GLOBEMB Flashcards
What is the primary purpose of financial innovations?
Distributing money from those have a surplus of funds to those who need funds.
Channeling of funds from savers to borrowers
What are the differences between primary and secondary markets?
- Primary: financial market in which new issues of a security, such as a bond or a stock, are sold to initial buyers by the corporation or government agency borrowing the funds
- Secondary: financial market in which securities that have been previously issued can be resold
What are the two types of secondary markets?
- Exchanges such as NYSE
- OTC markets such as NASDAQ
What is the money market?
Financial market in which only short-term debt instruments (generally those with one year or less) are traded.
Less risky due to the shorter term.
What is the capital market?
The market in which longer-term debt instruments (+1 year) are traded.
More risky due to the longer term.
What are the four main money market interest rates?
- Prime rate: base interest rate on corporate bank loans
- Federal funds rate: interest rate charged on overnight loans in the federal funds market (cost for banks to borrow from other banks)
- Treasury bill rate: interest rate on treasury bills (tells something about general interest-rate movements)
- Libor rate: British Banker’s Association average of interbank rates for dollar deposits in the London market
What is U.S. Treasury bills?
Short-term debt instruments: 1, 3 or 6 months.
The most safe you can own.
What is a negotiable bank certificate of deposits?
CDs.
Debt instrument sold by a bank to depositors that pay annual interest of a given amount and at maturity pays back the original purchase price.
What is a commercial paper?
Short-term debt instrument issued by large banks and well-known corporations.
What is a repurchase agreement?
Short-term loans (usually with maturity in less than two weeks) for which Treasury Bills serve as collateral.
What are Federal funds?
Typically overnight loans between banks of their deposits at the Federal Reserve.
What are the four main capital market interest rates?
- Jumbo mortgage rate: interest rate on a 30-year fixed-rate residential mortgage for prime customers
- Five-year adjustable rate mortgage rate (ARM): first 5 years on a residential mortgage that adjust after 5 years (again for prime customers)
- New-car loan rate: interest rate on a 4-year fixed-rate car loan
- 10-year Treasury rate: interest rate on U.S. Treasury bonds maturing in 10 years
What are mortgage-backed securities?
Bond-like debt instruments backed by a bundle of individual mortgages (like CDOs)
What are corporate bonds?
Long-term bonds issued by corporations with strong credit ratings.
What is adverse selection?
The problem created by asymmetric information BEFORE the transaction occurs.
In financial markets, adverse selection occurs when the potential borrowers who are the most likely to produce an undesirable (adverse) outcome are the ones who most actively seek out a loan and are thus most likely to be selected.
What is moral hazard?
The problem created by asymmetric information AFTER the transaction occurs.
It is the risk (hazard) that the borrower might engage in activities that are undesirable (immoral) from the lender’s point of view, because they make it less likely that the loan will be paid back.
What are the three main categories of financial intermediaries?
- Depository institutions
- Contractual savings institutions
- Investment intermediaries
What does depository institutions consist of?
- Depository institutions
- Commercial banks
- Thrift institutions
- savings and loan associations
- mutual savings banks
- credit unions
MAIN FOCUS IN THE COURSE
What does contractual savings institutions consist of?
- Life insurance companies
- Fire and casualty insurance companies (loss from theft, fire, accidents)
- Pension funds and government retirement funds
What does investment intermediaries consist of?
- Finance companies (fx. Ford Motor Credit Company. In general consumer finance)
- Mutual funds: pool funds by selling shares to many individuals and then invest those funds into stocks and bonds in a diversified portfolio
- Money market mutual funds: similar to mutual funds but also partly functions as depository institutions
- Hedge funds: a type of mutual funds with special characteristics
- Limited as limited partnerships with high minimum investments
- Subject to much weaker regulation
- Investment banks
- Helps corporations issue securities and then buys them from the corporation to sell them to the market.
- Also acts as deal makers and earn fees by helping corporations in M&A activities
What are the six types of regulations to ensure soundness of the financial intermediaries?
- Restrictions on entry
- Disclosure (reporting requirements)
- Restrictions on assets and activities (restricted from excessive risk-taking)
- Deposit insurance
- Limits on competition
- Restrictions on interest rates
What is a barter system?
A system where you lack a common value / currency ⇒ Money
What is money?
- Cash, commodities, gold, real estate etc.
- Anything that is acknowledged to be valuable ⇒ anything generally accepted as payment for goods or services or in the repayment of debts.
- Or a narrow class of assets with following properties:
- Medium of exchange
- Unit of account (nominal monetary unit = used to set prices/used to measure value)
- Store of value (can be saved, retrieved and used for exchange at a later time)
What is DCW?
The double coincidence of wants important in barter systems wherefore the transaction costs are much larger than in systems with money.





