An Introduction to Function related to depository banking:
Function related to depository banking is diversified. A depository bank arranges for a steward for a
depository receipt program. The steward's first task is to accept deposits of ordinary shares. Negotiable receipts are then issued to back up the shares. The final
function related to depository banking is that of accomplishment of the task of noting down all transfers and exchanges that were carried out with the holders.
Function related to depository banking: an overview
Research has shown that vast globalization and enlarged investor preference for risk against higher return and diversification has urged companies to go global and thus expand the
function related to depository banking. Companies belonging to more than 80 nations have issued
depository receipts. This makes for 2100 issuers across the world. Almost 16% of the American equity market is captured by ADRs and US stock exchanges run more than 500
depository receipt programs. JP Morgan came up with the first
depository receipt program in 1927. The global insights provided by depository banks is expected to fuel the growth of the
depository receipts market further and make on-line transactions more secure.
A depository bank provides stock transfer and agency services, credits electronic transfers to a beneficiary bank account and receives and distributes delay rentals for the sector in which it is designated. A check is first deposited in a depository bank.
It is important to understand the concept of a
depository receipt before moving on to the
function related to depository banking. A
depository receipt basically refers to a transferable security that is issued by a foreign listed company in the form of equity and is traded on a local stock market. In simple terms it allows an investor in the home country to hold securities issued by a foreign company but traded on the home country stock exchange. A
depository receipt can be traded publicly or OTC (over the counter).
ADR(American Depository Receipt) is one of the most eminent
depository receipts in US that offers American investors and companies an opportunity to make global investment.
ADRs are traded on
New York Stock Exchange(NYSE) and
American Stock Exchange.
Depository receipts are also available under the name of
GDR(Global Depository Receipts).
GDRs are bank certificates issued for shares of a foreign company.
GDRs are usually listed on European stock exchanges like London Stock Exchange.
To understand the basics of the function related to
depository banking let us first consider a hypothetical situation where a foreign company X wishes to get listed in
NYSE to raise funds from American investors. X has to first fulfill the eligibility conditions for getting listed as a
depository receipt. Then a local agent from an overseas branch of a US based depository bank purchases the domestic shares (of X) traded locally and delivers them to his bank branch. The overseas branch of the American depository bank now ensures the delivery of the shares and communicates its head office in America that the X shares can be issued and traded in USA. An
ADR now issued may represent one or more of the X shares. This however depends on the pre-determined
ADR ratio. The depository bank sets the price of the
ADR equivalent to its local price based on the ongoing exchange rate. Once sold the X shares are now represented by
ADRs eligible for being traded freely on the
NYSE. This now makes the home country X shares entitled to be bought and sold in denominations of US$ freely among American investors through
NYSE but under the designation of an
ADR. This process is known as intra-market trading. An
ADR holder enjoys the bountiful privileges like voting rights (the right that enables a shareholder to vote for the appointment of board of directors as well as for corporate decisions) and cash dividends(part of current earnings/accumulated profits of a company that is paid out to a shareholder ) akin to that of an ordinary shareholder. Trading of an
ADR is an integral
function related to depository banking but doesn't rule out pricing and cross-trading.
An American depository bank issues the shares of a foreign company in US but virtually it doesn't charge the foreign company for letting them access the US market. So a crucial part that is conspicuously missing from the whole story is the profit of the depository bank. The US based depository bank helps in the arrangement and functioning of a company's
depository receipt program. The shares of company X are first acquired through a local custodian bank in X's area and then sold to the American people via the US based depository bank. The depository bank earns its share of money out of the whole process by charging a commission in the form of a service charge(by a broker) on the trade of the stock. They may also get hold on a part of the dividend paid to the investors. Another informal way of earning money by banks is to gain from exchange rate fluctuation and speculations relating to this.
A broker keeps a constant watch to compare the price of an
ADR and that of the US dollar equivalent price at which the company X shares sells in the domestic country in which X is established. If the local share price is lower then the broker tries to gain access to the local stock and issue
ADRs. This ensures that the
ADR market reflects that of the local market of X. This automatic adjustment process is very fast but the depository bank acting first can make huge profits from a minor difference in prices.
If a
depository receipt gets canceled and fails to qualify for an
ADR due to some reason then it is returned to the local market.
Benefits provided by Depository Receipts:
Depository receipts have huge advantages both for issuers as well as for investors. Some of them can be listed as follows:
- Besides diversifying the investor base to allow foreign investors to buy the local securities, it also enhances visibility and increases liquidity which proves to be favorable for investors.
- It helps the issuing company to extend its research base to foreign countries and thus provides access to global manpower and resources. This in turn helps the company to minimize its costs and increase its competitiveness.
- The creation of stock-swap acquisition currency paves the way for ensuring better mergers and acquisitions deals.
- Last but not the least buying and holding a depository receipt is as easy as controlling a local security. This happens because price information as well as forecast for future performances are provided by world class depository banks.
Types of Depository Receipt Programs available:
One wishing to invest in
depository receipts can choose one that is listed on the stock exchange or one that is traded over the counter. A listed
ADR refers to a
depository receipt that is traded on either of the three eminent stock exchanges of US viz
NYSE,
AMEX (The American Stock Exchange) or
NASDAQ (National Association of Securities Dealers Automated Quotation System). These
ADRs are more liquid, are visible to a higher degree and are traded actively in the market.
