Financial Markets and Instruments Flashcards
Equity Finance
The process of raising capital through the sale of shares in an enterprise. Selling of ownership interest to raise funds for business purposes
Primary & Secondary Market
Primary: where new shares and bonds are issued
Secondary: where previously owned shares are traded
Ways of Issuing Shares in the Primary Market
Private placing - shares issued only to financial institutions or bank’s private clients
Offers for sale - biz sells shares to a bank who then take on the risk of selling them to investors
Public issue - invitation to purchase is issued to the public using prospectuses
Rights issue - existing shareholders given the option to buy more shares
Market Capitalisation
The value of a business, as determined by the total market price for all of a businesses shares
Capital Markets Instruments
Ordinary shares - equity shares that carry rights to a div and voting rights
Preference shares - get a set dividend before ordinary shares but no voting rights
Company bond/debenture holders - a type of loan in which the shareholder does not own any part of the company
Money Markets
Firms can also raise firms through the money market which is where short term borrowing and lending occur. Designed for large transactions between financial institutions and companies or governments
Calculating Returns on Financial Instruments
Shareholders receive returns as dividends. When expressed as a % it’s known as the dividend yield
Dividend Yield
Dividend paid per share
———————————— x 100
Market price of the share
Bond Returns
3 formulas are needed:
- The bill rate
- The running rate or interest yield
- The gross redemption yield
Bill Rate
Equivalent to the coupon rate:
Yield = bond value x coupon rate
Doesn’t take into account the market price
Running Yield
Takes into account a bond’s market value
Interest (coupon rate)
——————————– x 100%
Market rate
Fails to take into account the gain in MV
Gross Redemption Yield
Takes a bond’s MV and gains in MV into account, therefore it’s the best estimate.
The investor can compare the result of the calculation to their required yield, the interest rate, and the level of risk being undertaken to make their decision to invest
Risk
Affects the rate of return and the market price for bonds. An investor will have a certain rate of return in mind based on the perceived risk taken on. This is therefore the required value of their net dividend yield
Net Dividend Yield
Annual dividend
———————— x 100%
Market value
Formula can be rearranged to get the MV
Market Value Formula
Net dividend yield