Chapter 8 Flashcards
Asset price bubble
An increase in asset prices that
are driven above their fundamental economic
values by investor psychology
Bank panic
The simultaneous failure of many banks,
as during a financial crisis
Collateralized debt obligations
Securities that
pay out cash flows from subprime mortgagebacked securities.
Credit boom
A lending spree when financial
institutions expand their lending at a rapid
pace.
Credit default swaps
A transaction in which one party
who wants to hedge credit risk pays a fixed
payment on a regular basis, in return for a contingent payment that is triggered by a credit
event such as the bankruptcy of a particular firm
or the downgrading of the firm’s credit rating by
a credit rating agency.
Credit spreads
: The risk premium: the interest rate on
bonds with default risks relative to the interest
rate on default-free bonds like U.S. Treasury
bonds.
Debt deflation
: A situation in which a substantial
decline in the price level sets in, leading to a further deterioration in firms’ net worth because of
the increased burden of indebtedness.
Deleveraging
When financial institutions cut back
on their lending because they have less capital.
Financial crisis
A major disruption in financial markets, characterized by sharp declines in asset
prices and the failures of many financial and nonfinancial firms.
Financial derivatives
Instruments that have payoffs
that are linked to previously issued securities
and are extremely useful risk-reduction tools.
Financial engineering
The process of researching and
developing new financial products and services
that would meet customer needs and prove
profitable.
Financial frictions
Asymmetric information problems
that act as a barrier to financial markets channeling funds efficiently from savers to households and
firms with productive investment opportunities.
financial innovation
: The development of new financial products and services.
financial liberalization
: The development of new financial products and services.
fire sales
The quick sale of assets to raise necessary
funds.
fundamental economic values
The values of assets
based on realistic expectations of the assets’
future income streams.
haircuts
: Requirements that borrowers have
more collateral than the amount of the
loan
Mortgage backed securities
A security that is collateralized by a pool of mortgage loans. (Also called a
securitized mortgage.)
originate to distribute business model
A business model in
which the mortgage is originated by a separate
party, typically a mortgage broker, and then distributed to an investor as an underlying asset in a
security
principal agent problem
A moral hazard problem
that occurs when the managers in control (the
agents) act in their own interest rather than in
the interest of the owners (the principals) due to
differing sets of incentives
repurchase agreements
A form of loan in which the
borrower simultaneously contracts to sell securities and contracts to repurchase them, either on
demand or on a specified date
securitization
The process of transforming illiquid
financial assets into marketable capital market
instruments.
shadow banking system
A system in which bank
lending is replaced by lending via the securities
market
structured credit products
Securities that are derived
from cash flows of underlying assets and are
tailored to have particular risk characteristics
that appeal to investors with different preferences.
subprime mortgages
