Chapter 2: Financial Markets and Institutions

Three years ago you purchased 500 shares in the Kellogg Company, but yesterday you sold 200 those shares through your broker. This is: A. A secondary market transaction. B. A futures market transaction. C. A primary market transaction. D. A money market transaction. E. An over-the-counter market transaction.

A. A secondary market transaction.

Which of the following statements about financial markets is CORRECT? A. The New York Stock Exchange is an auction market, and it has a physical location. B. Home mortgage loans are traded in the money market. C. While the distinctions are blurring, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. D. Capital markets deal only with common stocks and other equity securities. E. If an investor sells shares of stock through a broker, then it would be a primary market transaction.

A. The New York Stock Exchange is an auction market, and it has a physical location.

Of the following statements, which is CORRECT? A. If H&R Block issues additional shares of common stock through an investment banker, this would be a secondary market transaction. B. As they are generally defined, money market transactions involve debt securities with maturities of less than one year. C. If you purchase 100 shares of Facebook stock from your friend Sam, this is an example of a primary market transaction. D. Only institutions, and not individuals, can engage in derivative market transactions. E. The NYSE is an example of an over-the-counter market.

B. As they are generally defined, money market transactions involve debt securities with maturities of less than one year.

One of the following statements about issuing and owning securities is incorrect. Which statement is NOT CORRECT? A. When a corporation's shares are owned by a few individuals, we say that the firm is closely, or privately, held. B. Going public establishes a firm's true intrinsic value and ensures that a liquid market will always exist for the firm's shares. C. The stock of publicly owned companies must generally be registered with and reported to a regulatory agency such as the SEC. D. It is possible for a firm to go public and yet not raise any additional new capital for the firm itself. E. When stock in a closely held corporation is offered to the public for the first time, the transaction is called going public, or an IPO, and the market for such stock is called the new issue, or IPO, market.

B. Going public establishes a firm's true intrinsic value and ensures that a liquid market will always exist for the firm's shares.

Which of the following statements about IPOs is CORRECT? A. Sometimes, a company is forced to issue more shares than it wants to sell in an IPO because the share price is so low and demand is high. B. In a Dutch auction, investors who want to buy shares in an IPO submit bids indicating how many shares they want to buy and the price they are willing to pay. The company determines how many shares it wants to sell. The highest price that enables the company to sell the desired number of shares is the price that all buyers must pay. C. The term "IPO" stands for Individual Purchase Order, and it is the price at which individual shares of a new company are offered for purchase. D. IPO prices are generally established by the market, and buyers of the new stock must pay the price that prevails at the close of trading on the day that the stock is offered to the public. E. It is possible that the price set in an IPO is so high that investors will refuse to buy the number of shares that the company wants to sell. In this situation, the IPO is said to be oversubscribed.

B. In a Dutch auction, investors who want to buy shares in an IPO submit bids indicating how many shares they want to buy and the price they are willing to pay. The company determines how many shares it wants to sell. The highest price that enables the company to sell the desired number of shares is the price that all buyers must pay.

Which of the following is an example of a capital market instrument? A. Commercial paper. B. Preferred stock. C. Money market mutual funds. D.Banker's acceptances. E. U.S. Treasury bills.

B. Preferred stock.

Thinking about the financial markets, which of the following statements is CORRECT? A. The most important difference between spot markets versus futures markets is the maturity of the instruments that are traded. Spot market transactions involve securities that have maturities of less than one year, whereas futures markets transactions involve securities with maturities greater than one year. B. Capital market transactions involve only preferred stock or common stock. C. Money market transactions only involve securities denominated in U.S. dollars. D. Both NASDAQ dealers and specialists on the NYSE hold inventories of stocks. E. If General Electric were to issue new stock this year, this would be considered a secondary market transaction as the company already has stock outstanding.

