Financial Management Ch 2

The Principle of Self-Interested Behavior

People act in their own financial self-interest

The Principle of two-sided transactions

Each Financial Transaction has at least two sides

The Signaling Principle

actions convey information

The behavioral principle

when all else fails, look at what others are doing for guidance

the principles to create value and economic efficiency are:

• the principle of valuable ideas

• the principle of comparative advantage

• the options principle

• the principle of incremental benefits

the principle of valuable ideas

extraordinary returns are achievable with new ideas

The principle of comparative advantage

expertise can create value

the options principle

options are valuable

The Principle of Incremental benefits

financial decisions are based on incremental benefits

The principle of risk-return trade-off

there is a trade-off between risk and return

Financial Transaction Key Principles

• The principle of risk-return trade-off: there is a trade-off between risk and return

• The principle of diversification

• the principle of capital market efficiency: the capital markets reflect all information quickly

• the time-value-of Money Principle: money has a time value

Money Market securities

• t-bills

• commercial paper

• CDs

• Bankers’ acceptances

bonds and stocks

long-term debt, stocks

Derivative securities

• options

• forward contract

• future contract

• swaps

• spot market

• brokers

• dealers

• Investment bankers

• financial intermediaries

The yield curve

upward sloping, inverted or downward sloping, flat