Chapter 2: Financial Markets and Institutions

Avg Vol

(3m) the average daily volume for the past 3 months

Commercial Banks

- Bank of America, SunTrust, Citibank, Chase Bank, & Wells Fargo are all examples. They are the one stop shopping experience for financial services much like a department store like Macy's or Dillard's. Historically, they are the major checkable depository agencies within the country, although credit unions today have infringed somewhat on this territory.

Dutch Auction

- Google's stock was sold in a different approach with regard to its IPO. Investors were allowed to place bids on what they'd pay on a per share basis. Then, shares were sold to those who had bid the highest, and then to everyone else in a top down approach until all of the shares were sold. Google's IPO price turned out to be $85 per share.

Credit Unions

- Owned by their members, CUs are often the cheapest source of funds available to borrowers.

Hedge Funds

- Similar to mutual funds and ETFs. However, unlike ETFs and mutual funds, hedge funds are not registered with the SEC. They are essentially large pools of money for wealthy investors to participate in. Minimum investments to participate in such a fund often exceed $1 million. Hedge Funds are marketed to institutional investors and to individual investors with high net worths.

Investment Banks

- help corporations (1) design securities, (2) buy securities from the corporations, (3) and resell these securities to savers.

Primary Markets

- markets in which companies raise new capital.

Secondary Markets

- markets in which existing securities, those that are already outstanding, are traded.

Futures Markets

- markets in which the participants agree today to buy or sell an asset at some future date. Commodities are traded in futures markets and can serve as a Hedge for the purchasing company. What does this mean?

Public Markets

- markets where there are standardized contracts, the contracts are always the same so that market participants will always know what to expect.

Private Markets

- markets where transactions are conducted directly between two parties. Bank loans are an example.

Change

% change from previous price

primary market

The first time that securities are sold, they are sold in the...

mortgage backed securities

The hard lessons from 2008 stemmed from the exorbitant losses that were experienced by investors (both intuitional & individual) who had purchased...

thinly traded

When a stock is ___________________, because it may be a new company, small company, or struggling company, there are few buy and sell orders. The companies, as a result, are not listed on one of the major exchanges.

Bull and Bear markets

When the Economy contracts stock market is called...

securities

When the housing market collapsed, the value of these __________ plummeted, destroying the balance sheets of many financial institutions.

HOT ISSUE

When the public really wants to buy an IPO b/c it's a ______________, investment banks often favor selling to large institutional investors, leaving the small individual investors stuck out in the cold not being able to buy the new IPO shares

financial institutions

With the exception of Hedge Funds and Private Equity Funds, _____________________________ are regulated to ensure the safety of these institutions and to protect investors.

Technological innovation

along with the globalization of banking and international trade, has led to deregulation in many markets, increasing competition throughout the world.

Market stock volume

amount of stocks being traded

Indirect Transfers through Investment Banks

an investment bank underwrites (i.e. - serves as the middleman) and facilitates the issuance of the securities. The company sells its stocks or bonds to the underwriter, which then sells these same securities to the savers.

Derivatives

any investment whose value is dependent on some other investment. For example, mortgage backed securities, stock options, call & put options and mutual funds.

Stock prices

are determined in the financial markets.

Physical Asset Markets

are for products such as gold, wheat, autos, real estate, computers and machinery. the market of those tangible assets which can liquidate for the payment of the debts which are unpaid

Pension Funds

are retirement plans funded by corporations or government agencies for their workers.

Broker

doesn't personally get involved in a transaction, a middle man helps negotiate a transaction between a buyer and seller for a commission

capital

many companies go public to bring in new ____________ and to give their founders the opportunity to cash out some of their shares.

Market Cap

market capitalization = # of shares outstanding x current price

Spot Markets

markets in which assets are bought on the spot. Payment and immediate delivery

Exchange Traded Funds

similar to mutual funds but instead of being offered for sale through a mutual fund company, they are offered for sale by the actual stock exchanges themselves. Are traded in the secondary market Examples include Spiders (S&P 500), Diamonds (Dow) and Cubes (Nasdaq).

