fabozzi chap01

8/11/2019 Fabozzi Chap01

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Chapter 1

Introduction


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Types of Assets

Tangible Assets

Value is based on physical properties

Examples include buildings, land, machinery

Intangible Assets

Claim to future income

Examples include various types of financialassets


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Types of Financial Assets

Bank loans

Government bonds

Corporate bonds

Municipal bonds

Foreign bond

Common stock

Preferred stock

Foreign stock


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Debt vs. Equity

Debt Instruments

Fixed dollar payments

Examples include loans, bonds

Equity Claims

Dollar payment is based on earnings

Residual claimsExamples include common stock, partnership

share


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Price of Financial Asset

and Risk

The price or value of a financial asset isequal to the present value of all expected

future cash flows.Expected rate of return

Risk of expected cash flow


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Types of Investment Risks

Purchasing power risk or inflation risk

Default or credit risk

Exchange rate or currency risk


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Role of Financial Assets

Transfer funds from surplus units todeficit units.

Transfer funds so as to redistributeunavoidable risk associated with cashflows generated from both tangible and

intangible assets.


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Role of Financial Markets

Determine price or required rate of returnof asset.

Provide liquidity.Reduce transactions costs, which consists

of search costs and information costs.


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Classification of Financial

Markets

Debt vs. equity markets

Money market vs. capital market

Primary vs. secondary market

Cash or spot vs. derivatives market

Auction vs. over-the-counter vs.intermediated market


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Financial Market

Participants

Households

Business units

Federal, state, and local governments

Government agencies

Supranationals

Regulators


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Globalization of Financial

Markets

Deregulation or liberalization of financialmarkets

Technological advances

Increased institutionalization


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Classification of GlobalFinancial Markets

Internal Market

(also called national

market)

External Market

(also called international

market, offshore market,and Euromarket)

Domestic Market Foreign Market


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Motivation for Using ForeignMarkets and Euromarkets

Limited fund availability in internal market

Reduced cost of funds

Diversifying funding sources


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Derivatives Market

Futures/forward contracts are obligationsthat must be fulfilled at maturity.

Options contracts are rights, notobligations, to either buy (call) or sell (putthe underlying financial instrument.


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Role of Derivative

Instruments

Protect against different types ofinvestment risks, such as purchasing

power risk, interest rate risk, exchangerate risk.

Advantages:

Lower transactions costsFaster to carry out transaction

Greater liquidity

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