D. Both NASDAQ dealers and specialists on the NYSE hold inventories of stocks.

Which of the following statements about hedge funds is CORRECT? A. Hedge funds are legal in the United States, but they are not permitted to operate in Europe or Asia. B. Hedge funds have more in common with investment banks than with any other type of financial institution. C. Hedge funds are extremely popular in Europe and Asia, but they are rarely used or made available in the United States. D. Hedge funds are not as highly regulated as most other types of financial institutions. The justification for this light regulation is that only the wealthiest investors invest in hedge funds, and they understand the risks. E. Hedge funds have more in common with commercial banks than with any other type of financial institution.

D. Hedge funds are not as highly regulated as most other types of financial institutions. The justification for this light regulation is that only the wealthiest investors invest in hedge funds, and they understand the risks.

Which of the following statements describes a primary market transaction? A. You sell 200 shares of Kroger stock on the NYSE through your broker. B. You buy 200 shares of Honda stock from your brother. The trade is not made through a broker; you just give him cash and he gives you the stock. C. One financial institution buys 200,000 shares of BP stock from another institution. An investment banker arranges the transaction. D. Microsoft sells 2,000,000 shares of treasury stock to its employees when they exercise options that were granted in prior years. E. Facebook issues 2,000,000 shares of new stock and sells them to the public through an investment banker.

E. Facebook issues 2,000,000 shares of new stock and sells them to the public through an investment banker.

Which of the following is an example of securities traded in money markets? A. Common stocks. B. Long-term bonds. C. Consumer automobile loans. D. Foreign currencies. E. Short-term debt securities such as Treasury bills and commercial paper.

E. Short-term debt securities such as Treasury bills and commercial paper.

Which of the following statements about financial institutions and securities is CORRECT? A. Money markets are markets for long-term debt and common stocks. B. Money market mutual funds usually invest their money in a well-diversified portfolio of liquid common stocks. C. While the distinctions are becoming blurred, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties. D. A liquid security is a security whose value is derived from the price of some other "underlying" asset. E. The NYSE operates as an auction market, whereas NASDAQ is an example of a dealer market.

E. The NYSE operates as an auction market, whereas NASDAQ is an example of a dealer market.

You recently sold 100 shares of Facebook stock to your uncle. You had the certificates and gave them to him. In exchange, he wrote you a check. Which of the following best describes this transaction? A. This is an example of a primary market transaction. B. This is an example of an exchange of physical assets. C. This is an example of a money market transaction. D. This is an example of a derivative market transaction. E. This is an example of a direct transfer of capital.

E. This is an example of a direct transfer of capital.

The acronym IPO stands for "independent public offering."

False

A corporation is said to be publicly owned if its shares are held by the investing public, which may include individuals, other corporations, and institutional investors.

True

A financial intermediary is a corporation that takes funds from investors and then provides those funds to those who need capital. One example is a commercial bank, which takes in demand deposits and then uses that money to make long-term mortgage loans.

True

A stock is considered to be closely held if the corporation's shares are owned by a few individuals who are associated with the firm's management.

True

A stock's return can be broken out into its dividend yield (which might be zero) plus a capital gains yield (which could be positive, negative, or zero). These returns can be calculated for all of the stocks in the S&P 500. You can find an indicator of the "return on the market" by calculating the weighted average of those returns, using each stock's total market value.

True

Data from the Dow Jones Industrial Average, the S&P 500 Index, and the NASDAQ Composite Index give information about past stock returns.

True

Financial institutions are more diversified today than they were in the past, when federal separated investment banks, commercial banks, insurance companies, and other financial companies. Today, large financial services corporations offer services that they could not in the past.

True

Hedge funds are similar to mutual funds except that they are less regulated, have more flexibility regarding what they can buy, and restrict their investors to wealthy, sophisticated individuals and institutions.

True

The equation used to find the annual rate of return on any given stock is the stock's dividend for the year plus the change in the stock's price during the year, divided by its beginning-of-year price. When applied to a large portfolio of stocks, like those in the S&P 500, the average of the returns on each stock can be used to find stock market returns for the year in question.

True

To find the annual rate of return on any given stock, add the stock's dividend for the year plus the change in the stock's price during the year, then divide by its beginning-of-year price.

True