Introduction to Financial Markets and Institutions

Flashcards covering the fundamentals of financial markets, instruments, institutional functions, and regulatory frameworks as discussed in the lecture notes.

Dow Jones Industrial Average (DJIA)

A price-weighted index representing 30 large, solid U.S. companies founded in 1896, serving as a health indicator for the overall American economy.

Primary Markets

Financial markets where corporations or governments raise capital by issuing and selling new securities to initial investors.

Secondary Markets

Markets where financial instruments, such as stocks and bonds, are traded among investors after they have been issued.

Money Markets

Markets that trade debt securities or instruments with an original maturity of one year or less, primarily used for liquidity management.

Capital Markets

Markets that trade debt (bonds) and equity (stocks) instruments with original maturities of more than one year.

Forex (Foreign Exchange Market)

The global market in which currencies are traded, facilitating international commerce and investment.

Derivative Markets

Financial markets where instruments such as futures, options, and swaps are traded; their value is based on an underlying asset.

Initial Public Offering (IPO)

A type of primary market activity where a private firm sells equity to the public for the first time.

Liquidity

The ability of an investor to convert a security into cash quickly at its fair market value.

Treasury Bills (T-bills)

Short-term debt obligations issued by the U.S. government on a discount basis to finance budget deficits.

Federal Funds

Short-term loans of excess reserves (usually overnight) between financial institutions to meet reserve requirements.

Repurchase Agreements (Repos)

Collateralized short-term loans involving the sale of securities with an agreement to buy them back later at a specified price.

Commercial Paper

An unsecured, short-term promissory note issued by a corporation to finance working capital needs like inventory or payroll.

Negotiable Certificates of Deposit (CDs)

Bank-issued time deposits with fixed maturity and interest rates that can be sold in secondary markets.

Banker's Acceptance

A time draft used in international trade where payment is guaranteed by a bank, resulting in low default risk.

Mortgages

Loans granted to individuals or businesses to purchase land or real property, with the property serving as collateral.

Asset Transformer

A function of financial institutions where they purchase primary securities (loans) and issue secondary securities (deposits) to savers.

Securities and Exchange Commission (SEC)

The primary U.S. government agency responsible for protecting investors and regulating securities markets through full disclosure.

Federal Reserve (the Fed)

The central bank of the United States, created in 1913, responsible for monetary policy and financial stability.

FOMC (Federal Open Market Committee)

The Fed's policy-making body responsible for open market operations to influence money supply and interest rates.

Open Market Operations

The Fed's primary policy tool involving the purchase or sale of government securities to control bank reserves.

Discount Rate

The interest rate the Federal Reserve charges commercial banks on short-term loans through the discount window.

Reserve Requirements

The minimum percentage of transaction deposits that depository institutions are legally required to hold as reserves.

Expansionary Monetary Policy

Actions such as buying securities or lowering interest rates intended to stimuate economic growth and employment.

Contractionary Monetary Policy

Actions such as selling securities or raising interest rates intended to slow economic activity and curb inflation.

Bond Equivalent Yield (BEY)

A nominal annual yield calculation based on the purchase price of a security, used to compare different short-term instruments.

Effective Annual Return (EAR)

A measure of the true annual rate of return that accounts for the effects of interest compounding.

STRIPS

Separate Trading of Registered Interest and Principal Securities; zero-coupon bonds created by separating interest and principal components of Treasury debt.

Municipal Bonds

Debt securities issued by state and local governments to finance projects; interest is typically exempt from federal taxes.

Cumulative Preferred Stock

A type of stock where any missed dividends accumulate and must be paid before common shareholders receive distributions.

Limit Order

An instruction to a broker to execute a trade only when the market reaches a specified price.

Circuit Breakers

Mechanisms used by exchanges to temporarily halt trading during periods of extreme price volatility to restore confidence.

Market Efficiency

The degree to which stock prices accurately reflect all available information.

Adverse Selection

A phenomenon in insurance where individuals most likely to suffer a loss are the ones most likely to apply for coverage.

Loss Ratio

The ratio of an insurance company's incurred losses to its earned premiums.

Reinsurance

A secondary insurance market where an insurance company purchases protection from another firm to manage extreme risks.

Venture Capital

Professionally managed funds that invest equity in high-risk, early-stage companies with the potential for high returns.

Soft Dollars

Portion of a client commission used by advisors to pay for research or services within a firm, subject to SEC disclosure rules.

ERISA (Employee Retirement Income Security Act)

The 1974 act setting strict funding, vesting, and fiduciary standards for private pension funds in the U.S.

Defined Benefit Plan

A pension plan where an employer promises a specific retirement benefit based on formulas like years of service and salary history.

Defined Contribution Plan

A pension plan where retirement income depends on contributions made by employers/employees and fund investment performance.

Distributed Ledger Technology (DLT)

A decentralized database system, such as blockchain, where transaction records are independently verified by several network nodes.

Robo-advisors

Automated platforms that use algorithms to provide low-cost investment management and financial advice.

Monetary Base

The sum of currency in circulation plus bank reserves held at the Federal Reserve.

Money Multiplier Effect

The process by which a change in bank reserves leads to a multiple expansion of deposits, calculated as $\frac{1}{\text{Reserve Requirements}} \times \text{Change in Reserves}$.