Chapter 17 and Appendix C Financial Markets Microeconomics
Dividend
A direct payment from a firm to its shareholders
Bond
A financial contract through which a borrower like a corporation, a city or state, or the federal government agrees to repay the amount that was borrowed and also a rate of interest over a period of time in the future
Capital gain
A financial gain from buying an asset, like a share of stock or a house, and later selling it at a higher price
Private company
A firm owned by the people who run it on a day-to-day basis
Public company
A firm that has sold stock to the public, which in turn can be bought and sold by investors
Risk
A measure of the uncertainty of that project's profitability
Certificate of deposit (CD)
A mechanism for a saver to deposit funds at a bank and promise to leave them at the bank for a time, in exchange for a higher rate of interest
Index fund
A mutual fund that seeks only to mimic the overall performance of the market
Financial intermediary
An institution, like a bank, that receives money from savers and provides funds to borrowers
Compound interest
An interest rate calculation on the principal plus the accumulated interest
Simple interest
An interest rate calculation only on the principal amount
Venture capital
Financial investments in new companies that are still relatively small in size, but that have potential to grow substantially
NASDAQ
Founded in 1971 as an electronic stock market, allowing people to buy or sell from many physical locations.
Mutual funds
Funds that buy a range of stocks or bonds from different companies, thus allowing an investor an easy way to diversify
Liquidity
Refers to how easily money or financial assets can be exchanged for a good or service
Bondholder
Someone who owns bonds and receives the interest payments
A corporation is a business that "incorporates"—that is owned by _____ that have limited liability for the debt of the company but share in its profits (and losses). Corporations may be private or public, and may or may not have stock that is publicly traded. They may raise funds to finance their operations or new investments by raising capital through the sale of stock or the issuance of bonds.
shareholders
The sharp rise in housing prices was driven by a high level of demand for housing. Interest rates were low, so people were encouraged to borrow money to buy a house. Banks became much more flexible in their lending, making what were called "_____" loans. Banks loaned money with low, or sometimes no, down payment.
subprime
In financial markets, households are on the _____.
supply side
default risk
the risk that a borrower fails to pay back a bond
Sole proprietorship
A company run by an individual as opposed to a group
Debit card
A card that lets the person make purchases, and the cost is immediately deducted from that person's checking account
Stock
A claim on partial ownership of a specific firm
Partnership
A company run by a group as opposed to an individual
notes
10-year U.S. Treasury Bonds
Savings account
A bank account that pays an interest rate, but withdrawing money typically requires a trip to the bank or an automatic teller machine
Checking account
A bank account that typically pays little or no interest, but that gives easy access to money, either by writing a check or by using a debit card
Municipal bonds
A bond issued by cities that wish to borrow
Corporate bond
A bond issued by firms that wish to borrow
Treasury bond
A bond issued by the federal government through the U.S. Department of the Treasury
Present value
A bond's current price at a given time
Corporation
A business owned by shareholders who have limited liability for the company's debt yet a share of the company's profits; may be private or public and may or may not have publicly-traded stock
_____ borrowing is more customized than issuing bonds, so it often works better for relatively small firms.
Bank
Dow Jones Industrial Average
Based on 30 large companies from a diverse set of representative industries, chosen by analysts at Dow Jones andCompany. The index was started in 1896.
Standard & Poor's 500
Based on 500 large U.S. firms, chosen by analysts to represent the economy as a whole
High yield bonds
Bonds that offer relatively high interest rates to compensate for their relatively high chance of default
Shareholders
People who own at least some shares of stock in a firm
Expected rate of return
How much a project or an investment is expected to return to the investor, either in future interest payments, capital gains, or increased profitability
Wilshire 5000
Includes essentially all U.S. companies with stock ownership
FTSE
Includes the 100 largest companies on the London Stock Exchange
Nikkei
Index includes the 225 largest and most actively traded stocks on the Tokyo Stock Exchange.
Diversification
Investing in a wide range of companies to reduce the level of risk
Face value
The amount that the bond issuer or borrower agrees to pay the investor
Maturity date
The date that a bond must be repaid
Initial public offering (IPO)
The first sale of shares of stock by a firm to outside investors
Coupon rate
The interest rate paid on a bond; can be annual or semi-annual
Equity
The monetary value a homeowner would have after selling the house and repaying any outstanding bank loans used to buy the house
Corporate governance
The name economists give to the institutions that are supposed to watch over top executives in companies owned by shareholders
New York Stock Exchange
The oldest and largest U.S. stock market, dating back to 1792.
Bond yield
The rate of return a bond is expected to pay at the time of purchase
Shares
The stock of a firm, divided into individual portions
Actual rate of return
The total rate of return, including capital gains and interest paid on an investment at the end of a period of time
DAX
Tracks 30 of the largest companies on the Frankfurt, Germany, stock exchange
When a firm has a record of at least earning significant revenues, and better still of earning profits, the firm can make a credible promise to pay interest, and so it becomes possible for the firm to borrow money. Firms have two main methods of borrowing: _____.
banks and bonds
In theory, the _____ help(s) to ensure that the firm is run in the interests of the true owners—the shareholders.
board of directors
If a firm issues bonds and fails to make the promised interest payments, the _____ can take the firm to court and require it to pay, even if the firm needs to raise the money by selling buildings or equipment. However, there is no guarantee the firm will have sufficient assets to pay off the bonds.
bondholders
With a _____, you agree to deposit a certain amount of money, often measured in thousands of dollars, in the account for a stated period of time, typically ranging from a few months to several years. In exchange, the bank agrees to pay a higher interest rate than for a regular savings account.
certificate of deposit
interest rate risk
danger of buying a bond before the interest rate rises, meaning you could have made a higher return
A saver who _____ is following the old proverb: "Don't put all your eggs in one basket." In any broad group of companies, some firms will do better than expected and some will do worse—but the extremes have a tendency to cancel out extreme increases and decreases in value.
diversifies
Investment in a house is tangibly different from bank accounts, stocks, and bonds because a house offers both _____ returns.
financial and nonfinancial
Firms can raise _____ in four main ways: (1) from early-stage investors; (2) by reinvesting profits; (3) by borrowing through banks or bonds; and (4) by selling stock.
financial capital
Identify tangible assets
gold - collectibles
The bottom line on investing in the stock market is that both the rate of return over time and the risks are _____.
high
total future amount
principal + interest
simple interest
principal x rate x time
Because stock prices will shift in response to unpredictable future news, these prices will tend to follow what mathematicians call a "_____"
random walk with a trend.
Any young startup firm is a _____; indeed, some startup firms are only a little more than an idea on paper. The firm's founders inevitably have better information about how hard they are willing to work, and whether the firm is likely to succeed, than anyone else. When the founders put their own money into the firm, they demonstrate a belief in its prospects. At this early stage, angel investors and venture capitalists try to overcome the imperfect information, at least in part, by knowing the managers and their business plan personally and by giving them advice.
risk