BU283 Chapter Notes - Chapter 1: Investment Banking, Commercial Paper, Initial Public Offering
BU283 Chapter 1: Introduction to Finance
Four Facets of Finance
-Academic finance, Business finance, Careers in finance, Personal finance
-Capital Structure Decision: Who’s going to pay for the party (e.g. borrow money or issue
stock to shareholders)
-Mutual Fund: Collection of different stock or bonds
Financial System
-Financial Markets: Place in which suppliers and users of capital interact
• Encompass a multitude of securities, including shares, bonds, and other securities
-Money Market: The market for bonds with a maturity of less than 1 year
• Are all zero coupon bonds and include bankers’ acceptances, commercial paper, and
government T-Bills
-Capital Market: Market for long-term securities with original maturity greater than 1 year
• Main securities are bonds and stocks issued by companies and governments
-Primary Market: Market where securities are traded for the first time and where initial
offerings to the public are made
-Secondary Market: Market for trading securities after they have been issued
• Auction: A form of securities trading that features many competitive buyers and sellers
who simultaneously issue orders through brokers
o Buyer’s price: Bid; Seller’s price: Ask
• Dealer Markets: An alternative to an auction market; Market participants trade over the
telephone or electronic network
o No central exchange or meeting place
o Trading doesn’t occur between buyers and sellers, but through a network of
middlemen called dealers, who carry inventories of securities and stand ready to
buy and sell at posted price
3.1 Overview
-Financial System: System that transfers money between suppliers and users; Comprises
financial intermediaries, markets, and instruments (securities)
• Intermediaries include (commercial) banks, investment banks, funds, and insurance
companies
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FINANCIAL INTERMEDIARIES
-Banks:
• Take deposits from savers and lend to individuals (i.e. mortgages) and businesses (i.e.
lines of credit and commercial loans)
• Profit from the spread between the rate charged on loans and the rate paid on deposits
-Investment Banks:
• Help companies, municipalities, and states/provinces raise capital by selling securities to
the public
• Profit from spread between price paid to security issuer and price charged to investor
• Also provide financial consulting to companies
-Pension, Mutual, and Hedge Funds:
• Invest in private businesses and financial securities on behalf of individual savers
• Profit from management fees charged to savers
-Insurance Companies:
• Collect premiums from individuals/businesses for life and property insurance
• Invest premium income prior to paying out claims
• Profit if premium plus investment income exceeds claims
SUPPLIERS
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-Individuals:
• Primary investors in the economy
• They ultimately own every business asset
• As individuals plan for retirement, they invest their savings in the financial system with
the expectation of converting those savings into greater savings in the future
-Businesses:
• Supply funds in the form of retained earnings
USERS
-Individuals:
• Borrow to finance homes, cars, and holidays
-Businesses:
• Use money to start new projects
• Borrow money to raise equity
-Governments:
• Borrow to pay for operating deficits and to fund real capital, like new highways
3.2 Money Markets
-Money isn’t traded in the money markets
-In a money market, the securities:
• Are short term
• Are highly liquid (easy to sell)
• Mature in less than 1 year from their issue date
-Investors use money market as interim investment that provides a higher return than cash
-Most investment funds and financial intermediaries (such as banks) hold money market
securities to meet withdrawals
-Money markets have large face values, which precludes most individual investors from buying
-Individuals participate in money market when they buy units in money market mutual funds
• Money Market Mutual Funds (MMMFs): A pooling of investor money that’s
professionally managed; Investors own shares/units in the pooled fund and are entitled to
a proportionate share of earnings
o Each fund has specific investment objective that guides the types of securities that
it owns
-Sellers of money market securities find money market provides low-cost source of temporary
funds
-Banks borrow from money market to meet short-term reserve requirement shortages
-Government funds large portion of national debt by issuing treasury bills
• Treasury Bills (T-Bills): Bonds issued by the Canadian gov. that have maturities of 91
days, 182 days, or 52 weeks; Are zero coupon bonds
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Document Summary
Academic finance, business finance, careers in finance, personal finance. Capital structure decision: who"s going to pay for the party (e. g. borrow money or issue stock to shareholders) Mutual fund: collection of different stock or bonds. Financial markets: place in which suppliers and users of capital interact: encompass a multitude of securities, including shares, bonds, and other securities. Money market: the market for bonds with a maturity of less than 1 year: are all zero coupon bonds and include bankers" acceptances, commercial paper, and government t-bills. Capital market: market for long-term securities with original maturity greater than 1 year: main securities are bonds and stocks issued by companies and governments. Primary market: market where securities are traded for the first time and where initial offerings to the public are made. Financial system: system that transfers money between suppliers and users; comprises financial intermediaries, markets, and instruments (securities) Intermediaries include (commercial) banks, investment banks, funds, and insurance companies.
