Chapter 2

Question 1

is a general term that includes a number of different types of markets for the creation and exchange of financial assets, such as stocks and bonds.

Answer 1

Financial Market

Question 2

are firms such as commercial banks, credit unions, insurance companies, pension funds, and finance companies that provide financial services to the economy.

Answer 2

Financial Institutions

Question 3

assets that are claims on the cash flows from other assets; business loans, stocks, and bonds are financial assets

Answer 3

Financial Assets

Question 4

nonfinancial assets such as plant and equipment; productive assets are real assets; many financial assets are claims on cash flows from real assets

Answer 4

Real Assets

Question 5

firms that underwrite new security issues

Answer 5

Investment Banks

Question 6

large commercial banks that provide both traditional and investment banking services throughout the world

Answer 6

Money Center Banks

Question 7

is the process of preparing a security issue for sale.

Answer 7

Origination

Question 8

is the process by which the investment banker helps the company sell its new security issue.

Answer 8

Underwriting

Question 9

the investment banker buys the new securities from the issuing company and resells them to investors.

Answer 9

Firm Commitment underwriting

Question 10

The investment banker’s compensation is called the

Answer 10

Underwriting spread

Question 11

Is the process of marketing and reselling the securities to investors.

Answer 11

Distribution

Question 12

a financial market in which new security issues are sold by companies directly to investors

Answer 12

Primary Market

Question 13

is any market where owners of outstanding securities can sell them to other investors.

Answer 13

Secondary Market

Question 14

is the ease with which a security can be sold and converted into cash.

Answer 14

Marketability

Question 15

is the ability to convert an asset into cash quickly without loss of value.

Answer 15

Liquidity

Question 16

are market specialists who bring buyers and sellers together when a sale takes place.

Answer 16

Brokers

Question 17

make markets for securities and do bear risk. They make a market for a security by buying and selling from an inventory of securities they own.

Answer 17

Dealers

Question 18

are global markets where short-term debt instruments, which have maturities of less than one year, are traded.

Answer 18

Money Markets

Question 19

the sale of an unregistered security directly to an investor, such as an insurance company or a wealthy individual

Answer 19

Private Placement

Question 20

What is the role of the financial system, and what are the two major components of the financial system?

Answer 20

The role of the financial system is to gather money from businesses and individuals who have surplus funds and channel funds to those who need them. The financial system consists of financial markets and financial institutions.

Question 21

What is the difference between saver-lenders and borrower-spenders, and who are the major representatives of each group?

Answer 21

Saver-lenders are those who have more money than they need right now. The principal saver-lenders in the economy are households. Borrower-spenders are those who need the money saver-lenders are offering. The main borrower-spenders in the economy are businesses and the federal government.

Question 22

Suppose you own a security that you know can be easily sold in the secondary market, but the security will sell at a lower price than you paid for it. What would this mean for the security’s marketability and liquidity?

Answer 22

Your security seems to be marketable, but not liquid. Liquidity implies that when a security is sold, its value will be preserved; marketability does not.

Question 23

Trader Inc. is a $300 million company, as measured by asset value, and Horst Corp. is a $35 million company. Both are privately held corporations. Explain which firm is more likely to go public and register with the SEC, and why.

Answer 23

Trader, Inc., is more likely to go public because of its larger size. Though the cost of SEC registration and compliance is very high, larger firms can offset these costs by the lower funding cost in public markets. Smaller companies find the cost prohibitive for the dollar amount of securities they sell.

Question 24

Jim Hendry bought 300 shares of IBM through his brokerage account.

Answer 24

Secondary

Question 25

Peggy Jones bought $5,000 of IBM bonds from the firm.

Answer 25

Primary

Question 26

Hathaway Insurance Company bought 500,000 shares of Trigen Corp. when the company issued stock.

Answer 26

Primary

Question 27

Cranjet Inc. is issuing 10,000 bonds, and its investment banker has guaranteed a price of $985 per bond. The investment banker sells the entire issue to investors for $10,150,000.

Answer 27

Underwriting? 300,000

Question 28

What is the percentage underwriting cost?

Answer 28

3.05%

Question 29

How much did Cranjet raise?

Answer 29

$9,850,000