FIN 384 Final!!

Hybrid Funds

1. Asset Allocation Funds rebalance holdings as conditions change. 2. Balanced Funds invest in constant proportions of stocks and bonds.

Bond Funds

1. Corporate Bond Funds invest in debt issued by corporations. 2. High-Yield Bond Funds hold bonds that are below investment grade. 3. Global Bond Funds invest in corporate and government bonds around the world. 4. Government Bond Funds hold bonds issued by governments or GSEs. 5. Strategic Income Bond Funds hold a combination of different types of bonds. 6. Municipal Bond Funds hold debt issued by states, cities, and counties.

Types of Mutual Funds

1. Equity Funds 2. Bond Funds 3. Hybrid Funds hold both stocks and bonds 4. Money Market Mutual Funds

maturity flexibility

DSUs generally prefer longer-term financing. SSUs generally prefer shorter-term investments. Intermediaries can offer different ranges of maturities to both.

denomination divisibility

DSUs prefer to borrow the full funding need all at once. SSUs tend to save small amounts periodically. Intermediaries pool small savings into large investments.

What happened to most large independent investment banks during the 2007-2009 financial crisis?

During the housing bubble meltdown in 2007-2009, the major investment banks were either purchased by commercial banks (e.g., JPMorgan Chase's purchase of Bear Sterns), went bankrupt (e.g., Lehman Brothers), or converted to bank holding companies (e.g., Goldman Sachs). As a result, by the end of 2008, there were no large independent investment banks left in the United States.

What are the primary differences between index funds and ETFs?

ETFs are exchange traded versions of index funds. Advantage of ETFs include the ability to be traded throughout the day at continuously updated prices, they can be purchased on margin and sold short, unlike index funds. ETFs have no capital gains distributions to add to tax liability in a given year.

Explain the difference between equity REITs and mortgage REITs. Which type would likely be a better hedge against high inflation?

Equity REITs invest directly in properties, while mortgage REITs invest in mortgage and construction loans. equity REITs would likely be a better hedge against inflation because rents and property (the sources of income for equity REITs) tend to rise with inflation.

other institutions

Finance companies Federal agencies

direct financing

Financing wherein DSUs issue financial claims on themselves and sell them for money directly to SSUs. The SSU's claim is against the DSU, not a financial intermediary.

Why have ETFs grown so popular so quickly? What advantages do ETFs have over open-end index funds?

First, ETF shares can be purchased and sold throughout the trading day, just like any other publicly traded stock. Open-end mutual fund shares, on the other hand, can only be bought or redeemed at the day's closing NAV. Second, when a mutual fund's redemption requests exceed new share purchases by investors, the fund is likely to sell some of its holdings, with realized capital gains/losses passed on to the fund shareholders. ETFs rarely sell securities. Third, ETFs can be sold short and have tradable options available. If, for example, you believe that the price of oil will fall, you may sell short shares of an ETF that traces the price of oil, such as United States Oil Fund (the ticker is USO) or buy put options on this ETF.

Hedge Funds

Hedge funds participated in arbitrage activities to exploit market inefficiencies. Market arbitrage is the simultaneous buying and selling of a security or derivative of the security to exploit market pricing differentials. Hedge funds, using sophisticated forecasting models, may also take very aggressive, speculative positions, attempting to exploit pricing and informational market inefficiencies. Organized as limited partnerships, the fund manager is the general partner; the investors the limited partners. 1. limited disclosure - no SEC monitored prospectus. 2. very high investment minimums. 3. may use speculative short selling, leverage, etc. 4. fees for investment management are higher than mutual funds. 5. performance-based incentive fees common; not permitted with mutual funds.

Explain why underwriting new securities issues can be a risky business.

In a full underwriting, the investment banker commits to pay a specific price to the business or government and bears inventory risk until the securities are sold in the market. Competition keeps the margins (spread) thin and the capital ratios of investment banking firms are rather low, so any rapid decline in the market price during the selling period would cause significant losses and possible insolvency.

What is the difference between a hostile takeover and a merger?

