporary surpluses. Fund Management includes pension funds, insurance funds, and collective investments like mutual funds and unit trusts. Fund managers choose which instruments to hold positions in to optimize returns and minimize risks, managing these investments on a medium to long-term basis.

In addition to return objectives, fund managers must adhere to trustee requirements. Insurance and pension fund managers must also organize their portfolios to fulfill different fund claims, like insurance or pension claims. This process is known as "portfolio dedication." Fund managers can utilize various analytical techniques, such as switching, to safeguard their investment returns.

When the fund underperforms, the fund manager utilizes market information and their skills to restructure the portfolio. This involves selling some assets and replacing them with more promising ones. The level of turnover in a fund is usually limited by regulations or tax considerations.

Another technique called immunisation is used in fixed income portfolios. In this approach, the fund manager sets the duration of the portfolio to match the longest period they can predict events.

Attributes of Institutions

Recognizing the differences between institutions is crucial as their objectives greatly influence their goals and strategies for achieving them. Although financial institutions like Building Societies and Banks can vary significantly, they share common attributes.

In order to generate profits, institutions earn revenues through various means:

• Market makers generate profit by the difference between their bid and ask prices on any instrument.
• Traders make a profit by skillfully determining the timing and price of buying and selling.
• Brokers earn revenue by charging commission for completing trades on behalf of their clients - known as "fills".
• Fund managers earn fees, typically based on the performance of returns or risks.
• Investment banks earn fees for underwriting new issues.

Business Objectives: All organizations or institutions strive to develop and meet business objectives that direct the activities of the organization towards specific goals. Some commonly pursued objectives include: