CHAPTER ONE
INTRODUCTION
1.1 Background to the Study
Marozva (2015) disclosed that over the past six decades since Markowitz’s seminal paper of 1952 on portfolio selection, most financial theories and models assumed markets were frictionless, thus, in traditional asset pricing models, liquidity plays no role at all because it is assumed away. The moment these conventions are relaxed, the world changes, though not in an expected way. Adekunle (2009) mentioned that during the recent global financial crisis several banks experienced some difficulties because they failed to manage liquidity in a prudent manner. Thus the crisis emphasized the importance of liquidity to the proper functioning of financial markets and the banking sector.
Before the financial crisis, financial intermediaries were stable as funding was readily available and at low cost. The rapid reversal in market conditions illustrated how quickly liquidity can evaporate, and that illiquidity can reserve already earned profits as financial institutions are either forced to sell assets well below their market value or borrow at interest rates charges above their weighted return on assets (Adekunle, 2009).
Liquidity crisis significantly affect banks’ operational environment. In response to the catastrophe, financial bodies such as the Central Bank of Nigeria (CBN) advocated for the active management of liquidity risk (Ngwu, 2006). It was stressed that banks are required to hold a considerable position in liquid assets while on the other hand, they are required to be profitable for them to be sustainable. Despite the increased efficiency in many banks resulting from holding higher positions of liquid assets, profitability has severely suffered. Liquidity and profitability are inversely related, when liquidity increases profitability decreases and vice versa while on the other hand, there is a direct relationship between higher risk and higher return, hence the dilemma in liquidity management is finding a balance between liquidity and profitability.
In the Nigerian case, the operating environment is so competitive and tense that any deposit money bank that hopes to survive must ensure an astute management of its profitability viz-a-viz its liquidity level as both variables can make or mar its future. It is therefore self-evident that every deposit money bank needs to strike the right balance between its liquid assets and total assets to maintain its liquidity (meeting short-term obligations to depositors and creditors) and remain profitable (adding value to shareholders wealth). The challenges of inefficient liquidity management of banks in Nigeria were brought to the fore during the liquidation and distress era of the late 1980s and early 1990s. The negative cumulative effects of the banking system liquidity crisis from the 1980s and 1990s lingered up to the re capitalization era in 2005 in which banks were mandated to increase their capital base from N2billion to an astronomical N25billion. This move by the apex bank was believed would stabilize and rectify the bank liquidity problem that was prevalent in the economy (Fadare, 2011).
The impact of liquidity position in management of financial institution and other economic unit have remained fascinating and intriguing. There appears to be an interminable argument in the literature over the years on the roles, meaning and determinants of liquidity and credit management.
1.2 Statement of the Problem
Liquidity is considered as the success of any bank, therefore, ineffectiveness in its management consuetudes a huge problem i.e. encounter a huge problem that affects the affairs of the financial institution (Abang-Anoh, 2012). Adekunle (2009) made it known that liquidity as an institutional problem has persisted over the years, in determining the survival or otherwise of banks. Although it must be said that at some relative degree of banking it is believed that any banking institutions that is properly managed and has adequate liquidity should be able to swim above troubled waters. Abang-Anoh (2012) mentioned further that problems sometimes also evolve from banks inordinate urge to make phenomenal profit. In the process of doing this there is the tendency for these banks to get careless in the resources utilization and particularly their management of liquidity. The resultant effect is usually loss substance and consequently, loss accumulation, a situation which can lead to banking failure. The far reacting consequences of inadequate liquidity management cannot be over-emphasized. Apart from profit declines, other attendant consequences to a bank includes loss of confidence in the particular bank, its inability to fulfill both its short term and long-term obligation, lack of trust on the part of depositors and other customers alike; and the concomitant reduction in level of operations. It is however against this backdrop this research tends to define the effect liquidity management has on the performance of banks, specifically those listed on the Nigerian Stock Exchange (NSE).
1.3 Research Questions
Based on the problems indicated, the following research questions were raised.
i) What is the impact of current ratio on return on equity of listed banks?
ii) What is the effect of liquid asset to total asset ratio on return on equity of banks listed on the Nigeria stock exchange?
iii) What is the effect of cash to total deposit ratio on return on equity?
iv) What is the effect of loans and advances to total assets ratio on return on assets of banks listed on stock exchange?
v) What is the impact of loans and advances to total deposit ratio on return on equity of listed banks?
1.4 Objectives of the Study
The general objective is to examine liquidity management and performance of banks listed on the stock exchange market. However, the specific objectives are to;
i) Determine the effect current ratio has on return on equity of listed banks.
ii) Investigate the effect cash to total deposit ratio has on return on equity of listed banks.
iii) Examine the impact of liquid asset to total asset on the return on assets of listed banks.
iv) Examine the effect of loans and advances to total assets on return on equity of banks listed on the stock exchange.
v) Investigate the effect of loans and advances to total deposits ratio on the performance of return on equity of listed banks
1.5 Hypotheses of the Study
For the purpose of this study, the hypotheses will be stated in null forms which are;
Ho1: Current ratio has no significant impact on return on equity of listed banks.
Ho2: Liquid asset to total assets ratio has no significant effect on the performance of the return of equity of banks listed on the stock exchange.
H¬o3¬: Cash to total deposits ratio has no significant effect on the return on equity of banks listed on the stock exchange of banks listed on the Nigeria stock exchange.
Ho4: Loans and advances to total assets ratio has no significant effect on return on equity of listed banks
Ho5: Loans and advances to total deposits ratio does not have any significant effect on the performance of listed banks in Nigeria.
1.6 Justification of the Study
Obviously, a research on liquidity is not strange as the effect proper liquidity management has on the profitability or performance of an organization has been established by various researchers. The effect of illiquidity on organizations most especially banks can be dangerous as it can cost the bank reduction in customers, market share and confidence which in the long run can lead to the liquidation of the bank. From empirical evidences, it will be realized that many managers understand the importance of proper liquidity management which however justifies the numerous research being already carried out on the topic ‘liquidity’. This research however seeks to examine deeply the effect liquidity management has on banks, precisely, listed banks in Nigeria. The conclusion of this research will help banks listed on the stock exchange in Nigeria and even banks not listed in making appropriate liquidity decisions such as identifying the proportion of deposits to keep liquid, how to balance the contradictory primary objectives of banks as well as help them understand the importance, dangers and causes of illiquidity to a bank. This study is hoped to unveil problems likely to rise out of some dimension which Nigerian banking business is fast assuming in this country. In addition, suggestions will be made to help in checking the anticipated undesirable consequences and consolidate the positive effects of the policy measures. This study provides good reading materials for practicing bankers, Professionals in finance, accounting, economics and other related fields.
1.7 Scope of the Study
This research will not be able to cover all banks operating in Nigeria, it will be limited to commercial banks whose shares are traded on the stock exchange market operating in Nigeria which is the Nigeria Stock Exchange (NSE), i.e. listed banks. The study will examine the effect liquidity management has had on the performance of listed banks between the years 2010 and 2014. These years were selected because they represent the closest past years in which all the banks must have published their financial statements.
1.8 Definition of Terms
Liquidity Management
This is the act of storing enough funds and raising funds quickly from the market to satisfy depositors, loan customers and other parties with a view to maintaining public confidence.
Bank
A bank is a financial house established for the purpose of accepting deposits and lending out funds in addition to other services.
Central Bank of Nigeria
This is the national apex and financial institution that regulates the banking system value supply and cost of finds in the Nigerian economy.
Liquidity Ratio
This is a class of financial metrics that is used to determine a company’s ability to pay off its short term debts obligation. Generally the higher the value of the ratio, the larger the margin of safety that the company possess to over short-term debts.
Listed Banks
These are banks that are allowed to trade their shares on the stock exchange market. These banks are allowed to raise funds from the public and they can be referred to as public companies. For the purpose of this study, listed banks indicate any bank allowed to trade on the NSE.
Stock Exchange Market
This can be defined as the market in which financial instruments are traded. This is the market whereby money is raised either on a short term, medium term or long term basis (Adenuga, 2006). In every country, there is at least a stock exchange market and the stock exchange market operating in Nigeria is the Nigerian Stock Exchange (NSE).
1.9 Plan of the Study
This study comprise chapters one to five. The chapter one is the introduction which entails the statement of problems, the objectives, the research questions as well as the hypotheses of the study amongst others. The second chapter is the relevant literature to the study. The theoretical, empirical as well as the conceptual framework were examined in this chapter. The third chapter, chapter three is the methodology in which the sample size and technique were highlighted. In this chapter, the method of data collection and analysis were indicated. The second to the last chapter, chapter four is the data analysis, presentation and interpretation. Lastly, chapter five comprise the summary, conclusion and recommendations of the study
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