In a hostile takeover, the target firm does not want control to pass to the acquiring firm, and so its management makes every effort to prevent the takeover from happening. In a merger, both sides work together to expedite the union of the firms.

moral hazard

Problems of hidden actions. For instance, in the case of deposit insurance, insured individuals have less incentive to monitor the health of the deposit institutions and thus are more likely to incur a loss than when their deposit institution does not carry insurance.

What does Rule 12b-1 enable mutual funds to do? Is this normally beneficial to current mutual fund shareholders?

Rule 12b-1 allows mutual funds to use fund assets for marketing purposes. Since marketing expenses have nothing to do with advancing shareholder's interests and everything to do with increasing the manager's fees, investors should be alert to this in the prospectus.

If there is a difference between the net asset value (NAV) and the offer price for a mutual fund, what does that tell us about the fund?

That it is a load mutual fund

What does it mean to say that investment bankers underwrite a security offering? How is this different from a best-efforts offering?

When an offering is underwritten, the investment banker purchases the issue at a pre-specified price. In a best-efforts issue, the investment bankers does not take ownership.

Explain how large money-center banks and investment banks are different.

While deregulation and specific court decisions have begun to blur the differences, a commercial bank, and the regulatory environment that surrounds it, is tied to accepting deposits and making commercial loans, primarily being involved in the indirect financing. Investment banks, on the other hand, specialize in helping governments and businesses raise capital in the direct financial markets to fund capital expenditures. Until 1999, investment banks in the U. S. could not do commercial banking activities and vice versa. The Glass-Steagall Act and its interpretations, supported by the public's concern for the safety and soundness of the banking system, essentially provides the differentials between the two in the U.S., but on international turf there are few differences. In most other developed nations, financial institutions are allowed to do both investment and commercial banking activities. These institutions, called universal banks, engage in deposit taking, making loans, brokerage activities, securities underwriting, and offering insurance services.

Asymmetric information

sellers or borrowers in financial transactions usually have more information than buyers or lenders. expressed as adverse selection and moral hazard

SSU

surplus spending unit An economic unit whose income for the period exceeds expenditures. SSUs often purchase financial claims issued by deficit spending units (DSUs).

Exchange-Traded Funds

1. First introduced in 1989 by Toronto Stock Exchange 2. Similar to closed-end funds 3. Shares traded on organized exchanges 4. Tremendous growth since 2000. 5. ETF shares traded for portfolio of stock - no large premiums or discounts on ETF shares because of arbitrage activities. 6. Many ETFs track specific stock index. 7. Tax advantage, low expense ratios, ease of buying/selling, and ease of tracking prices.

Mutual Fund Fee Structures

1. Front-end load funds - investor pays a sales commission when shares are purchased from brokers. 2. Back-end load funds - no initial sales fees, but other charges (back-end load, contingent deferred sales charge, or redemption fees) are levied. 3. Marketing Expenses or "12b-1" fees - subtracted from fund's assets each year. 4. Management or advisory fees paid to fund managers. 5. Exchange fees when funds are transferred from one fund to another in a family of funds. 6. Account maintenance fees.

Equity Funds

1. Growth & Income Funds seek balance between growth and income. 2. Growth Funds seek capital appreciation. 3. Aggressive Growth Funds speculate on riskier growth stocks. 4. Income-Equity Funds seek higher dividend yields. 5. Global Equity Funds diversify internationally. 6. Specialized Funds focus on singe sectors (e.g. precious metals). 7. Index Funds track a particular stock index (e.g. S&P 500).

Closed-End Investment Companies

1. Have a fixed number of shares outstanding like any publicly traded corporation. 2. Shares are traded and priced in the market. 3. The net asset value (NAV) and the market value of the shares are determined separately. 4. Closed-end fund shares sometimes sell at a 10%-20% discount (more often) off the NAV or up to a 10% premium. 5. Size of discount varies by type of closed-end fund - equity versus bond funds, domestic vs. global equity funds. 6. Discounts could be due to a variety of reasons including poor management, tax considerations, and market demand. 7. The majority of closed-end funds are either bond funds or global equity funds.

Money Market Mutual Funds

1. Invest in the safest and most liquid money market instruments. 2. Uninsured substitute for bank deposits. 3. Three types: Taxable government, taxable nongovernment, tax-exempt. 1. Short-term money market investments 2. Provide excellent liquidity for investors 3. High quality 4. Compete with bank deposits

What are the functions of investment companies?

