If savers and investors and buyers and sellers could locate each other efficiently, purchase any and all assets at no cost, and make their decisions with freely available, perfect information, there would be no need for financial institutions. However, in real economies, market participants seek the services of financial institutions because they can provide market knowledge, transaction efficiency, and contract enforcement. Such firms operate in two ways: (1) they may actively discover, underwrite, and service investments using their own resources, or (2) they may merely act as agents for market participants who contract with them for some of these services. In the latter case, investors assemble their portfolios from securities that the firms bring to them.
Because of the ways in which institutions may operate in the financial sector, two issues arise. First, when and under what circumstances should the firms use their own resources to provide financial services, rather than offering them through a simple agency transaction? Second, to the extent that the institution offers such services by using its own resources, how should it manage its portfolio to achieve the highest value added for its stakeholders?
In addressing these two issues, we define the appropriate role for institutions in the financial sector and focus on the role of risk management in firms that use their own balance sheets to provide financial products. Our objective... To read the complete article, login or sign-up using the form below.
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