What is Fractional Banking? Fractional Banking is a banking system that requires banks to hold only a portion of the money deposited with them as reserves. The banks use customer deposits to make new loans and award interest on the deposits made by their customers. The reserves are held as balances in the bank’s account…
What is Underwriting? In investment banking, underwriting is the process where a bank raises capital for a client (corporation, institution, or government) from investors in the form of equity or debt securities. This article aims to provide readers with a better understanding of the capital raising or underwriting process in corporate finance from an investment banker’s…
What is a Rating Agency? A rating agency is a company that assesses the financial strength of companies and government entities, especially their ability to meet principal and interest payments on their debts. The rating assigned to a given debt shows an agency’s level of confidence that the borrower will honor its debt obligations as agreed….
What is DuPont Analysis? In the 1920s, the management at DuPont Corporation developed a model called DuPont Analysis for a detailed assessment of the company’s profitability. DuPont Analysis is a tool that may help us to avoid misleading conclusions regarding a company’s profitability. The analysis of a company’s profitability involves some nuances. For example, in…
What is a Lender of Last Resort? A lender of last resort is the provider of liquidity to financial institutions that are experiencing financial difficulties. In most developing and developed countries, the lender of last resort is the country’s central bank. The responsibility of the central bank is to prevent bank runs or panics from…
What is Senior and Subordinated Debt? Senior and subordinated debt refers to their rank in a company’s capital stack. In the event of a liquidation, senior debt is paid out first, while subordinated debt is only paid out if funds remain after paying off senior debt. To compensate an investor for the risk, subordinated debt…
What is a Commercial Bank? A commercial bank is a financial intermediary that serves businesses by providing essential liquidity functions within an economy via various products and services. The institution accepts and manages deposits to earn fee income and as a low-cost source of funds. Funds can generate interest income via credit creation and offering…
What is a Credit Default Swap (CDS)? A credit default swap (CDS) is a type of credit derivative that provides the buyer with protection against default and other risks. The buyer of a CDS makes periodic payments to the seller until the credit maturity date. In the agreement, the seller commits that, if the debt…
What is the Bandwagon Effect? The bandwagon effect is the tendency of people to take certain actions or arrive at a conclusion primarily because other people are doing so. The phenomenon is observed in various fields, such as economics, politics, and psychology. Financial markets are no different. The bandwagon effect works through a self-reinforcing mechanism….
What is a Backstop? A backstop is a financial arrangement that creates a secondary source of funds in case the primary source is not enough to meet current needs. It can also be thought of as an insurance policy that covers the inadequacy of a source of funds. The backstop can take various forms in…
