BUS Ch 10

Financial markets

Markets that transfer funds from savers to borrowers. They help firms meet payrolls, invest in new facilities, develop new products, and compete effectively in global markets.

Depository institutions

Financial intermediaries that obtain funds by accepting checking and savings deposits and lend them to borrowers.

Commercial banks

Depository institutions that accept deposits and lend them to borrowers.

Credit unions

Depository institutions owned by their depositors.

Savings and loan associations

Depository institutions that accept savings account deposits used to make mortgage loans.

Nondepository financial institutions

Financial institutions that amass financial capital to acquire a portfolio of different assets.

Institutional investors

Nondepository financial institutions that amass financial capital to acquire a portfolio of different assets.

Securities brokers

Act as agents for investors who want to buy and sell financial securities.

Securities dealers

Participate directly in securities markets, buying and selling stocks for their own accounts.

Investment banks

Help firms raise financial capital by issuing securities in primary markets.

Federal Reserve Act of 1913

Established the Federal Reserve System as the central bank of the United States. It was established following the 1907 panic.

Banking Act of 1933 (Glass-Steagall)

Established the Federal Deposit Insurance Corporation (FDIC) to insure bank deposits and prohibited commercial banks from selling insurance or performing the functions of investment banks.

Federal Deposit Insurance Corporation (FDIC)

An organization established by the Banking Act of 1933 to insure bank deposits.

Securities Act of 1933

Required firms issuing new stocks in a public offering to file a registration statement with the Securities Exchange Commission (SEC).

Securities and Exchange Commission (SEC)

The federal agency with primary responsibility for regulating the securities industry.

Securities Exchange Act of 1934

Established the Securities and Exchange Commission; regulates the securities market (secondary market), insider trading, and other fraud protection.

Financial Services Modernization Act of 1999

Overturned the section of the Banking Act of 1933 that prohibited commercial banks from selling insurance or performing the functions of investment banks.

Sarbanes-Oxley Act of 2002

Ensured that external auditors offered fair, unbiased opinions when they examined a company’s financial statements.

Dodd-Frank Act of 2010

Expanded the Fed’s regulatory authority over nondepository financial institutions.

Primary market

Market in which newly issued securities are traded.

Public offering

New securities are offered to any investors who are willing and able to purchase them.

Initial public offering (IPO)

The first time a company issues stock that may be bought by the general public.

Investment bank

Helps firms issue securities in the primary market.

Registration statement

A long, complex document firms must file with the SEC when they sell securities through a public offering.

Best efforts

An investment bank arrangement in which the investment bank acts as an agent.

Firm commitment (underwriting)

An investment bank arrangement in which the investment bank purchases and resells securities.

Private placement

A securities offering negotiated between the issuing corporation and a small group of accredited investors.

Advantages of private placement

Private placements are quicker, simpler, and less expensive.

Investment bank assistance in private placements

Investment banks can assist with private placements.

SEC registration for private placements

Unlike public offerings, there is no SEC registration for private placements.

Accredited investor

An organization or individual investor who meets certain criteria established by the SEC and is qualified to invest in unregistered securities.

Secondary market

A market in which previously issued securities are traded.

Stock (securities) exchange

An organized venue for trading stocks and securities that meet listing requirements, such as the NYSE and NASDAQ.

Over-the-counter market (OTC)

A market where stocks that do not meet the requirements of larger exchanges are traded. Penny stocks are traded here, and it is less active.

Electronic communications networks (ECN)

Automated, computerized securities trading systems that automatically match buyers and sellers. They can allow trading after hours.

Common stock

The basic form of ownership in a corporation.

Voting rights

The right to vote on important issues at the annual stockholders’ meeting.

Right to dividends

The distribution of earnings to the corporation’s stockholders, if given.

Capital gains

Return on investment received if the price of the stock rises above the amount paid for it.

Preemptive right

The right to purchase new shares in proportion to existing holdings.

