Treasury manages funds flow, investment, and risk for a bank.

Evolution: Integrated treasury combines securities, forex, and money markets for better efficiency.
Functions:
- Maintain liquidity to meet day-to-day requirements.
- Deploy surplus funds.
- Bridge cash flow gaps.
- Comply with CRR (Cash Reserve Ratio) and SLR (Statutory Liquidity Ratio).
  - Cash Reserve Ratio (CRR) is the percentage of a Bank’s total deposits that it must keep with the RBI in cash.
    - Banks cannot use this money for lending or investments.
    - It helps the RBI control the money supply and inflation in the economy.
    - CRR Amount=CRR Percentage×NDTL (net demand and time liabilities)
  - Statutory Liquidity Ratio (SLR) is the percentage of a Bank’s total deposits that it must keep in the form of:
    - 1. Cash
    - 2. Gold
    - 3. Government-approved securities (like bonds).
    - Banks must maintain this reserve within the Bank itself, not with the RBI.
    - It helps ensure banks are financially stable and have enough funds for emergencies.

Treasury as a Profit Center

Expanded Scope:
- Trading in forex, securities, and derivatives.
- Merchant banking services.
  - Merchant banking refers to specialized financial services provided to businesses, primarily catering to their financial and investment needs.
  - Key Services:
    - Corporate Advisory:
      - Assisting companies with mergers, acquisitions, and restructuring.
      - Advising on business strategies and financial planning.
    - Capital Raising:
      - Managing public issues (IPOs and FPOs).
      - Assisting in raising funds through equity or debt instruments.
    - Underwriting:
      - Guaranteeing the subscription of shares or debentures in case of under-subscription during public offerings.
    - Portfolio Management:
      - Managing investments for institutional and high-net-worth clients.
    - Loan Syndication:
      - Arranging large loans by collaborating with other banks or financial institutions.
    - Project Finance:
      - Assisting in raising funds for large infrastructure or industrial projects.
    - Risk Management:
      - Providing advice on risk mitigation strategies and hedging financial risks.
    - Private Placement:
      - Facilitating the sale of securities to a select group of investors rather than the public.
    - International Financial Services:
      - Assisting companies with cross-border transactions, foreign investments, and global mergers.
    - Corporate Restructuring:
      - Helping companies reorganize their structure to improve efficiency and profitability.
Profit Sources:
- Conventional: Forex trading, money market deals, SLR investments.
- Contemporary: Arbitrage opportunities, structured financial products like swaps and forward contracts.
  - Arbitrage is when you take advantage of price differences for the same thing in different places or markets to make a profit.
    - Example 1: Buying Low, Selling High: If something costs less in one place (like a store) and more in another, you buy it cheaply and sell it where the price is higher to make a profit.
    - Example 2: Currency Arbitrage: If the exchange rate for 1 USD is lower in one country and higher in another, you buy the cheaper currency and sell it in the country where the rate is higher to make money.
  - Forward Contract: A private agreement between two parties to buy or sell an asset at a fixed price on a future date.
    - Used to manage risk from price or currency fluctuations.
    - Example: Suppose you agree today to buy $1,000 worth of goods in 3 months at ₹80 per dollar rate, regardless of what the actual rate is then.
  - Swap: An agreement between two parties to exchange cash flows or financial instruments over a certain period.
    - Often used to manage interest rate or currency risks.
    - A company with a loan at a variable interest rate can “swap” it with another company’s fixed interest rate.
    - In a currency swap, one party exchanges payments in one currency for payments in another.
  - Forward Contract: Focuses on a single future transaction. Swap: Involves multiple exchanges over time.

Integrated Bank Treasury

Combines operations in:
- Money Market: Short-term lending/borrowing (e.g., call money, Treasury Bills).
  - Call money is a short-term borrowing/lending arrangement where banks borrow money from or lend money to each other, usually for very short periods (up to one day).
    - A bank that has excess cash lends it overnight to another bank that needs money to meet its liquidity requirements.
    - The borrowing bank pays interest to the lender, usually at the prevailing call money rate.
    - Regulated by the Reserve Bank of India (RBI).
- Securities Market: Investment in government and corporate bonds.
- Forex Market: Currency trading and hedging.
Key Features:
- Real-time fund transfers using systems like RTGS.
- Direct customer dealings for hedging, loans, and overseas investments.

Globalization and Bank Treasury

Impact:
- Interest rates align with global trends.
- Development of market structures (e.g., Clearing Corporation of India).
- Expansion of products: Credit default swaps, rupee derivatives.
Global Interactions:
- External Commercial Borrowings (ECBs), Foreign Institutional Investments (FIIs), and ADR/GDR issuances.

Bank Treasury Organization

Front Office:
- Executes trading activities (forex, securities, money market).
Back Office:
- Verifies and settles deals, manages accounts like Nostro and SLR (Statutory Liquidity Ratio).
  - Nostro Account
    - A Nostro account is a bank’s account held in a foreign country and in that country’s currency.
    - Example: If an Indian bank holds an account in a USA bank in US dollars, it’s a Nostro account for the Indian bank.
    - Purpose: Used for foreign exchange and international trade.
Middle Office:
- Oversees risk management and exposure limits.

