Chp 13-15 Flashcards
4) Main players in the money markets
a) Clearing banks – use MM to lend excess liquid funds and to borrow short-term funds @ interbank rate
b) Central bank – lender of last resort conducted through repurchase (repo) arrangements, sale of treasury and other eligible bills
c) Other financial and non-financial institutions – lend and borrow short-term funds in MM
d) Long-term institutional investors (e.g. life assurer, pension funds) – use MM to hold cash for liquidity, temporary uncertainty in value of other assets
6) Definitions of different types of government and corporate bonds
a) Government bonds – conventional fixed interest, index-linked
b) Local authority bonds – slightly more risk than government bonds
c) Corporate bonds – risky depending on the credit rating of the company (which include debts, future prospects of company, management board, risk appetite of company)
d) Overseas bonds – additional currency risk (unless they are Eurobonds – e.g. Euroyen, Eurodollar)
7) Cashflows on conventional and index-linked bonds
a) Conventional – initial negative cashflow, single known positive cashflow on specified future date, series of smaller known and identical positive cashflows on regular set of specified future dates
b) Index-linked – initial known negative cashflow is followed by a series of unknown positive cashflows and a single larger unknown positive cashflow, all on specified dates. However, these cashflows are known in “real” terms since amounts are known relative to the benchmark index. Also consider index calculation lags of e.g. 6 months / 8 months
9) Four theories of the yield curve (Acronym – LIME)
Liquidity preference theory – more premium required the more illiquid an asset is – e.g. long-dated stocks
Inflation risk premium theory – investors needing higher yield to compensate for holding long-dated stocks
Market segmentation theory – yield depend on supply and demand from investors with L of that term
Expectations theory – yield curve determined by economic factors that drive market expectations for short-term rate
10) Relationship between real and nominal yields
a) Nominal yield = risk-free real yield + expected future inflation + inflation risk premium
11) Relationship between government and corporate bond yields
a) Corporate bond yield = government bond yield + corporate yield spread
12) Cashflows on ordinary shares
a) Initial negative cashflow, stream of dividends of unknown amount expected to grow at GDP or slightly above GDP over longer term and assumed to be perpetual, final redemption amount also unknown.
13) Investment and risk characteristics of ordinary shares and preference shares (Acronym – SYSTEMT)
Security (risk) – riskier than MM and bonds
Yield (real or nominal, running yield, expected return, compared with other assets)
Spread (diversification, volatility)
Term – indefinite, market values volatile over short-term
Exchange rate / expenses / economic conditions / expertise required
Marketability – listed shares more marketable than unlisted ones
Tax – on capital gains, dividends may be tax exempt
14) Reasons why equities are typically categorized by industry
a) Four practical reasons
i) Relevance of common factors affecting companies in the same industry
ii) Common source of information for companies in the same industry in similar presentation format
iii) No one analyst can be expected to be an expert in all areas
iv) Grouping of equities according to some common factor gives structure to decision-making process
14) Reasons why equities are typically categorized by industry
b) Three correlation reasons (Acronym RSS)
i) Resources – companies in same sector use similar resources (e.g. labour, land, raw materials) and will therefore have similar input costs
ii) Supply markets – companies in same sector supply to same markets, so similarly affected by changes in demand
iii) Structure – companies in same sector often have similar financial structures and therefore similarly affected by changes in interest rates
