UNIT- 4

Non-Banking Financial Companies (NBFCs) & Forex Market

Meaning:
Non-Banking Financial Corporation (NBFC) is a company that is registered under the
Companies Act, 1956 and is involved in the lending business, hire-purchase, leasing,
insurance business, receiving deposits in some cases, chit funds, stocks, and shares
acquisition, etc.
Some of the examples of Non-Banking Financial Company in India that offer investment
options, loans, fund transfer services, leasing, and hire-purchase options are Bajaj Finserv,
Power Finance Corporation Limited, Mahindra & Mahindra Financial Service, Shriram
Transport Finance Company, Muthoot Finance Ltd, etc.

Role of NBFCs:
1. Providing Credit: NBFCs credit various population segments, including individuals, small
and medium enterprises (SMEs), and large corporations. NBFCs are generally more flexible
than banks in terms of lending criteria, and they can provide credit to those who may not
meet the stringent requirements of traditional banks.
2. Mobilizing Savings: NBFCs mobilize savings from different sources, such as retail
investors, High Net Worth Individuals (HNIs), and institutional investors, and they use these
savings to finance various activities.
3. Providing Investment Services: NBFCs provide investment services such as portfolio
management, investment advisory, and distribution of financial products.
4. Providing Payment Services: NBFCs also provide payment services such as issuing credit
cards, electronic fund transfers, and mobile banking.
5. Supporting Infrastructure Development: NBFCs also play a key role in supporting
infrastructure development by providing long-term finance to infrastructure projects.
IMPORTANCE OF NBFCs

1. Flexible Eligibility Criteria:

One of the most significant advantages of opting for an NBFC business loan is its flexible
eligibility criteria. Traditional banks often have stringent requirements, demanding a high
credit score, several years of business vintage, and substantial annual turnovers. NBFCs, on
the other hand, follow a more relaxed approach, making it easier for businesses with lower
credit scores or limited business experience to qualify for a loan.

2. Quick Disbursal of Funds:

Time is of the essence in the business world, and NBFCs understand this well. Unlike
traditional banks, which involve a lengthy verification process and extensive paperwork,
NBFCs have streamlined procedures, ensuring quick disbursal of funds. It allows business
owners to access much-needed capital promptly, enabling them to seize growth opportunities
without delay.
3. Competitive Interest Rates:
Interest rates play a crucial role in determining the cost of borrowing. NBFCs often offer
business loans at more competitive interest rates compared to traditional banks. It is because
 they are not bound by the Reserve Bank of India's (RBI) Prime Lending Rate (PLR), granting
them greater flexibility to set rates that attract a broader customer base. Moreover, the
processing fees and other charges levied by NBFCs are generally lower, easing the financial
burden on borrowers.
4. Digital Loan Processing:
Embracing the advancements of the digital era, many NBFCs have adopted paperless loan
processing. Through their fintech platforms, business owners can apply for loans online
without visiting physical branches or submitting extensive paperwork. This user-friendly
approach saves time and effort, allowing entrepreneurs to focus on their businesses rather
than getting bogged down in administrative tasks.

5. Pre-Approved Loan Limits:

Several NBFCs offer business loans with pre-approved limits. This unique feature enables
business owners to withdraw funds as needed, with interest charged only on the amount
utilized. As a result, borrowers can keep their EMIs low, freeing up capital for other business
needs. Additionally, pre-approved loan limits provide a safety net, ensuring businesses have
access to funds when unexpected expenses arise.
TYPES OF NBFCs
1. Insurance Companies
Insurance corporations are financial intermediaries which offer direct insurance or
reinsurance services, providing financial protection from possible hazards in the future.
Under an insurance policy, the insurance corporation undertakes to compensate the
policyholder for losses caused by a pre-defined event against a fee, or “premium”.
2. Loan Companies
Loan Companies are significant players in the consumer finance sector, offering personal
loans, home loans, education bans, and more. Additionally, they extend credit facilities to
businesses in the form of working capital loans, trade finance, nd project financing. Loan
companies fill the gap left by traditional banks by serving customers with specific financial
needs or limited access to formal credit channels.
3. Investment Companies
Investment companies are predominantly engaged in the acquisition and management of
financial assets such as stocks. bonds, mutual funds, and securities. These NBFCs cater to
both retail and institutional investors, facilitating investment opportunities across various
asset classes. Through their expertise in financial markets, Investment companies contribute
to capital formation, mobilising funds for productive use and encouraging responsible
investing practices.
4. Leasing
Lease is a contract whereby the owner of the asset(lesser) grants to another party(lessee), the
exclusive right to use the asset usually for an agreed period of time in written for the payment
of rent.
CONCEPT OF LEASING
• Lease finance denotes procurement of assets through lease. The subject of leasing falls in
the category of finance.
 • Leasing has grown as a big industry in the USA and UK and spread to other countries
during the present century.
• In India, the concept was pioneered in 1973 when first leasing company was set up in
Madras and the eighties have seen a rapid growth of business.
• Lease as a concept involves a contract whereby ownership, financing and risk taking of any
equipment or asset are separated and shared by two or more parties. • Thus, the lesser may
finance and lessee may accept risk through the use of it while a third party may own it.
• Alternatively, the lesser may finance and own it while the lessee enjoys the use of it and
bears the risk.
5. Hire Purchase
Hire purchase is another method of acquiring a capital asset for use, without paying its price
immediately. Under hire purchase arrangement goods are let on hire, the hirer (user) is
allowed to pay the purchase price in instalments and enjoys an option to purchase the goods
after all the instalments have been paid. Thus the ownership in the asset is passed on to the
hirer on payment of the last instalment. The amount and number of instalments is fixed at the
time of delivering the asset to the hirer. If the hirer makes default in making payment of any
instalment, the seller is entitled to recover the asset from the hirer. The hirer may, on his own
also, return the asset to the hiree without any commitment to pay the remaining instalments.
The instalments for this purpose are treated as hire charges. Thus, the property in the asset
remains vested in the seller (hiree) till, the right of purchase is exercised by the hirer after
making payment of all the instalments.

6. Housing finance company

Housing finance companies are instrumental in financing houses for the public and housing
boards. They are registered under the Companies Act. Anyone, from doctors to lawyers, and
engineers can avail of housing finance loans. It is especially beneficial for individuals, who
have low credit scores, cannot make a huge down payment, or have trouble financing their
mortgage through bank loans. Housing finance companies follow the guidelines set by the
National Housing Bank (NHB).

7. Chit Funds

Chit funds are a financial instrument that is used in both borrowing and saving aspects. Chit
funds are a kind of financial arrangement wherein a few individuals gather and pool a fixed
sum of money at regular intervals. This is done with an understanding or agreement that a
single member of the group will receive the total sum of money collected during each
interval. This process continues until every member has received their share of the pooled
money. This type of financial instrument is generally conducted by a chit-fund company that
is responsible for the smooth carrying out of this process.

8. Mutual funds

A mutual fund is a pool of money managed by a professional Fund Manager. It is a trust that
collects money from a number of investors who share a common investment objective and invests
the same in equities, bonds, money market instruments and/or other securities. And the income /
 gains generated from this collective investment is distributed proportionately amongst the
investors after deducting applicable expenses and levies, by calculating a scheme’s “Net Asset
Value” or NAV. Simply put, the money pooled in by a large number of investors is what makes
up a Mutual Fund.

9. Venture Capital Funds

Venture Capital’ is an important source of finance for those small and medium- sized firms,
which have very few avenues for raising funds. Although such a business firm may possess a
huge potential for earning large profits in the future and establish itself into a larger
enterprise. But the common investors are generally unwilling to invest their funds in them
due to risk involved in these types of investments. In order to provide financial support to
such entrepreneurial talent and business skills, the concept of venture capital emerged. In a
way, venture capital is a commitment of capital, or shareholdings, for the formation and
setting-up of small scale enterprises at the early stages of their lifecycle.
Features of Venture capital
The following are the features of venture capital:
a) It is basically financing of new companies which are finding it difficult to go to the
capital market at their early stage of existence.
b) This finance can also be loan-based or in-convertible debentures so that they carry a
fixed yield for the providers of venture capital.
c) Those who provide venture capital aim at capital gain due to the success achieved by the
concern that borrows.
d) It is a long-term investment and made in companies which have high growth potential.
The provision of venture capital will bring rapid growth for the business.
e) The venture capital provider will also take part in the business of borrowing concern
whereby, the venture capital financier not merely confines to finance, but also provide
managerial skill.
f) Not all the capitalists will experience high risk. But venture capital financing contains
risks. But the risk is compensated with a higher return.
g) Not much of technology is involved in venture capital, it involves financing mainly small
and medium size firms, which are in their early stages. With the assistance of venture
capital, these firms will stabilize and later can go in for traditional finance.
10. Factors and Forfaiting:
Factoring is a type of financing in which a business sells its accounts receivable/invoice to a
third party, known as a factor, in exchange for an immediate advance on the invoice amount.
The factor who purchases the invoice then immediately advances up to 80% of the total
invoice amount. The 20% balance amount, minus the factoring fee, is paid only at the end of
the maturity period once the customer pays the factor.
Forfaiting
Forfaiting is a financing option for exporter use to receive immediate cash. How it works:
The exporter sells its claim on medium and long-term trade receivables to a forfaiter at a
discounted rate to receive fast access to cash. The benefit: Exporters minimize the risk of
factoring by selling without recourse, which means the exporter is not liable when the
importer fails to pay the receivables.
11. Depositories:
A depositary bank is a specialist financial institution that facilitates investment in securities
markets with the trading of items such as stocks and bonds. In the EU, investment funds are
legally required to appoint a depositary bank to safeguard the assets of the fund and ensure
that it complies with the laws and regulations of its jurisdiction. A depositary bank's services
include monitoring cash flow, record keeping and overseeing fund operations such as
valuations, risk analysis and investor subscription and redemption activity.