Penny stocks

stock with price below 5 dollars ex:

Round lot

stocks in 100 increments

Penny stocks

stocks only traded in the electronic market

Money Markets

term, highly liquid debt securities.

Direct Transfers

the business sells its stocks or bonds directly to the savers. No financial institutions are used.

Prev Close

the closing price on the previous day

2008

the leading financial institutions in our country were in financial trouble.

Volume

the number of shares that were traded that day

Open

the opening price today

Bid

the price that investors are bidding to buy at

Ask

the price that investors are selling at

Day's Range

the range of prices for that day

52 wk Range

the range of prices for the last 52 weeks

reason for saving

they expect to earn a return on their investment.

The U.S. Government

through its Troubled Asset Relief Program (TARP), allocated $700 Billion to purchase or insure the troubled assets of many of the surviving institutions.

Trade Time

time of last trade

commercial banking

used to be simple... A bank would only loan out the funds that it had received from depositors. A bank held the loan until it matured. The downside to this was that the banks had limited funding to make new loans as well as the fact that most of their loans were made to businesses and individuals in their local market. This meant that if the local economy struggled, the bank would be hurt. Bank can spread risks

Bear

vicious, lose a lot, contracting economy, very volatile

NASDAQ(National Association of Securities Dealers & Automated Quotations)

The computerized network used by the brokers and dealers is known as the...

BID ASK SPREAD

The difference between the bid and the ask is called the _______________________ and represents the dealer's mark-up.

Indirect Transfers through a Financial Intermediary

- a financial intermediary, such as a bank, mutual fund company, pension fund, or insurance company, sells its investment to the savers. With the capital from the savers in hand, the intermediary then purchases the stocks or bonds of the business who need capital.

Mutual Funds

- accept money from savers through the sale of their own company's securities. Then, with the money from the savers, they use these funds to buy stocks, long term bonds, or short-term debt instruments issued by business and government units.

Private Equity Companies

- similar to hedge funds, however, instead of buying stock in a company, private equity firms actually buy the entire firm and then manage it. Such companies as Albertson's, Hertz, and Clear Channel Communications (the parent company of XL106.7 & WJRR 104.1) have been purchased by private equity firms in recent years.

Underwriters

- since investment banks guarantee to help a firm raise capital, they are called underwriters.

Life Insurance Companies

- take savings in the form of annual premiums and invest this capital into stocks, bonds, real estate and mortgages and to make payouts to their policy holders' beneficiaries when there is a death of one of their customers.

commercial banks

9 of the top investment banks in the world are also listed as...

investors

Waiting for the recession to subside, many __________ either put their money into banks or purchased U.S. Treasury Securities.

housing prices

Because the economy was buoyed by the mistaken belief that ___________________________________ would never fall, many people viewed these securities as solid investments. The high credit ratings from such firms as Moody's and Standard & Poor's only exacerbated the future problem.

National Association of Securities Dealers (NASD)

Brokers and dealers who participate in the OTC market are members of a self-regulatory body known as __________ which licenses brokers and oversees trading.

can

Companies ________ go public without raising additional capital. Ford Motor Company did this. When Henry Ford died, he left a large block of stock to the Ford Foundation. When the foundation sold the stock to raise funds for charitable purposes, Ford became a publicly traded company, even though there was no additional capital that was raised.

money

Companies need ______________(i.e. - to raise capital) in order to grow and they go to the financial markets and institutions in order to be matched with the savings from households, firms and governments.

market makers

Dealers buy and sell stocks from individual investors from their company's own account. The dealers are thus called __________________ b/c they make a market for investors when one otherwise might not exist.

speculative

Derivatives can also be used for ____________ purposes. For example, you could purpose oil futures today that are to be delivered in 6 months. You do not wish to take possession of the actual oil. Instead, you are banking that the price per barrel will rise in the future and as your contract date nears, you'll be able to sell your oil futures contract for more than you paid for it.