1. Investment companies invest in a wide range of long-term securities (debt or equity) and issue liquid, small denomination securities, called shares. Value of shares is called Net Asset Value (NAV). 2. Investment companies offer investors the following services/advantages: a. risk intermediation by investing in a diversified portfolio of assets. b. Denomination intermediation by issuing shares in smaller denominations than the direct securities purchased. c. Maturity and liquidity intermediation for their shares. d. Access to professional investment management and lower transaction costs.

Importance of Mutual Funds

1. Mutual funds' popularity with investors increased dramatically since 1990. 2. By year-end 2009, over 8600 mutual funds exist in the U.S. holding a total of over $11 trillion in assets. 3. Multiple reasons exist for this tremendous growth: a. Variety of new funds were offered. b. Development of IRAs and Roth IRAs. c. The shift in the type of private pension plans from defined benefit to defined contribution plans [401(k)]. d. Increased investment in the markets by baby boomers. e. Booming economy and low inflation leading to high returns in the stock markets.

Three steps in bringing a new issue to market

1. Origination - design a security acceptable to the market; prepare the prospectus; comply with state and federal registration requirements; obtain a rating; engage a transfer agent and trustee. 2. Underwriting - buy the securities at a given price and turn to the market to sell them. Syndicates are formed to reduce the inventory risk. 3. Distribution - sell quickly reduces inventory risk. Members of the syndicate and a wider selling group distribute the securities over a wide retail and institutional area.

IB Service 2: Secondary Market Activities

1. The brokerage function is to bring a buyer and seller together. 2. Dealer function - buying (bid) and selling (ask) from an inventory of securities owned by the seller. 3. Providing loans to customers trading on margin (who invest the margin proportion and borrow the rest). 4. Full service brokerage firms offer a wide range of financial services provided by licensed stockbrokers or account executives for commissions. Services include: a. Storage or safekeeping of securities. (1) Securities may be left with the broker. (2) The federal Security Investor Protection Corporation (SIPC) insures each customer's securities up to $500,000 (replaced if lost) and cash to $250,000. b. Execution of trades. c. Investment research and advice. d. Cash management service. 5. Discount brokerage firms offer fewer services than full-services brokers, but charge lower commissions on trades. 6. Arbitrage activities involving the simultaneous buying/selling between two markets is another trading activity of investment banks. Arbitrage is riskless if there is risk it isn't arbitrage

IB Service 3: Private Placements

1. The sale of securities directly to the ultimate investor and not through a public offering. 2. The underwriting function/cost is avoided. 3. A fee is earned for the origination/selling or uniting the supplier and user of funds. 4. A private placement may reduce the total flotation costs for a business or government. 5. The extremes of high credit quality firms and low or unknown credit quality firms use private placements. 6. SEC Rule 144A permits large institutions to trade private placements among themselves and avoid the two-year freeze in trading that was established for private placements many years ago.

IB Service 4: Mergers and Acquisitions

1. They help arrange mergers which would produce economic synergy or increased total value after merger. 2. They assist firms in fighting hostile takeovers. 3. They help establish the value of target firms.

Underwritten offers vs. best-efforts arrangements for IPOs

1. When the investment bank guarantees the issuing firm a certain price, it is called an underwritten offer. a. The risk of selling the issue at a price lower than that promised to the issuer is borne by the investment bank. b. The difference between the price at which the issue is sold and that promised to the issuer represents the underwriting spread or the profit earned by the investment bank. 2. In a best-efforts offer, the investment bank does not guarantee a price or that the issue will be sold. a. The investment bank is compensated based on the number of securities sold. b. The risk of the securities not selling or not selling at a desired price is borne by the issuing firm, not the investment bank. c. Typically, smaller and more risky issues are sold through best efforts.

Real Estate Investment Trusts

1. closed-end investment companies selling shares and investing in real estate related assets. a. Own income property b. Acquire mortgages c. Finance real estate development and construction d. Acquire and lease property 2. Regulated under federal Real Estate Investment Act of 1960 and state regulation 3. Exempt from federal income tax if a. accrue a minimum of 75% of income from real estate investments b. pay 90% of their net income to shareholders

Open-Ended Investment Companies or Mutual Funds

1. most common - dominate asset holdings. 2. Stand ready to buy or sell their shares at NAV. 3. No limit to the number of shares issued.

Regulation of Mutual Funds- SEC and States

1.Regulation relates to adequate required disclosure, adequate diversification, sales practices, and management practices. 2. Federal laws a. Securities Act of 1933 b. SEC Act of 1934 c. Investment Company Act of 1940 d. National Securities Markets Improvement Act of 1996

What do 12b-1 fees pay, and what is the maximum amount these fees can be?

12b-1 fees pay the mutual fund for marketing and advertising. They are limited to 1% of the fund's average net assets per year.

What type of fund is likely to invest in convertible securities?

A balanced fund is likely to invest in convertible securities.

Is the value of a money market fund or a bond fund more susceptible to increasing interest rates?

A bond fund is more susceptible to increasing interest rates because the securities contained in a bond fund have longer maturities than securities contained in a money market fund.

How are deferred loads usually structured?

A deferred load is a fee charged when money is withdrawn from a fund. They are usually 5% and fall by 1% for each year the investment is left in the account.

What is an advantage of a private placement of bonds? What is a disadvantage?

A direct placement is more likely for bonds than for stocks. A direct placement can avoid underwriting fees. However, the demand for securities that are directly placed may be low, since only a fraction of the market is targeted.

Why would a publicly traded firm go private?

A publicly traded firm may go private if its managers believe that it is undervalued in the public market. Thus, the managers may suggest that the firm use cash and debt to repurchase all of its outstanding stock.

financial claims

A written promise to pay a specific sum of money (the principal) plus interest for the privilege of borrowing money over a period of time. Financial claims are issued by DSUs (liabilities) and purchased by SSUs (assets).

How can you distinguish between regular growth funds and aggressive growth funds?

Aggressive growth funds concentrate on speculative issues, emerging small companies and "hot" sectors of the economy, and frequently use financial leverage to magnify their returns. Regular growth funds generally invest in common stocks of more stable firms.

Why is it important to regulate the mutual fund industry?

All financial firms must be regulated to prevent fraud and embezzlement. Mutual funds need to be regulated to ensure that investors have enough valid information to evaluate the fund, and to ensure that the fund does what it promises the investor it will do. For example, the fund could claim to invest in low risk assets, but instead buy higher risk assets and keep the additional return for themselves if it were not regulated.

Why might there be some potential danger in investing in sector funds?

An initial offering of sector funds usually occurs after the sector has been the subject of intense interest based on recent spectacular performance. As a result, stocks in that sector are probably fully priced or overpriced. These funds also provide less diversification.

How do open-end mutual funds differ from closed-end funds?

An open-end mutual fund is continuously issuing new shares as new funds are received. A closed end fund only issues shares once. Shares of open-end mutual funds can be sold back to the sponsoring investment company, whereas shares of closed-end funds cannot.

Explain how changing foreign currency values can affect the performance of internation mutual funds

As foreign currencies depreciate (appreciate) against the dollar, the prices of foreign stocks as measured in dollars decline (rise). Thus, depreciation (appreciation) of foreign currencies tends to decrease (increase) the net asset value of international mutual funds that are held by U.S. investors.

Why do investment banking firms often form syndicates for selling securities to the public?

By forming a syndicate the risk of the issue is spread among many different firms and more brokers will be attempting to sell the securities.

Why do commercial banks want to get into investment banking?

Changing technology and a relatively stable economic period over the last two decades has encouraged larger, better credit quality firms to finance their short-term needs in the direct commercial paper market, rather than use the higher cost, traditional, intermediation, commercial banking markets. Commercial banks want to retain and serve their large, commercial loan customers, which have been their bread-and-butter customers, and thus desire to provide direct financial market services.

Why have open-end companies been more popular than closed-end companies?

Closed-end funds often trade at a discount or a premium to their net asset value. Open-end companies are always ready to buy back or sell more shares at their present net asset value. Closed-end companies issue shares and let the market determine their value. Open-end funds are more popular because their value is more certain to be related to the value of the fund's assets. Further, they provide greater assurance that their value can be realized when desired.

depository institutions

Commercial banks Thrifts (savings and loan associations; mutual savings banks) Credit unions

risks faced by financial institutions

Credit risk Interest rate risk Liquidity risk Foreign exchange risk Political risk

adverse selection

Problem of hidden information in general. For instance, the tendency of the most risky people to buy insurance or apply for loans.

What prompted the growth of money market mutual funds?

In the inflationary 1970s commercial banks faced interest rate ceilings on many types of deposits under the Fed's Regulation Q. This meant that small deposit bank customers could not earn market rates of return on their deposits. As a consequence, many depositors turned to MMMF which had small minimum investments and offered limited check writing, relative safety, and higher market rates of return compared to bank deposits. MMMF did not face the interest rate ceilings and therefore could offer returns close to market rates to the customers. Further, because MMMF are not subject to reserve requirements and do not pay deposit insurance premiums, they realized greater net returns on every dollar of liabilities they issued. Thus, they could pay higher rates of interest than depository institutions.

How does an index fund differ from an actively managed fund?

Index funds are not actively managed. They simply hold the stocks in the index. They usually have significantly lower fees than actively managed funds.

What are the pros and cons of investments in mutual funds that try to match a general market index?

Index funds have low operating costs so investment returns are not reduced by high administrative charges. Index funds do, on average, about as well as the market as a whole. One should expect to get an average return from taking average risk, and that is what an index fund provides. Due to high administrative costs and possibly inferior investment choices, most mutual funds with discretionary management have performed less well than index funds. Index funds, in general, will not do substantially better than the market index to which they are tied. Index funds generate average risk-return tradeoffs yet individuals may prefer to take more or less risk.

Contractual institutions

Insurance companies (life and casualty) Private pension funds State and local government pension funds

currency transformation

Intermediaries can buy claims denominated in one currency while issuing claims denominated in another. This would be difficult for most ordinary SSUs.

credit risk diversification

Intermediaries manage risk by evaluating and holding many different securities. SSUs on their own would have to leave "more eggs in one basket."

What are the core business activities of investment banks?

Investment banks (a.k.a. securities firms) are the most important participants in the direct financial markets. The primary business activities of investment banks are underwriting and raising capital for the primary markets, and the trading of securities (dealer/broker) in the secondary markets.

What is the primary source of the conflict of interest between fund shareholders and investment managers?

Investment managers are usually compensated as a percentage of the funds under management. They have an incentive to increase total assets, even when this is done at the expense of shareholder return.

Discuss why a mutual fund family may find it beneficial to offer 50 or 60 different stock mutual funds.

Investors have different objectives, goals, and tastes in securities. Mutual funds attempt to offer a selection of funds to attract as manydollars as possible. Each different fund will have some attribute that separates it from the others in the family.

What is late trading when referred to by mutual funds?

Late trading is allowing investors to buy or sell shares in a fund after the 4:00 PM closing time when the fund NAV is set.

Why did Lehman Brothers experience financial problems during the credit crisis?

Lehman Brothers had much exposure to mortgage-backed securities. It had a relatively low level of cash, and its high degree of financial leverage created more pressure. For every dollar of equity, it had about $30 of debt. Furthermore, some of its debt was short-term and therefore could be cut off (not renewed) if creditors sensed that Lehman was experiencing potential financial problems.

How is the marketing channel of distribution different for load mutual funds vs. no- load funds?

Load funds, paying an up-front sales commission, are more likely to be offered by commission security representatives (brokers), whereas no-load funds are likely to be sold via a 1-800 number or via the Internet, not by brokers.

How have money market funds tried to cope with the fact that they do not have federal deposit insurance?

MMMF have variously restricted their asset holdings to risk-free government securities. In addition, fund management companies have typically made up any losses incurred by the funds so they would not "break the buck" and therefore could retain investors' confidence that they would not lose money if they invested in the fund. In general, MMMFs reduce risk by investing in securities of high credit quality issuers, diversifying their portfolios across numerous issues, and maintaining a short average maturity of their investments.

liquidity

Many claims issued by intermediaries are highly liquid because intermediaries substitute their own liquidity for that of DSUs.

How do money market mutual funds differ from other types of mutual funds in terms of how they use the money invested by shareholders?

Money market mutual funds are composed of money market securities, such as Treasury bills, commercial paper, Eurodollar deposits, banker's acceptances, repurchase agreements, or NCDs. Money market funds invest more money in NCO's than in any other type of security. Conversely, most other mutual funds are composed of stocks and bonds.

How does a hedge fund differ from a mutual fund?

Most hedge funds' investment strategies focus on relative performance of assets or asset classes; market risk is often removed by taking short positions in one asset or asset class and long positions in another. Hedge funds are not technically considered investment companies and are available only to accredited investors - wealthy individuals or large financial institutions. A hedge fund cannot have more than 100 or 499 investors, depending on the type of an exemption it uses to avoid registering as an investment company. Hedge funds do not have to report their performance and have high management fees (e.g., 2% of assets under management plus 20% of profits is a common arrangement). While the Dodd-Frank Act of 2010 required hedge funds with more than $150 million in assets under management to register with the SEC, hedge funds still enjoy much more privacy about their asset holdings and transactions (at least until further regulation changes).

Explain why investment banks typically underprice new securities when they are sold in the primary markets

Most new securities issues sold in the primary market are underpriced, meaning that their new offer price is below their closing price after the first day of trading. Investment bankers do this to ensure that the issues sell quickly, ensuring the issuing firm of a successful issue and reducing its underwriting risk.

investment funds

Mutual Funds Money Market Mutual Funds

For a given type of mutual fund classification, what is a key characteristic that causes some mutual funds to outperform others?

Mutual funds with a low expense ratio tend to perform better than those with higher expense ratios.

IB Service 1: Bring New securities to the market

New issues are called primary offerings. a. If the issue is first sale to the public, it is called an initial public offering (IPO). b. If securities are already trading, the additional issue of securities is called a seasoned offering. c. If the issue is not offered to the general public, it is a private placement.

Is it mandatory that you pay a load fee when purchasing an open-end mutual fund? What is a low-load fund?

No, many open-end funds have no load or commission. A low-load fund is one that charges 2 to 3 percent in comparison to the normal fee of 7.25 percent and more.

Financial markets are classifiable in a number of concurrent ways

Primary or Secondary Public or Private Exchanges or OTC Spot, Futures, or Option Foreign Exchange International or Domestic Money or Capital The respective contributions of money markets and capital markets to the economy are important themes. Representative lists of money and capital market instruments foreshadow chapters covered later in the text.

What was the purpose of the Glass-Steagall Act?

The Glass-Steagall Act of 1933 separated commercial banking from investment banking and said that financial institutions can do one or the other, but not both. At the time, it was thought that the stock market crash of 1929 and the subsequent collapse of the banking system led to the Great Depression in the 1930s. The reason the Glass-Steagall Act was passed was the belief that investment banking was too risky for banks to engage in and, in part, commercial bank and investment-banking activities of the times contributed to the collapse of the banking system. ---> Stability, prevent a crisis from happening again

How is the Gramm-Leach-Bliley Act of 1999 likely to affect the structure of the financial services industry?

The Gramm-Leach-Bliley Act (or Financial Services Modernization Act) of 1999 repealed much of the Glass-Steagall Act by allowing commercial banks, investment banks, and insurance companies to affiliate with each other as part of a financial holding company structure. As a consequence, we can expect to see more mergers across industry sectors.

What is the purpose of the SIPC?

The SIPC offers insurance on cash and securities deposited at brokerage firms.

Why might the Sarbanes-Oxley Act encourage some publicly traded firms to go private?

The Sarbanes-Oxley Act increased the reporting requirements for publicly traded firms, which increased the cost of financial reporting by more than $1 million per year for some publicly traded firms. Some firms decided that the benefits of being public were less than the costs of being public, and they went private to avoid the reporting requirements.

Explain why the portfolio manager's management of liquidity is different in the open-end fund as compared to the closed-end fund.

The closed-end fund manager does not need to worry about redemptions since the fund is closed, whereas the open-fund manager must worry about accommodating redemptions and therefore must always maintain some liquidity for this purpose. Therefore, the closed-end fund manager has more flexibility to invest. It can invest in illiquid stocks without having to worry about selling those stocks to accommodate redemptions.

Why would an investment banker advise a firm to issue a security using best efforts rather than underwritting?

The investment banker and the firm may not be able to agree on a price, or the issue may be too small for the investment banker to want to invest the time and effort needed to arrive at a price.

Closed-end funds tend to hold stocks that are less liquid than stocks held by open-end funds. is this characteristic an advantage for closed-end funds that want to achieve high returns?

The investment in illiquid stocks may be an advantage because it allows the closed- end funds to purchase stocks that are not followed by most investors. These stocks are more likely to be mispriced than other stocks.

How did REITs perform during the most recent U.S. real estate bubble and crash?

The market capitalization of U.S. REITs grew from $9 billion to $438 billion from 1990 to 2006, but declined to $271 billion in 2009 due to the housing bubble burst. Thus, most REITs performed poorly during the crisis.

financial intermediation

The purchase of direct claims (IOUs) with one set of characteristics from DSUs and the transformation of them into indirect claims (IOUs) with a different set of characteristics individual equity In a pension plan, the concept of paying benefits in direct relation to contributions.

What is the purpose of index funds?

The purpose of index funds is to mimic the performance of the underlying index such as the S&P500. Their purpose is to provide investors with a rate of return similar to the stock market as a whole. Other equity mutual funds are actively managed, i.e., funds conduct research and pick individual stocks they believe will perform better than the market.

In what ways do some security dealers and stockbrokers serve as financial intermediaries?

They serve as financial intermediaries by holding securities and cash for some customers and making loans of securities and cash to other customers. In addition, some allow customers to write checks on their credit balances or use credit cards to access those balances. Further, a number of brokers and dealers have acquired subsidiaries that make commercial or consumer loans, financed by sales of commercial paper or other liabilities.

Explain how the credit crisis encouraged some securities firms to convert to a bank holding company (BHC) structure.

While securities firms were allowed to borrow short-term funds from the Federal Reserve during the credit crisis, their conversion to a bank holding company would give them permanent access to Federal Reserve funding. Also, the bank holding company structure results in a higher required capital and greater degree of regulatory oversight by the Federal Reserve. The securities firms may be viewed as safer because of their conversion to bank holding companies, and this may also allow for easier access to funding.

What is dollar-cost averaging?

With dollar-cost averaging, the investor buys a fixed dollar's worth of a given security at regular intervals regardless of the security's price or the current market outlook.

From the viewpoint of an individual investor, what is the potential tax disadvantage of investing in a mutual fund?

You cannot control the timing of when to take a loss or gain on a mutual fund like you can when you own an individual stock. Furthermore, in a bull market you may buy into a fund that has previously accumulated gains for which you will be taxed even though you were not a fund holder at the time of the gain.

What is a load mutual fund?

a load fund charges a fee for accepting investments. The fees may be at the beginning of the investment or may be charged when the funds are withdrawn

Institutional investors pool funds that come from many individuals and take much __________ stakes in a specific stock. Thus, the institutional investors have an incentive to make the correct investment choices (because of the large investment) and then to monitor the companies in which they invest. As a result, there is _______ governance over companies than if stocks were owned only by small investors.

bigger; more

What does the financial system do?

brings together savers and borrowers

How are financial institutions classified?

by their origins, purposes, and major characteristics: depository institutions contractual institutions investment funds other

Why do financial systems need to be regulated?

consumer protection and stabilization of financial systems.

DSU

deficit spending unit An economic unit that has expenditures exceeding current income. A DSU sells financial claims on itself (liabilities) or sells equity to obtain needed funds.

Financial intermediaries transform claims to reduce the recurring problem of unmatched preferences:

denomination divisibility currency transformation maturity flexibility credit risk diversification liquidity

How does Direct finance work?

if preferences of SSUs and DSUs match as to amount, maturity, and risk.

Should you get better performance from a load fund in comparison to a no-load fund?

no, research evidence indicates one is not necessarily superior to the other in terms of performance.

Principal/Agent Splits: When people make decisions about someone else's money, they lose their fear and tend to take __________ decisions than they would with their own money.

riskier