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Financial Markets Theory > Lecture 1 > Flashcards

Lecture 1 Flashcards

1
Q

What is an investment?

A

Current commitment of money or other resources the obtain future benefits

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2
Q

What are some examples of investments?

A

Stocks
House
Education

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3
Q

What are real assets?

A

They determine the productive capacity and net income of the economy

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4
Q

What are some examples of real assets?

A

Land
Buildings
Machines
Knowledge used to produce goods and services

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5
Q

What are financial assets?

A

Claims on real assets

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6
Q

What are some examples of financial assets?

A

Equity
Bonds
Derivatives

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7
Q

What is a portfolio?

A

A collection of assets

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8
Q

What is money?

A

Anything that is generally accepted in payment for goods or services or in the repayment of debts

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9
Q

Tell me about medium of exchange

A

Standardised
Widely accepted
Divisible
Easy to carry
Durable

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10
Q

What is unit of account used for?

A

To measure value

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11
Q

What is store of value used for?

A

To save purchasing power and its liquid

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12
Q

Financial markets bring together…

A

Those people who have excess funds and those who have shortage of funds

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13
Q

Who are lenders?

A

Those with surplus funds
Households (individuals) and some institutions that act on their behalf

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14
Q

Who are borrowers?

A

Government
Firms
Individuals
Foreigners

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15
Q

What are the governments direct responsibilities?

A

Fiscal policy/tax
National debt management

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16
Q

What are the governments devolved responsibilities?

A

Monetary policy
Cash/liquidity management
Regulation

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17
Q

What are the roles of financial markets?

A

Reduction in transaction costs
Information role
Consumption timing
Allocation of risk
Separation of ownership and management

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18
Q

What is the information role (role of financial markets)?

A

Capital flows to companies with best prospects

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19
Q

What is consumption timing (role of financial markets)?

A

Use securities to store wealth and transfer consumption to the future

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20
Q

What is allocation of risk (role of financial markets)?

A

Investors can select securities consistent with their tastes for risk

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21
Q

What is separation of ownership and management (role of financial markets)?

A

With stability comes agency problems

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22
Q

What are the issues in financial markets?

A

Corporate government and corporate ethics
Accounting scandals
Auditors (watchdogs of the firm)
Analyst scandals
Sarbanes-Oxley act

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23
Q

What is the Sarbanes-Oxley act?

A

Tighten the rules of corporate governance

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24
Q

What are financial intermediaries?

A

Bring those with countervailing needs together
Lenders and the borrowers
Pool and invest funds

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25
Q

What are some examples of financial intermediaries?

A

Investment companies
Banks
Insurance companies
Credit unions

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26
Q

Tell me about money markets

A

Short term
Low risk
Highly liquid debt securities (e.g. treasury bills)

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27
Q

Tell me about capital markets

A

Long term
Debit markets (e.g. government bonds, commercial paper)
Equity markets (e.g. shares)
Derivative markets for futures and options

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28
Q

What are primary markets?

A

They are used for the issue of new stocks, bonds or other securities to the public (IPO)

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29
Q

What are secondary markets?

A

Where securities are subsequently traded markets
E.g. LSE, NYSE, NASDAQ

30
Q

What are some characteristics of secondary markets?

A

Broad - wide variety of different types of investors
Deep - small adjustment of prices from previous trades
Liquid - ease and speed with which a position can be taken or unwound
Efficiency

31
Q

What are brokers/what do they do?

A

Agents
Take orders from investors
Submit them to the market trading mechanisms and charge commissions

32
Q

What are dealers/what do they do?

A

Principal trades
Post bid-ask quotes by choice

33
Q

What are market-makers/what do they do?

A

Principal traders
Obligated to trade in the securities in which they are registered

34
Q

What are broker-dealers?

A

Can act as both agents and principals
Dual-capacity trading

35
Q

What is the investment process

A

Asset allocation
Security selection

36
Q

What is assets allocation (investment process)?

A

Choice among broad asset classes

37
Q

What is security selection?