reduce

Derivatives can be used to ____________ risk. For example, a delivery company like FedEx can purchase Oil Futures, a contract that allows them to purchase oil at a set price effectively allowing the company to lock in their operating costs with regard to oil. If the price of oil rises in the future, FedEx is not hurt b/c they will have already locked in their costs. This example illustrates how a company can use derivative securities (a futures contract in this example) to HEDGE away their risk.

illiquid

During the time, the financial markets became ____________ The flow of capital dried up, even for individuals and companies with the highest credit rating.

fall

Economy is contracting the number of IPO's...

financial system

If the economy does not have a well-functioning ___________________________, it will be difficult for it to reach its full potential.

derivatives

Increased use of _________________ throughout the world. Caution: this can be dangerous when individuals and firms are purchasing investments that they do not fully understand.

Capital Markets

Intermediate and long term debt and stocks.

listing requirements

The NASDAQ has grown through the years and has become an organized securities market that has its own

Financial Services Corporations

Large conglomerates that combine many different financial institutions within one company. For example, Citigroup owns Citibank (commercial bank), Smith Barney (investment bank and securities brokerage), insurance companies, and leasing companies.

demanders

The _________________________ for capital must pay this return on investment.

2 types of stock markets

Physical Exchanges (NYSE), Electronic Dealer-Based Markets (Nasdaq, OTC, and ECN markets)

stock market

The most active secondary market and most important one to financial managers is...

intermediaries

The presence of the ____________________________ greatly increase the efficiency of money flowing through the economy.

securitizing

To address these concerns, the financial system came up with the idea of ____________________ the loans. Here's how the process works: o An investment bank creates a company that buys a large # of loans from banks from around the country. o The investment bank then creates and sells a security that is backed by the loan payments. o Such investments began to surface in the 1970s. o Advantages to the banks: Banks no longer have to hold their own loans. Banks can generate larger revenues annually b/c they can create new loans quicker. o Mortgage backed securities: Traded in the open market

OTC

To provide liquidity in such instances, the _________ market is a collection of brokers and dealers connected electronically by telephones and computers, that provides for trading in the unlisted securities.

Financial Asset Markets

bank deposits, loans, CD's, Stocks, bonds, and derivative securities.

Prime market

biggest companies in the world, low risk, best investment

Dealer/market maker/specialist

can act like a broker, buys other shares from investment accounts so market keeps moving if one side cannot be found even if there is a loss at the time, someone who has a business in buying and selling securities

Savers and Demanders

can be households, companies or governments

A strong financial system

capital flowing freely throughout the economy, a necessary ingredient for a growing and prosperous economy.

Bull

charges and runs, expanding economy

Market volatility

frequency (often) and magnitude (severe, wide) of price movements, more often=higher

Subprime market

greater risk of default, more volatile, thinly traded

Mortgage broker

help them get a loan by contacting other companies, get a mortgage from a third party

stock broker

helps facilitate a trade between buyers and sellers of stock and charge a commission

The Capital Allocation Process

how does capital flow from savers to demanders of capital

Standardization

increases the efficiency of the market because all traders know what to expect when it comes to what is being bought and sold.

Odd lot

increments of stock bought for less than 100

S & P

indicates direction of the economy, shows what is going to happen in future (6 months)

Thinly traded stock

no market/buyers/sellers

NYSE

only place that has a physical floor-based trading model

P/E

price earnings ratio = current price divided by EPS

Last Trade

price of last trade

Dealers

quote the price that they will pay (BID price) for a stock and the price at which they will sell (ASK price) their shares at.

Stock price falls

you win in a short sale

Physical Location Stock Exchanges

• The NYSE limits the number of people/companies that are allowed to trade on its floor. • Trading licenses are auctioned to member organizations and cost about $50,000 per year. • The trading platform is an "auction" market where "open outcry" between buyers and sellers determines each security's price.