1 Flashcards
Real Assets determine…
And give examples
the productive
capacity and net income of the economy
(Land, buildings, machines, knowledge used to
produce goods and services)
Real Assets determine…
And give examples
the productive
capacity and net income of the economy
(Land, buildings, machines, knowledge used to
produce goods and services)
Financial Assets are…
claims on real assets
(equity, bonds, derivatives)
Financial Assets are…
claims on real assets
(equity, bonds, derivatives)
The Role of Financial Markets
Reduction in transaction costs
• Information Role: Capital flows to
companies with best prospects
• Consumption Timing: Use securities to
store wealth and transfer consumption to
the future
Money market
Short-term, low-risk, highly liquid debt securities,
e.g. T-bills.
Capital markets
Long-term, debt markets e.g. government bonds,
commercial paper.
• Equity markets, e.g. shares.
• Derivative markets for futures and options
Primary markets
Primary markets are used for the issue of
new stocks, bonds or other securities to
the public (IPO).
Secondary markets
Secondary markets are where these
securities are subsequently traded
markets, e.g. LSE, NYSE, NASDAQ
Characteristics of secondary markets
Broad - wide variety of different types of
investors.
• Deep - small adjustment of prices from
previous trade.
• Liquid - ease and speed with which a
position can be taken, or unwound.
• Efficiency.
Financial Assets
-Fixed Income
Payments fixed or determined by a
formula
• Money market debt: short-term, highly
marketable, usually low credit risk
• Capital market debt: long-term bonds, can
be safe or risky
Common Stock and Derivatives
Common Stock is equity or ownership in a
corporation.
• Payments to stockholders are not fixed, but
depend on the success of the firm
Derivatives
• Value derives from prices of other securities,
such as stocks and bonds
• Used to transfer risk
How Securities are Traded
Direct search: direct search markets, where buyers and sellers find each other on their own.
Brokered markets- brokers linkup buyers and sellers and getting a commission for their service.
Dealer markets Dealers have inventories of
assets from which they buy and sell
Auction markets: traders come together (either physically or online), and prices are determined by competitive bidding among them.
Bid and Asked Prices
Bid Price: This is the price at which a buyer is willing to purchase a security. It represents the highest price a buyer is willing to pay for a security at a given time. The bid price is quoted on the buy side of the market.
Ask Price: This is the price at which a seller is willing to sell a security. It represents the lowest price a seller is willing to accept for a security at a given time. The ask price is quoted on the sell side of the market.
Bid-Ask Spread: This is the difference between the bid price and the ask price. It’s essentially the cost of making a transaction in the market. The narrower the spread, the lower the cost for traders to buy and sell, which is generally favorable for liquidity and market efficiency.
Price formation and trading mechanisms
-Call (batch) markets
-Continuous markets
Call markets, also known as batch markets, are typically auction markets where buyers and sellers submit their orders in a batch or group. After collecting orders, a process begins to match them.
(i) Open outcry; ii) Written order entry.)
Continuous markets
Continuous markets differ from batch markets in that transactions can occur whenever two parties agree to trade, rather than waiting for a specific matching process.
(dealer or quote-driven markets; ii) order-driven markets)