12. Custodial Services:

Custodian banks (also known as custodians) are very different from retail and commercial
banks. They don't provide standard banking services such as accounts, credit cards and loans.
Instead, they act like a high-security warehouse where the financial assets of businesses and
individuals are held, either physically or electronically, to prevent them from being lost or
stolen. The assets held by custodian banks range from equities and bonds to precious metals,
fine art and cash. As well as safeguarding these assets, custodian banks provide a number of
related services including account administration and tax support, collecting dividends and
interest payments, handling foreign exchange transfers, and settling transactions.
CREDIT RATING:
Credit rating is an analysis of the credit risks associated with a financial instrument or a
financial entity. It is a rating given to a particular entity based on the credentials and the
extent to which the financial statements of the entity are sound, in terms of borrowing and
lending that has been done in the past. A credit rating is a quantified assessment of the
creditworthiness of a borrower in general terms or with respect to a particular debt or
financial obligation. A credit rating can be assigned to any entity that seeks to borrow
money—an individual, corporation, state or provincial authority, or sovereign government.
CHARACTERISTICS OF CREDIT RATING
1. Assessment of issuer's capacity to repay: It assesses issuer's capacity to meet its
financial obligations i.e., its capacity to pay interest and repay the principal amount
borrowed.
2. Based on data: A credit rating agency assesses financial strength of the borrower on the
financial data.
3. Expressed in symbols: Ratings are expressed in symbols e.g. AAA, BBB which can be
understood by a layman too.
4. Done by expert: Credit rating is done by expert of reputed, accredited institutions.
5. Guidance about investment-not recommendation: Credit rating is only a guidance to
investors and not recommendation to invest in any particular instrument.
FUNCTIONS/IMPORTANCE OF CREDIT RATING
1. It provides unbiased opinion to investors: Opinion of good credit rating agency is
unbiased because it has no vested interest in the rated company.
2. Provide quality and dependable information: Credit rating agencies employ highly
qualified, trained and experienced staff to assess risks and they have access to vital and
important information and therefore can provide accurate information about creditworthiness
of the borrowing company.
3. Provide information in easy to understand language: Credit rating agencies gather
information, analyse and interpret it and present their findings in easy to understand language
that is in symbols like AAA, BB, C and not in technical language or in the form of lengthy
reports.
4. Provide information free of cost or at nominal cost: Credit ratings of instruments are
published in financial newspapers and advertisements of the rated companies. The public has
not to pay for them. Even otherwise, anybody can get them from credit rating agency on
payment of nominal fee. It is beyond the capacity of individual investors to gather such
information at their own cost.
5. Helps investors in taking investment decisions: Credit ratings help investors in assessing
risks and taking investment decision.
6. Disciplines corporate borrowers: When a borrower gets higher credit rating, it increases
its goodwill and other companies also do not want to lag behind in ratings and inculcate
financial discipline in their working and follow ethical practice to become eligible for good
ratings, this tendency promotes healthy discipline among companies.
FOREX MARKET
The foreign exchange market (forex or currency market) is a global decentralized or over-
the-counter (OTC) market for the trading of currencies. This market determines foreign
exchange rates for every currency. It includes all aspects of buying, selling and exchanging
currencies at current or determined prices. In terms of trading volume, it is by far the largest
market in the world, followed by the credit market.