Treasury Products

Forex Market:
- Spot Trades: Settled within T+2 days.
- Forward Contracts: Future settlement with fixed rates.
- Currency Swaps: Exchange equivalent money in different currencies.
Money Market:
- Includes Call Money, Treasury Bills, and Standing Deposit Facility (SDF).
  - Call Money is a short-term loan that banks lend to each other for one day to manage their immediate cash needs.
    1. The loan must be repaid the next day (on “call”).
    2. It is part of the money market.
    3. The interest rate charged on such loans is called the Call Money Rate.
  - Standing Deposit Facility (SDF) is a tool introduced by the RBI to absorb excess liquidity (extra money) from the banking system without requiring collateral (like government securities).
    1. Banks can park surplus funds with the RBI under SDF.
    2. Unlike the reverse repo, no collateral is needed.
    3. It helps the RBI control inflation by reducing excess money in the economy.
  - Treasury Bills (T-Bills) are short-term government securities issued by the RBI on behalf of the Government of India to raise funds.
    1. Short-term: Maturity periods are 91 days, 182 days, or 364 days.
    2. Zero-Coupon Bonds: They are issued at a discount and repaid at face value.
      - Example: You buy a T-Bill for ₹95, and the government repays ₹100 at maturity. The ₹5 is your interest.
    3. Safe Investment: Backed by the government, so they are risk-free.
    4. Highly Liquid: Can be easily bought and sold in the market.
Securities Market:
- Government Securities: For SLR purposes, issued by RBI. Statutory Liquidity Ratio (SLR) is the percentage of a bank’s Net Demand and Time Liabilities (NDTL) that must be maintained in the form of liquid assets, such as cash, gold, or approved securities, before providing credit.
- Corporate Bonds: Higher yield but riskier than government securities.

Risk Management in Treasury

Types of Risks:
- Market Risk: Changes in interest or currency rates.
- Liquidity Risk: Inability to meet obligations.
- Operational Risk: Failures in systems or processes.
Tools:
- Hedging via forwards, swaps, and options.
  - Hedging is a risk management strategy to protect against financial losses caused by price, interest rate, or currency fluctuations.
  - A forward contract is a customized agreement to buy or sell an asset at a fixed price on a specific future date.
  - A swap is a contract where two parties exchange cash flows or liabilities to hedge risks.
  - Options is a financial contract that gives the right (but not obligation) to buy (call) or sell (put) an asset at a pre-set price before a specific date
- Monitoring exposure and stop-loss limits.
  - Monitoring Exposure: Tracking and managing the level of financial risk a business or individual is exposed to due to market fluctuations (currency, interest rates, or prices).
  - Stop-Loss Limits: A predetermined level at which an open position is automatically closed to prevent further losses.

MCQ

What is the primary role of a bank’s treasury?
A. Conduct customer transactions
B. Manage funds flow and risk
C. Provide loans to customers
D. Invest in real estate

Answer: B. Manage funds flow and risk

What does an integrated treasury combine?
A. Securities, forex, and money market operations
B. Branch operations and customer services
C. Retail banking and loan services
D. Investment banking and housing loans

Answer: A. Securities, forex, and money market operations

What is the statutory purpose of CRR?
A. To ensure bank profitability
B. To ensure liquidity and solvency
C. To enhance customer deposits
D. To promote long-term lending

Answer: B. To ensure liquidity and solvency

Which of the following is a conventional source of treasury profit?
A. Arbitrage operations
B. Money market deals
C. Credit default swaps
D. Structured loans

Answer: B. Money market deals

How does treasury benefit from arbitrage?
A. By offering fixed deposit schemes
B. By exploiting interest rate differentials between markets
C. By investing in customer loans
D. By avoiding forex transactions

Answer: B. By exploiting interest rate differentials between markets

What type of activity characterizes the contemporary treasury?
A. Selling long-term deposits
B. Hedging using derivatives
C. Issuing government bonds
D. Buying real estate assets

Answer: B. Hedging using derivatives

What does RTGS enable in an integrated treasury?
A. Long-term investments
B. Real-time fund transfers
C. Foreign trade facilitation
D. Customer risk assessment

Answer: B. Real-time fund transfers

Which product is NOT part of the forex market?
A. Spot trades
B. Forward contracts
C. Treasury Bills
D. Currency swaps

Answer: C. Treasury Bills

What is the role of FIIs in treasury operations?
A. Offering credit to small businesses
B. Investing foreign currency funds in the Indian market
C. Conducting customer financial transactions
D. Settling interbank liabilities

Answer: B. Investing foreign currency funds in the Indian market

What is a forward contract in forex trading?
A. A trade settled within T+2 days
B. A loan provided for international trade
C. A pre-agreed rate trade settled in the future
D. A currency swap between banks

Answer: C. A pre-agreed rate trade settled in the future

What is the primary purpose of government securities for banks?
A. To earn arbitrage profits
B. To meet SLR requirements
C. To fund international transactions
D. To hedge against forex risk

Answer: B. To meet SLR requirements

Which of these is NOT a money market product?
A. Treasury Bills
B. Call Money
C. Standing Deposit Facility (SDF)
D. Corporate Bonds

Answer: D. Corporate Bonds

What is the major risk associated with forex trading in treasury?
A. Credit risk
B. Liquidity risk
C. Market risk
D. Operational risk

Answer: C. Market risk

Which tool helps manage interest rate risk in treasury?
A. Fixed deposits
B. Forward contracts
C. Credit disbursement
D. Nostro accounts

Answer: B. Forward contracts

What is a Nostro account used for?
A. To provide loans to customers
B. To invest in domestic government securities
C. To settle international transactions
D. To hedge against market risks

Answer: C. To settle international transactions

Capital, Money Markets

ALM