A

Choice of which securities to hold WITHIN asset class
Security analysis to value securities and determine investment attractiveness

38
Q

What are the three types of financial assets?

A
  1. Fixed income or debt
  2. Common stock or equity
  3. Derivative securities
39
Q

What is fixed income?

A

Payments fixed or determined by a formula

40
Q

Tell me about money market debt

A

Short term
Highly marketable
Usually low credit risk

41
Q

Tell me about capital market debt

A

Long term bonds
Can be safe or risky

42
Q

What is common stock?

A

Equity or ownership in a corporation;
Payments to stockholders are not fixed but depend on success of firm

43
Q

What are derivatives?

A

Their value derives from the price of other securities (e.g. stocks and bonds)
Used to transfer risk

44
Q

What is a direct search market?

A

Buyers and sellers seek each other

45
Q

What is a brokered market?

A

Brokers search out buyers and sellers

46
Q

What are dealer markets?

A

Dealers have inventories of assets from which they buy and sell

47
Q

What are auction markets?

A

Traders converge at one place to trade

48
Q

What is a bid?

A

The price bid to buy the security by a participant

49
Q

What is the ‘ask’ (bids and asked prices)?

A

The price asked for by the participant to sell the security

50
Q

What is the ‘touch’ (bids and asked prices)?

A

The difference between bid and ask spread

51
Q

What are the determinants of the bid-ask spread?

A

Information asymmetry
Volatility of the asset
Liquidity of the asset
Exchange restrictions

52
Q

What are call (batch) markets?

A

Usually auction markets
Buyers and sellers submit their orders in some manner ands process begins to match them

Open outcry; written order entry

53
Q

What are continuous markets?

A

Non-batch markets where a transaction is allowed whenever two parties agree to trade

Dealer or quote-driven markets; order-driver markets

54
Q

What happens in a quote driven system?

A

There are quotes called exposure orders
Traders accepting a quote with a hit order (when trader sells at current bid price in a market)

55
Q

What happens in an order-driven market?

A

The type of order that a trader submits depend on the pursued strategy
Main order types are:
At best (UK)/market (US) order
Limit order

56
Q

What are alternative limit orders?

A

Instructs broker to buy or sell only at a certain price

57
Q

What is a trailing stop order?

A

Designed to protect gains
Enables a trade to remain open and continue to profit as long as price is moving in investor’s favour
Order closes trade if price changes direction by a specified percentage or dollar/pound/euro etc. amount

58
Q

What are the order types in continuous markets?

A

Stop, or stop-loss, order on sell side
Stop-buy order
Trading stop order
Expiry date or time
Single fill order

59
Q

What is SETS (trading platforms on the London Stock Exchange)?

A

Order driven market
Back up liquidity provided by money makers

60
Q

What is SETSqx (trading platforms on the London Stock Exchange)?

A

Quote-driven market with 4 electronic auctions per day

61
Q

What is SEAQ (trading platforms on the London Stock Exchange)?

A

Quote driven platform

62
Q

Which stock is the most liquid in the London Stock Exchange?

A

SETS (most)
then SETSqx
Then SEAQ (least)

63
Q

Why is post-trade anonymity important?

A

Because otherwise trading strategies can be revealed by small trades

64
Q

Why is transparency important?

A

Because the credit risk is borne by the trading parties
I.e. they need to know with whom they are trading

65
Q

What is the central counterparty?

A

They act as a counterparty to every trade for clearing members of the London Stock Exchange

66
Q

What are brokerage fees?

A

Approx 1.5% but varies according to type of account and frequency of trade
Usually a minimum charge will apply

67
Q

What is dealer’s spread?

A

From 0.5% for the most liquid stock
To 15% for the least
Varies throughout the day

68
Q

What are stamp duty and other taxes?

A

0.5% of value for purchases
Zero for sales

69
Q

What are settlement costs?

A

Approx 30p per trade

70
Q

What are the operational costs?

A

Brokerage fees
Dealers spread
Stamp duty and other taxes
Settlement costs
Other costs (custodian charges, exchange trading levies etc.)

Financial Markets Theory (7 decks)

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