Level II and Level III
ADRs are the listed
depository receipts available in US. Level II
ADRs satisfy investor demand and liquidity. These can be promoted and advertised and are analyzed by researchers. It brings additional benefits. US mergers and acquisitions and US employees are also benefited by Level II
ADRs. Level III
ADRs are different from Level II
ADRs in the sense that they mainly involve IPO of new shares in US. A close coverage by media and immense interest in investors grants them strong promotion and enough visibility. The company issuing a Level III
ADR requires to file Form F-1 and may substitute Form 20-F by Form 8-A but must complete the procedures for Form 20-F. In addition the company must also fulfill the terms and conditions pertaining to the Securities Act of 1934
Level I and Rule 144A
depository receipts are the
ADRs that are not listed in any of the well-known stock exchange of US. American retail investors can readily buy and sell Level I
ADRs in OTC market via NASDAQ's Pink Sheets. A foreign company can use Level I ADRs to raises funds from US. A company going for Level I
ADRs need not report under Rule 12g3-2(b) compliance but must fulfill provisions related to Form F-6 by registering with the US Securities and Exchange Commission. At the end of every trading day Pink Sheets LLC updates bid and ask prices. Also the investors are supplied with real-time and intra-quotes. Rule 144A IDR leads to the creation and private placement of new restricted shares. It also arranges for resale of securities (that were privately placed) to QIBs(qualified institutional buyers).
There is another type of
depository receipt non as NVDR(Non-Voting
Depository Receipt). It is issued by the Thai NVDR Company, a wholly owned subsidiary of the Stock Exchange of Thailand. A holder of NVDR doesn't possess voting rights.
ADR Index Calculation by Bank of New York:
ADR index calculation is one of the most important
function related to depository banking. This is computed on a continuous basis from the variation of prices of
ADRs listed on
NYSE,
AMEX and
NASDAQ. The indices prepared use the Dow Jones' methodology for adjustment of free flows and use capitalization as weights. The formula for calculation is an aggregate of price times share quantities. While calculating the index, all the
depository receipts included in the US stock exchanges are taken into consideration. Most of these
depository receipts are subject to SEC registration. The final result is obtained by multiplying the
ADR conversation ratio adjusted outcome with the last sale price. The Bank of New York
ADR index serves as a valuable guide to investors and as a report card for
ADR issuers. It also helps to generate awareness about the growing prospects of
ADR as a income generating instrument.
Bank of New York HOLDRS :
Another essential
function relating to depository banking is to act as the the depository for the HOLDRS. HOLDRS refers to trust-issued receipts i.e deposited shares of stocks that provides ownership of shares issued by a group of companies pertaining to a particular industry. HOLDRS are immensely beneficial for industries as the investors can now diversify their portfolio and that too with a single instrument although an investor still has the option to unbundle them and hold each underlying stock.. The expenses that have to be incurred in trading holders are lower as one needn't pay any management fee and the single major expenditure is associated with the transaction costs involved. The investor owning a HOLDR has the benefit of great liquidity as HOLDRS are priced throughout the trading days. The tax liability is also lower as one can take losses in stocks and has the option to defer gains indefinitely for well performing shares.
Bank of New York BLDRS :
An ETF(Exchange Traded Fund) for which the Sponsor is
NASDAQ Global Funds Inc. and the Trustee is The Bank Of New York is called BLDRS. BLDRS constitute two market funds namely Emerging Markets 50 and Developed Market 100. It is also based on two regional index funds, Euro 100 and Asia 50. One owning a BLDR has transparency, liquidity, diversification and the valuable insights from experts of Bank of New York.
Purchasing an ADR from the Bank of New York:
Global Buy Direct program of Bank of New York is a dividend reinvestment and direct purchase program. It helps investors to buy
depository receipts of specified non-US companies. The investor can buy
depository receipts with the dividends paid by the company. A new or existing investor can also purchase
depository receipts of companies participating in the plan. Bank of New York acts as a transfer agent in such investments. Investors have the advantage of getting the direct ownership of
depository receipts under the Global Buy Direct Program. In addition valuable advices from a reputable organization and direct communication with the issuer of the
ADR helps in making rational decisions. The investors taking the Global Buy Direct Plan can expect more rewards such as low transaction cost, options to buy full and fractional shares, book entry form of
ADR, issuance of stock certificates, opportunity of monthly payment from bank account for an
ADR, an alternative of dividend reinvestment, reports and account statements from The Bank of New York periodically and many more. Registered shareholders also have the option to sell shares and keep a continuous touch with their accounts through internet or over the phone by having a conservation with a Bank of New York representative.
Depository banks preference for Companies:
Till recently
Petrobras(the oil giant) and
Companhia Vale do Rio Doce (the mining and forestry conglomerate) of
Brazil were the two most heavily traded
ADRs. America Movil (telecommunication) and
Cemex (cement industry) of
Mexico also acquired high positions among
ADRs. Many American depository banks are nowadays looking at the
Latin American market. The reason for its growing favoritism is its growing middle class, its huge reservoir of natural resources snd nonetheless its historical relationships with USA. Reforms have started bearing fruits in Latin America and has deepened its investment base. In addition higher rewards against lower risk and a greater liquidity has compelled the US banks to give a second thought to tapping the Latin American securities.
A capital of $42.6 billion was raised using
ADRs in 2006. The top institutional investor was
Fidelity Management & Research. Its value of
ADR investments was $46,489.74 million and total equity portfolio was $592,461.12 million. 7.84% of the total equity portfolio of Fidelity Management & Research was
ADR.