Chapter 2 The Creation of Financial Assets. Forms of Business Sole proprietorships Partnerships...
-
Upload
cameron-todd -
Category
Documents
-
view
221 -
download
0
Transcript of Chapter 2 The Creation of Financial Assets. Forms of Business Sole proprietorships Partnerships...
Chapter 2
The Creation of
Financial Assets
Forms of Business
• Sole proprietorships
• Partnerships
• Limited partnerships– General partners
– Limited partners
Corporations
• Charter from a state
• Bylaws– Relationship between firm and
stockholders (owners)
Corporations
• Advantages of– Limited liability
– Permanence
– Transfer of title
• S corporations and limited liability companies (LLC)
The Role of Money
• Medium of exchange
• Importance of liquidity
Money Supply
• M-1 sum of cash, coin, and checking accounts
• M-2 sum of cash, coin, checking accounts, plus savings accounts
Money Supply
• M-2 is a broader definition
• M-2 is not affected by shifting funds between checking and savings accounts
The Role of Interest Rates
• Allocate scarce credit
• Short-term / Money market
• Long-term / Capital market
Structure of Yield
• Yield curve
• Generally long-term implies higher rates (positively sloped yield curve)
Time and Yields
• Positively sloped yield curve
QuickTime™ and aTIFF (Uncompressed) decompressorare needed to see this picture.
Time and Yields
• Negatively sloped yield curve
The Transfer of Funds from Savers to Business
• Income that is saved is subsequently invested
• The process of investing creates financial claims
• Financial claims are either–debt–equity
The Direct Transfer
• The saver has a claim (debt or equity) on the issuer
• The issuer receives the money
CorporationGeneral Public(Savers)
Security
Money
The Indirect Transfer through a Financial Intermediary
• The saver has a claim on the financial intermediary
• The financial intermediary has a claim on the ultimate user of the funds
Financial Intermediary
General Public(Savers)
Account
Money
Issuing and Selling New Securities
• Difference between– Primary markets - the first sale
– Secondary markets - subsequent sales
The Sale of New Securities to the General Public
• Initial public offerings (IPOs)
• The role of investment bankers
Underwriting
• Firm commitment
• The guaranteed sale
• Underwriter bears the risk
The Sale of New Securities To the General Public
• Best effort agreements– issuing firm bears the risk
The Sale of New Securities to the General Public
• The mechanics of security underwriting
– the originating house or managing undewriter
– the syndicate
– the underwriting disconnect
Regulation of Initial Public Offerings
• Registration of new securities
• The prospectus
• Securities and Exchange Commission (SEC)
• The shelf-registration
Pricing an IPO
• Underpricing leads to windfall gains to initial buyers
• Overpricing inflicts losses on initial buyers and the investment bankers
• Tendency to underprice to assure a successful sale
The Price Volatility of IPOs
• Prices can rise dramatically
• Many firms eventually fail
• Few investors get to participate in an IPO
Financial Intermediaries and Investment Bankers Differ
• Financial Intermediaries create claims on themselves (e.g. a savings account)
• Investment bankers– facilitate the sale of new securities– do not create claims on themselves
Shelf Registration
• Information filed with the SEC– Flexibility
– Securities sold when funds are needed
The Private Placement
• Direct sale of securities
• Reduces selling costs
• Features can be tailor made for both parties
Financial Intermediaries
• Middleman
• Creation of Claims
Financial Intermediaries
• Each financial intermediary creates claims on itself and transfers funds from savers to – firms
– governments
– people who need funds
The Variety of Financial Intermediaries
•Commercial Banks•Savings and loan associations•Mutual savings banks•Credit unions•Life insurance companies •Pension plans•Money market mutual funds
Commercial Bank’s
• Assets and Liabilities– Importance of loans
– Importance of deposit liabilities
– Small equity base
Variety of Deposits
• Demand deposits (checking accounts)
• Savings account
• Certificates of deposits
• Negotiable CDs
Reserves
• Required reserves
• Excess reserves
• Secondary reserves
Regulation of Depository Institutions
• The Depository Institutions Deregulation and Monetary Control Act of 1980
• Subject to the Regulation of the Federal Reserve
Federal Deposit Insurance Corporation (FDIC)
• Insures accounts up to specified limit
• Another source of regulation of banks
• Add stability to the banking system
Regulatory Trends
• The consolidation of regulation through the Federal Reserve
• Reduced or blurred the distinctions among the different types of depository institutions and other financial institutions (e.g., brokerage and insurance firms)
Life Insurance Companies and Pension Plans
• Alternatives for savings
• May serve as financial intermediaries
Money Market Mutual Funds
• A specialized investment company
• Makes only short-term investments
• Acquires money market instruments
• Shares in money funds have become popular investments
The Money Market Instruments
•Certificates of deposit (CDs)
•Negotiable CDs
•U.S. Treasury bills
The Money Market Instruments
• Commercial Paper• Repurchase agreements (repos)• Bankers' acceptances• Tax (or revenue) anticipation notes• Eurodollar CDs
The Money Market Instruments
• These instruments are–safe–liquid
• Offer competitive short-term rates