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McGraw-Hill/Irwin Copyright © 2008 The McGraw-Hill Companies, Inc., All Rights Reserved.
Asset Classes and Asset Classes and Financial Financial InstrumentsInstruments
Lecture 2
2-2
Major Classes of Financial Assets
or Securities
• Money market• Bond market• Equity markets• Indexes• Derivative markets
2-3
2-4
Money Market Instruments
• Treasury bills• Certificates of deposits • Commercial Paper• Bankers Acceptances
2-5
Money Market Instruments
• Eurodollars• Repurchase Agreements (RPs) and
Reverse RPs• Brokers’ Calls• Federal Funds• LIBOR Market
2-6
Figure 2.1 Money Rates
2-7
Table 2.2 Components of Table 2.2 Components of the Money Marketthe Money Market
2-8
Figure 2.2 Treasury Bills
2-9
Figure 2.3 Spreads on CDs and Figure 2.3 Spreads on CDs and Treasury BillsTreasury Bills
2-10
An investor in a T-bill earns interest by
a. Receiving interest payments every 90 days
b. Receiving dividend payments every 30 days
c. Converting the T-bill at maturity into a higher valued T-note
d. Buying the bill at a discount from the face value received at maturity
2-11
2.2BOND MARKET
2-12
Bond Market
• Treasury Notes and Bonds• Federal Agency Debt• International Bonds• Inflation-Protected Bonds• Municipal Bonds• Corporate Bonds• Mortgages and Mortgage-Backed
Securities
2-13
Treasury Notes and Bonds
• Maturities– Notes – maturities up to 10 years– Bonds – maturities in excess of 10 years
• Par Value - $1,000• Quotes – percentage of par
2-14
Figure 2.4 Treasury Notes Figure 2.4 Treasury Notes and Bondsand Bonds
2-15
Federal Agency Debt
• Major issuers– Federal Home Loan Bank– Federal National Mortgage Association
(Fannie Mae)– Government National Mortgage
Association (Ginnie Mae)– Federal Home Loan Mortgage
Corporation (Freddie Mae)
2-16
Municipal BondsMunicipal Bonds
• Issued by state and local governments
• Types– General obligation bonds– Revenue bonds
• Industrial revenue bonds
• Maturities – range up to 30 years
2-17
Municipal Bond Yields
• Interest income on municipal bonds is not subject to federal and sometimes state and local tax
• To compare yields on taxable securities a Taxable Equivalent Yield is constructed
2-18
Corporate Bonds
• Issued by private firms • Semi-annual interest payments• Subject to larger default risk than
government securities• Options in corporate bonds
– Callable– Convertible
2-19
Figure 2.7 Investment Grade Bond Listings
2-20
• Developed in the 1970s to help liquidity of financial institutions
• Proportional ownership of a pool or a specified obligation secured by a pool
• Market has experienced very high rates of growth
Mortgages and Mortgage-backed Securities
2-21
Figure 2.8 Mortgage-Backed Figure 2.8 Mortgage-Backed Securities OutstandingSecurities Outstanding
2-22
__________ is not a money market instrument.
a. A certificate of depositb. A treasury billc. A treasury bondd. Commercial paper
2-23
EQUITY SECURITIES
2-24
Equity Markets
• Common stock– Residual claim– Limited liability
• Preferred stock– Fixed dividends - limited– Priority over common– Tax treatment
• Depository receipts
2-25
Figure 2.9 Stock Market Listings
2-26
DiscussionA. If you buy 100 shares of HSBC common stock, to what are you
entitled?B. What is the maximum gain?C. If you pay $85 per share, what is the
maximum loss?
2-27
STOCK AND BOND MARKET INDEXES
2-28
• There are several indexes worldwide such as:– Dow Jones Industrial Average (DJIA)– Nikkei Average– Hang Seng Index
• Offer ways of comparing performance of managers
Stock Market Indexes
2-29
• Representative?• Broad or narrow?• How is it weighted?
– Price weighted (DJIA)– Market weighted (S&P 500, NASDAQ)– Equal (Value Line Index)
Factors for Construction of Factors for Construction of Stock IndexesStock Indexes
2-30
Table 2.4 Data to Construct Table 2.4 Data to Construct Stock Price IndexesStock Price Indexes
2-31
DJIADJIA Price-Weighted Average Price-Weighted Average
• Using data from Table 2.4; example 2.2Initial value = $25 + $100 = $125Final value = $30 + $ 90 = $120Percentage change in portfolio value =Initial index value = (25 + 100)/2 = 62.5Final index value = (30 + 90)/2 = 60
Percentage change in index = -2.5/62.5 = -.04 = -4%
2-32
S&P’s Composite 500S&P’s Composite 500 Market Value-Weighted Index Market Value-Weighted Index
• Using data from Table 2.4:Using data from Table 2.4:– ABC would have five times the weight ABC would have five times the weight
given to XYZgiven to XYZ
• Initial Value = 25*20 + 100*1 = 600Initial Value = 25*20 + 100*1 = 600• Final Value = 30*20 + 90*1 = 690Final Value = 30*20 + 90*1 = 690• Index Value = 100 X (690/600) = 115Index Value = 100 X (690/600) = 115• Percentage change in index = 15%Percentage change in index = 15%
2-33
Value LineValue LineEqually Weighted IndexEqually Weighted Index
• Places equal weight on each return• Using data from Table 2.4
Start with equal dollars in each investmentABC increases in value by 20%XYZ decreases by 10%Need to rebalance to keep equal weights
2-34
Examples of Other Indexes - Domestic
• Dow Jones Industrial Average (30 Stocks)
• Standard & Poor’s 500 Composite• NASDAQ Composite• NYSE Composite• Wilshire 5000
2-35
Figure 2-10 Comparative Performance of Several Stock
Market Indexes
2-36
Examples of Indexes - International
• Nikkei 225 & Nikkei 300• FTSE (Financial Times of London)• Dax• Region and Country Indexes
– EAFE– Far East– United Kingdom
2-37
Table 2.6 Sample of MSCI Stock Table 2.6 Sample of MSCI Stock IndexesIndexes
2-38
The Hang Seng Index is a(n) __________ weighted index.
a. Equallyb. Pricec. Valued. Share
2-39
DERIVATIVE MARKETS
2-40
Derivative Securities
Options• Basic Positions
– Call – Put
• Terms– Exercise Price– Expiration Date– Assets
Futures • Basic Positions
– Long – Short
• Terms– Delivery Date– Assets
2-41
References • Bodie, Kane, and Marcus, Essentials
of Investments, 7th Edition, McGraw-Hill, pp 24-54
• http://www.hsi.com.hk/HSI-Net/