OR
The forex market allows participants, such as banks and individuals, to buy, sell or exchange
currencies for both hedging and speculative purposes. The foreign exchange (forex) market is
the largest financial market in the world and is made up of banks, commercial companies,
central banks, investment management firms, hedge funds, retail forex brokers, and investors.
How does Foreign Exchange Market work?
The foreign exchange market works by facilitating the exchange of one currency for another.
Market participants buy and sell currencies to facilitate international trade and investment and
speculate on currency price movements. The exchange rate, which is the value of one
currency relative to another, is determined by supply and demand forces in the market.
Currency values are influenced by a variety of factors, including economic indicators,
geopolitical events, and central bank policies. Transactions in the forex market can take place
over the counter or through electronic trading platforms, and the market operates 24 hours a
day, 5 days a week, across major financial centres around the world.
Importance of Forex market:
1. Market is large and global
The foreign exchange market is truly expansive with traders participating from all parts of the
world. The importance of foreign exchange market is evident from the fact that more than $4
trillion are exchanged on an average in the currency market every day. Other factors that
make it a lucrative trading place are largely derived from the fact of the market's sheer size.

2. Good for beginners

First-time traders looking to make small investments can easily enter the forex market. One
of the many advantages of foreign exchange is that brokers offer a provision of demo
accounts. Using these, rookie traders can test their skills in a market simulation before
committing to any deals.

3. Round the clock market

Given that the forex market is global, trading can take place almost continuously as long as a
market is open somewhere in the world. It operates five days a week, for 24 hours each day.
The first major market opens in Australia’s Sydney at 5 pm on Sunday and trading ends when
the US’ New York market closes at 5 pm on Friday.

4. Leverage
Foreign exchange brokers allow retail traders to borrow against a small amount of capital,
thereby offering a chance to open a high position. The amount of money you raise from
leverage is generally represented as a ratio. For example, 1:30 would mean that your leverage
is 30 times what you actually invested in the market.

5. Liquidity
Due to the large volume of trading activity that occurs round the clock in the forex market, it
is considered the most liquid market in the world. Liquidity refers to the ability of assets to be
bought and sold with little effect on their value. In the case of forex markets, liquidity allows
you to trade with minimal risk.

6. Volatility
Geopolitics, economic stability, policies, natural calamities and trade deals are among a long
list of forces that influence the market. A small development in any of these translates into a
major shift in the market. This sensitivity of a market is called its volatility. When values of
currencies change for the better due to these determinants, they result in major profits.
However, if the values are affected adversely, traders can suffer significant losses. Since
volatility cannot be avoided altogether, you should go about having strategies to deal with
volatile markets.

7. No restrictions on directional trading

Unlike the stock market, the foreign exchange market does not have any restrictions on
directional trading. Since traders are always either buying or selling a currency according to
the state of the market, you can easily go long or sell short depending on your prediction of
change in their value. Because of the high liquidity of currencies, brokers do not charge any
transaction fees for such trading that are required in stock markets.

8. Nobody controls the market

There is a large number of participants in the forex market, which is why no single player, but
only external factors such as the economy can control prices. This factor reflects the
 importance of foreign exchange as an investment option on traders’ portfolios. No middlemen
exist in this market, and brokers only help connect buyers and sellers.

9. Low transactional charges

A small capital sum is enough to start online forex trading, without any major costs of
conducting transactions. The cost of transactions largely comprises the broker’s fee, which he
earns from spreads. The spread is measured in pips or points in percentage, which is the
difference between the ask price and the bid.

10. Technology
Since this market is relatively new, among the advantages of foreign exchange is that its
participants have embraced technology willingly. There are plenty of software and mobile
applications that facilitate trade in real-time from around the world.
How Does the Foreign Exchange Market Affect the Economy?

The foreign exchange market plays a crucial role in the global economy, affecting countries
in several ways:

1. International trade: Changes in currency values can affect a country's balance of trade,
as exports become more expensive when a country's currency appreciates.
2. Capital flows: The forex market facilitates capital flows between countries, allowing
businesses and investors to invest in foreign markets.
3. Monetary policy: The forex market can influence a country's monetary policy, as central
banks may adjust interest rates or intervene in the market to maintain currency stability.
4. Economic growth: A stable currency and exchange rate can support economic growth,
while currency volatility can harm business and consumer confidence, potentially leading to
economic slowdowns.

What Causes Exchange Rates to Fall?

There are several factors that can cause exchange rates to fall:

1. Decreased demand: If demand for a country's currency decreases relative to other

currencies, its exchange rate may fall.
2. Economic factors: Economic indicators such as low inflation or slowing economic growth
can lead to a fall in a country's exchange rate.
3. Political instability: Political instability, such as political protests or leadership changes, can
cause a country's exchange rate to fall.
4. Central bank policies: If a country's central bank reduces interest rates or engages in
quantitative easing, its currency may weaken.
5. Trade imbalances: Persistent trade deficits can cause a country's currency to depreciate as
demand for its currency weakens.