principles of finance 5e, ch. 2 financial assets © 2012 cengage learning. all rights reserved. may...
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Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chapter 2Financial Assets
(Instruments)
1
Chapter 2 – Learning Objectives Explain why there are so many different types of
financial instruments. Describe the types of debt that exist and their
characteristics Explain what bond ratings are and why they are
important Describe equity and some of the
features/characteristics of equity. Describe what derivatives are and some of the more
familiar types of derivatives.
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 2
Assets
Real asseta physically observable, or touchable, item
Financial assetan asset that represents a promise to
distribute cash flows some time in the future
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 3
Major Financial Instruments
Treasury bills
Repurchase agreements
Federal funds
Bankers’ acceptances
Commercial paper
Negotiable CDs
Eurodollars
Money market funds
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 4
Treasury notes/bonds
Municipal bonds
Term loans
Mortgages
Corporate bonds
Preferred stock
Common stock
Financial Instruments and the Firm’s Balance Sheet
Firm issues financial instruments so it can purchase the tangible assets necessary to produce income
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 5
Balance Sheet - Equity
Common equity stockholder’s total investment in the firm
Par value nominal or face value of a stock or bond
Retained earnings earnings the firm has not paid out as dividends
throughout its history
Additional paid-in capital difference between the value of newly issued stock
and its par value
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 6
Debt - A loan to an individual, company,or government
Debt featuresPriority to assets and earningsPrincipal value, Face value, Maturity value,
and Par value Interest payments Discounted securitiesMaturity dateControl of the firm (voting rights)
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 7
Short-Term Debt
Treasury Bill (T-bill)Repurchase Agreement (Repo)Federal FundsBanker’s AcceptanceCommercial PaperCertificate of DepositEurodollar DepositMoney Market Mutual Fund
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 8
Long-Term Debt
Term LoansSpeedFlexibilityLow issuance costs
Bonds
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 9
Government Bonds
Treasury notes or bonds - issued by US government
Municipal bonds - issued by state or local governmentsRevenue bondsGeneral obligation bonds
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 10
Corporate Bonds
Mortgage bonds Debenture Subordinated debenture Income bond Putable bond Indexed (purchasing power) bond Floating rate bond Zero coupon bond Junk bond
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11
Bond Contract Features
Bond Indenture Trustee Restrictive covenant
Call provision Sinking fund
call for redemption by annual lottery buy bonds on the open market
Convertible
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 12
Bond Ratings
Moody’s Investors Service (Moody’s) Standard & Poor’s Corporation (S&P) Investment grade bonds
Triple B or better
Criteria for rating bonds Importance of bond ratings Changes in ratings
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 13
Yields on Selected Long-Term Bonds, 1990 - 2010
Principles of Finance 5e, Ch. 2 Financial Assets © 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 14
The yields for the U.S. government bonds are based on bonds with 10-year maturities.Source: Federal Reserve; http://www.federalreserve.gov
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1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Narrow Spread
Wide Spread
Corporate BBB
Corporate AAA
U.S. Government