Chapter 01 Financial Markets and Institutions

8/17/2019 Chapter 01 Financial Markets and Institutions

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©2007, The McGraw-Hill Companies, All Rights

Chapter OneIntroduction


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1-3- ©2007, The McGraw-Hill Companies, All Rights

Why study Financial Markets and

Institutions?

• They are the cornerstones of the

overall financial system in whichfinancial managers operate

• Individuals use both for investing

• Corporations and governments useboth for financing

• They are the cornerstones of the

overall financial system in which

financial managers operate

• Individuals use both for investing

• Corporations and governments useboth for financing


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Overview of Financial Markets

• rimary Markets versus !econdary

Markets

• Money Markets versus Capital

Markets

• Foreign "#change Markets

• rimary Markets versus !econdary

Markets• Money Markets versus Capital

Markets

• Foreign "#change Markets


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rimary Markets versus !econdary

Markets

• rimary Markets

– markets in which users of funds e!"!

cor#orations$ "overnments% raise funds &'issuin" financial instruments e!"! stocks and

&onds%

• !econdary Markets – markets where financial instruments are traded

amon" investors e!"! ()*+$ (,*,.%

• rimary Markets

– markets in which users of funds e!"!

cor#orations$ "overnments% raise funds &'issuin" financial instruments e!"! stocks and

&onds%

•!econdary Markets – markets where financial instruments are traded

amon" investors e!"! ()*+$ (,*,.%


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1-- ©2007, The McGraw-Hill Companies, All Rights

Money Markets versus Capital Markets

• Money Markets

– markets that trade de&t securities with

maturities of one 'ear or less e!"! 0s$ 2!*!

reasur' &ills%

• Capital Markets

– markets that trade de&t &onds% and euit'stock% instruments with maturities of more

than one 'ear

• Money Markets

– markets that trade de&t securities with

maturities of one 'ear or less e!"! 0s$ 2!*!reasur' &ills%

• Capital Markets

– markets that trade de&t &onds% and euit'stock% instruments with maturities of more

than one 'ear


7/211-- ©2007, The McGraw-Hill Companies, All Rights

Money Market Instruments

Outstanding$ %&&'()''* +,-n.


8/211-6- ©2007, The McGraw-Hill Companies, All Rights

Capital Market Instruments

Outstanding$ %&&'()''* +,-n.



Foreign "#change Markets

• /F01 markets deal in trading one currency

for another +e2g2 dollar for yen.

• The /spot1 F0 transaction involves theimmediate e#change of currencies at the

current e#change rate

• The /forward1 F0 transaction involves thee#change of currencies at a specified date in

the future and at a specified e#change rate

• /F01 markets deal in trading one currency

for another +e2g2 dollar for yen.

• The /spot1 F0 transaction involves theimmediate e#change of currencies at the

current e#change rate

• The /forward1 F0 transaction involves thee#change of currencies at a specified date in

the future and at a specified e#change rate



3erivative !ecurity Markets

• The markets in which derivative

securities trade2

• 3erivative !ecurity

– ,n a"reement &etween two #arties to e9chan"e

a standard uantit' of an asset at a

#redetermined #rice on a s#ecified date in thefuture!

• The markets in which derivative

securities trade2

• 3erivative !ecurity

– ,n a"reement &etween two #arties to e9chan"e

a standard uantit' of an asset at a

#redetermined #rice on a s#ecified date in thefuture!



Overview of Financial Institutions

• Institutions that #erform the essential

function of channelin" funds from thosewith sur#lus funds to those with shorta"es

of funds e!"! &anks$ thrifts$ insurance

com#anies$ securities firms andinvestment &anks$ finance com#anies$

mutual funds$ #ension funds%

• Institutions that #erform the essential

function of channelin" funds from those

with sur#lus funds to those with shorta"es

of funds e!"! &anks$ thrifts$ insurance

com#anies$ securities firms andinvestment &anks$ finance com#anies$

mutual funds$ #ension funds%


12/211-1:- ©2007, The McGraw-Hill Companies, All Rights

Flow of Funds in a World without FIs4

3irect Transfer

5sers of Funds+Corporations.

!uppliers ofFunds

+6ouseholds.

;inancial 0laims

+uit' and de&t

instruments%

0ash

"#ample4 , firm sells shares directl' to investors without

"oin" throu"h a financial institution!



Flow of Funds in a world with FIs4

Indirect transfer

5sers of FundsFI

+-rokers.

FI

+7sset

transformers.

!uppliers of Funds

;inancial 0laims

+uit' and de&t securities%

;inancial 0laims

e#osits and insurance #olicies%

0ash 0ash


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• !ecurities firms and investment banks

– financial institutions that underwrite securities

and en"a"e in securities &rokera"e and tradin"

• Finance companies

– financial institutions that make loans to

individuals and &usinesses• Mutual Funds

– financial institutions that #ool financial

resources and invest in diversified #ortfolios

• ension Funds

– financial institutions that offer savin"s #lans for

retirement

• !ecurities firms and investment banks

– financial institutions that underwrite securities

and en"a"e in securities &rokera"e and tradin"• Finance companies

– financial institutions that make loans to

individuals and &usinesses• Mutual Funds

– financial institutions that #ool financial

resources and invest in diversified #ortfolios

• ension Funds

– financial institutions that offer savin"s #lans for

retirement



!ervices erformed by Financial

Intermediaries

• Monitoring Costs

• 8i9uidity and rice :isk • Transaction Cost !ervices

• Maturity Intermediation

• 3enomination Intermediation

• Monitoring Costs

• 8i9uidity and rice :isk • Transaction Cost !ervices

• Maturity Intermediation

• 3enomination Intermediation



!ervices rovided by FIs -enefiting the

Overall "conomy

• Money !upply Transmission

•Credit 7llocation

• Intergenerational Wealth Transfers

• ayment !ervices

• Money !upply Transmission

• Credit 7llocation

• Intergenerational Wealth Transfers

• ayment !ervices



:isks Faced by Financial Institutions

• Interest :ate :isk

• Foreign "#change :isk

• Market :isk

• Credit :isk • 8i9uidity :isk

• Off(-alance(!heet :isk

• Technology :isk • Operational :isk

• Country or !overeign :isk

• Insolvency :isk

• Interest :ate :isk

• Foreign "#change :isk

• Market :isk

• Credit :isk • 8i9uidity :isk

• Off(-alance(!heet :isk

• Technology :isk

• Operational :isk

• Country or !overeign :isk

• Insolvency :isk



:egulation of Financial Institutions

• FIs provide vital financial services to

all sectors of the economy; therefore$

their regulation is in the public interest

• In an attempt to prevent their failure

and the failure of financial marketsoverall

• FIs provide vital financial services to

all sectors of the economy; therefore$

their regulation is in the public interest

• In an attempt to prevent their failure

and the failure of financial marketsoverall

Documents

Chapter 01 Financial Markets and Institutions