Right to a residual claim on assets

The right of common stockholders to claim the remaining assets of a corporation after other claims have been satisfied.

Preferred stock

Stock that gives its holder preference over common stockholders in terms of dividends and claims on assets.

Preferred stock voting rights

Preferred stock has no voting rights.

Preferred stock claim on assets

Preferred stockholders have a preferred claim on corporate assets compared with common stockholders.

Preferred stock payment of dividends

Preferred stockholders have preference in the payment of dividends.

Cumulative feature

A feature that preferred stock may have in which unpaid dividends accumulate and must be paid before dividends can be paid to common stockholders.

Mutual fund

An institutional investor that raises funds by selling shares to investors and uses the accumulated funds to buy a portfolio of many different securities.

Diversification

A strategy of investing in a wide variety of securities in order to reduce risk.

Professional management

Mutual funds provide professional management of the securities in the fund.

Variety

Mutual funds provide investors with a variety of securities through one investment.

Liquidity

Mutual funds provide liquidity to investors.

Net Asset Value per Share

The total value of the fund’s assets minus liabilities, divided by the number of fund shares outstanding.

Exchange-traded fund (ETF)

Shares traded on securities markets that represent the legal right of ownership over part of a basket of individual stock certificates or securities.

ETF vs. mutual fund

ETFs are similar to mutual funds, but they are traded on an exchange like stocks. They usually have lower costs because they are not actively managed.

Personal investing

Members of the general public cannot directly trade stocks and other securities and must enlist a brokerage firm to carry out trades.

Brokerage firm

A firm enlisted by investors to carry out trades involving stocks and other securities.

Full-service broker

A broker that provides a wide range of services in addition to carrying out trades.

Discount broker

A broker that provides the basic services needed to buy and sell securities but offers fewer additional services.

Market order

An order that tells brokers to buy or sell a specific security at the best currently available price.

Limit order

An order that tells brokers to buy a specific stock only if its price is below a certain level, or to sell a specific stock only if its price is above a certain level.

Stock index

An index that tracks how the prices of specific sets of stocks have changed.

Dow Jones Industrial Average (DJIA)

An index that tracks stock prices of 30 large, well-known U.S. corporations.

Standard & Poor’s 500 (S&P 500)

An index that tracks stock prices of 500 major U.S. corporations in a variety of industries and market sectors.

Bond

A formal debt instrument issued by a corporation or government entity; it is a legal obligation to repay.

Maturity date

The date when a bond will come due.

Par value

The value of a bond that the issuer promises to pay the bondholder when the bond matures. The example in the slides is $1,000.

Coupon rate

The fixed interest paid on a bond. It is expressed as a percentage of the par value.

Bond coupon example

A bond with a $1,000 par value and a 4.375% coupon rate pays $43.75 yearly.

Bond price before maturity

Bonds can be sold to other investors before maturity, but their price fluctuates with market conditions, so the price received might not correspond to par value.

Current yield

The amount of interest earned expressed as a percentage of a bond’s current market price, not its par value.

Discount

When a bond’s market price is below its par value.

Bond discount example

If current interest rates are 5% and a bond pays 4.375%, it is less attractive, so its price may drop to $800. The bond still pays its 4.375% coupon rate, or $43.75 per year, but its current yield is $43.75 ÷ $800 = 5.46%.

Premium

When a bond’s market price is above its par value.

Bond premium example

If current interest rates are 3%, a 4.375% bond is more attractive, so its price may increase to $1,200. The bond still pays $43.75 per year, so its current yield is $43.75 ÷ $1,200 = 3.64%.

Investing for income

Buying bonds and stocks to generate a steady income.

Market timing

Investing by analyzing when prices of specific stocks are likely to rise and fall.

Investing for growth

Investing in companies that have the potential to grow much faster than average for a sustained time.

Value investing

Investing in stocks that are undervalued in the market.

Buying and holding stocks

Purchasing a diversified set of securities and holding them for a long period of time.