exam review study guide

finanical market

a market which funds are transferred from people with excess funds to people with a shortage of funds

capital funds can be used to

produce economic goods

when capuital is transferred from those with no imediate use for it to those who have immediate use for ir

all economic participants benefit

debt markets faciliate lending and borrowing among

governments, corporations, and indivuals

in a bond marekt borrowers are

goernments and corporations

security

any finaicial instrument that can be traded

stock

a claim on a companys assets or future income

bond

a loan that a borrower must repay according to specified loan terms

principle

the amount borrowed

interest

cost of borrowing

a loan consist of

principle and interest

the interest rate is a

percentage expression of the cost of borrowing in relation to the principle amount

cost of borrowing examples

mortgage interest rate, auto loan interest rate, credit card interest rate, student loan, interest rate

a high interest rate means

a high cost of borrowing

stock market

facilities the purchase and sale of stocks

the stock market operates

via a network of stock exchanges

stock market helps companies raise

capital by selling peices of company ownership

stock market index

a mathematical representation of the performance of a given group of stocks

structure of the financial system

helps transfer funds from one party to another

finacial crisis

characterized by a period of sharp decline in asset prices

central bank and monetary policy example

federal reserve (FED)

FED

targets the national interest rates and manages money supply

lenders and savers have extra

funds and no invesment oppurtunitites

lenders or savers examples

households, business firms, government , foreigners

borrowers or spenders lack

funds but have investment opportunities

borrowers or spenders examples

businesses and government , households and forigneirs

markets improve efficency by

channeling funds froms lenders to borrowers

direct finance

GM issues stocks or bonds to investors

indirect finance

fiancial intermediaires act as middlemen

finaicial markets are important for

producing an efficent allocation of capital

one way for a firm to earn money is

to issue debt

debt markets

bond markets

bonds are contractual agreements between

the issuing firm and the purchasing investor

bonnds typically include a fixed amount

every six months or year, plus a final payment when the bond matures

short term

maturities less than one year

short term examples

treasury bills

intermediate term

maturities between one and ten years

intermediate term examples

treasury notes, CD’s, money marekt mutal funds

long term

maturities greater than ten year

long term examples

30 year corporate bonds

another way for a firm to earn money is

to issue equity

stocks give

ownership claims to that and are considered long term becasue they have no maturity

gross stocks

do not pay dividends

primary market

when a company publicly issues securites for the first time

primary market examples

intial public offerings (IPO)

seasoned equity offering (SEO)

SEO

a firm that already trades in the secondary market but wants to issue new stocks

seconday market

where investors buy and sell securities they already own

Secondary marekt example

NYSE

NASDAQ

brokers

execute orders on behalf of their clients

dealers

execute orders on behalf of themeselves

in a secondary market profit goes to

the investors

secondary market functions

provides liquidty and establishes a price for the securities

exchanges

trade is conducted at a central location

over-the-counter (OTC) market

delaers in diffrent locations have inventory of securities ready to sell to anyone willing to pay their prices

largest corporations are traded at

stock exchanges

many common stocks are traded

OTC

money market

short term

capital market

long term

foreign bonds

bonds denominated in a foreign country and targeted at a foreign market

foreign bonds examples

porsche (Germany company) sells bonds in the U.S.

eurbonds examples

bonds denominated in the U.S. dollar but sold in london

Eurobonds

bonds denominated in a diffrent currency than the country they are sold in

Eurodollars

when a countires dollars are deposited in a diffrent counrty

Eurodollars examples

US dollars deposited in a bank in paris

stock market indexes

way for investors to follow finacial news in the US and foreign countires

FTSE 100

monitor the 100 largest companies on the london stock exchange

finaical intermediaries

most important source of financing because of transaction costs, risk sharing and asymmetric information

intermediaries can reduce transaction costs because

of expertise and economies of scale

lower transaction costs make it easier for

intermeidiary costumers to make transactions while also being able to earn interest on their accounts

risk sharing

intrermediaires create and sell assets with lower risk to one party and buy assets with greater risk from another party in a process known as asset information

asymmetric information

where one party lacks crucial information about another party, which impa ct decision making

adverse selection timing

a problem cause by asymmetric information that is created before a transaction occurs

Adverse selection

the borrowers most likely to produce a bad outcome are the most likely to seek a loan

moral hazard timing

a problem cause by asymmetric information that is created after a transaction occurs

moral hazard

hazard that the borrower has incentives to engage in undesirable activities increasing the likelihood that they wont pay the loan back

economies of scale

finaicial intermediaires can lower cost of information because they can provide multiple services

conflict of interest

a type of moral hazard where a person or institution has mulitiple objectives

conflict of interest can lead to an

intermediary hiding information or misleading other clients

conflict of interest can make

markets less efficent

depository institutions (banks)

they accept deposits and make loans

commerical banks

raise funds through issuing checkable, savings and time deposits, used to make commerical , consmuer and mortgage loans

commerical banks compromise

the largest fiancial intermediary and have the most diverse asset portfolio

Thrifts

raise fund by issuing savings, time and checkable deposits and using these funds to make mortgage , consumer and commerical loans

contractual savings institutions (CSIs)

they recieve funds from clients on a contractual basis and are fairly accurate at predicting their future liabilities

life insurance companies

collect funds through policy premiums and then can invest these in less liquid corporate securites and mortgages since benefit payouts are usually accuratley predicted by actuatial analysis

lartgest segment of CSI

life insurance companies

fire and causalty insurance companies

recieve money through policy premiums and usually invest in liquid governement and corporate securities since events are harder to predict

pension and government retirement funds

provide retirement income via annuities

CSI

life insurance

fire and casualty insurance

pension and government retirement funds

pension and government retirment funds are hosted by

corporations and state and local governments

finance companies

sell commerical paper and issue bonds and stocks to raise funds

finance companies lend to

consumers and small businesses

mutal funds

sell shares to individual investors

mutual funds use proceeds to

ourchase large, diversified portfolios of stocks and bonds

money market mutal funds

safe or risk free short-term debt instruments

hedge funds

require large investments and are subject to regulations

mutal funds examples

money market mutual funds

hedge funds

investment banks

advise companies on securities to issue, underwriting security offerings , offer M&A assistance and act as dealers in the securites market

types of investment intermediaires

fianace companies

mutual funds

investment banks

regulation of fiancial markets

is done to increase information to investors and ensure the soundness of fiancial intermediaires