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What is the role of financial markets?
To efficiently allocate funds from savers to investors, enabling economic growth.
What are real assets?
Physical assets like land, buildings, and equipment that produce goods and services.
What are financial assets?
Claims on real assets, such as stocks and bonds, which provide income or capital gains.
What are the two ways firms can raise funds?
Debt (fixed payments) and equity (residual claims on income/assets).
What is the key difference between debt and equity?
Debt has fixed payments and maturity, while equity has no maturity and pays dividends at discretion.
What is the primary market?
Where new securities are issued and sold to raise funds.
What is the secondary market?
Where previously issued securities are traded among investors.
What is the money market?
Trades debt securities with maturities ≤ 1 year (e.g., T-bills, commercial paper).
What is the capital market?
Trades debt and equity securities with maturities > 1 year (e.g., stocks, bonds).
What role do investment banks play in primary markets?
They help firms issue new securities by advising on pricing and underwriting the offering.
What is the purpose of secondary markets?
To provide liquidity and price discovery for previously issued securities.
What are examples of money market instruments?
Treasury bills, commercial paper, certificates of deposit, and repurchase agreements.
What are examples of capital market instruments?
Corporate bonds, Treasury notes, municipal bonds, and stocks.
What are derivative securities?
Financial instruments whose value is derived from an underlying asset (e.g., options, futures).
What are depository institutions?
Banks that accept deposits and provide loans (e.g., commercial banks, credit unions).
What are investment intermediaries?
Entities like mutual funds and hedge funds that pool funds from investors to invest in securities.
What is the role of financial institutions?
To screen and monitor investments, provide liquidity, and reduce transaction costs for savers.
What are agency problems?
Conflicts of interest between management and shareholders due to separation of ownership and control.
What is corporate governance?
The system of rules and practices by which a company is directed and controlled.
What are the two key characteristics of an investment portfolio?
Asset allocation (distribution across asset classes) and security selection (specific securities within each class).
What is a top-down investment strategy?
First determine asset allocation, then select securities within each class.
What is a bottom-up investment strategy?
Focus on selecting individual securities based on their value, regardless of asset allocation.
What are Treasury bills (T-bills)?
Short-term government securities sold at a discount and maturing in ≤ 1 year.
How is the bond equivalent yield (BEY) calculated for T-bills?
BEY = (F - P0) / P0 × 365 / n, where F = face value, P0 = purchase price, and n = days to maturity.
What are certificates of deposit (CDs)?
Time deposits with banks that pay interest and principal at maturity.
What is commercial paper?
Short-term unsecured debt issued by corporations to fund working capital needs.
What is a repurchase agreement (repo)?
A short-term loan where securities are sold with an agreement to repurchase them at a higher price.
What are money market funds?
Mutual funds that invest in short-term, low-risk securities like T-bills and commercial paper.
What are Treasury notes?
Government debt securities with maturities of 2–10 years.
What are Treasury bonds?
Government debt securities with maturities of 10–30 years.
What are municipal bonds?
Debt securities issued by state and local governments, often tax-exempt.
What are corporate bonds?
Debt securities issued by corporations to raise capital, with higher yields than government bonds.
What is a callable bond?
A bond that the issuer can repay before maturity at a specified price.
What is a convertible bond?
A bond that can be converted into a specified number of shares of the issuer’s stock.
What are the key characteristics of common stock?
Residual claim on assets, voting rights, and potential for dividends.
What is the formula for stock return?
R = (Pt - Pt-1 + Dt) / Pt-1, where Pt = current price, Pt-1 = previous price, and Dt = dividend.
What is preferred stock?
A hybrid security with fixed dividends and priority over common stock in bankruptcy.
What is the Dow Jones Industrial Average (DJIA)?
A price-weighted index of 30 large U.S. companies.
What is the S&P 500?
A market-cap-weighted index of 500 large U.S. companies.
What is a call option?
The right to buy an asset at a specified price (strike price) before expiration.
What is a put option?
The right to sell an asset at a specified price before expiration.
What is a futures contract?
An agreement to buy or sell an asset at a specified price and date in the future.
What is a swap?
An agreement to exchange cash flows or liabilities between two parties.
What is a mutual fund?
A pooled investment vehicle that collects funds from investors to buy a diversified portfolio of securities.
What is the net asset value (NAV) of a mutual fund?
NAV = (Market value of assets - Liabilities) / Number of shares.
What is an ETF?
A fund that trades on an exchange like a stock and tracks an index or sector.
What is the bond equivalent yield (BEY) formula?
BEY = (F - P0) / P0 × 365 / n.
What is the formula for stock return?
R = (Pt - Pt-1 + Dt) / Pt-1.
What is the present value formula?
PV = C / (1 + r)^T, where C = future cash flow, r = discount rate, and T = time.
What is the value of a perpetuity?
PV = C / r, where C = annual cash flow and r = discount rate.
