Class notes
Finance IIA: Equities Part 1 & 2 (FTX3044F)
- Course
- Institution
These notes cover the content taught by Philip and Pradeep on Equities Part 1 & 2. They are notes made from the slides.
[Show more]
Seller
Follow
miaphillips
Content preview
EQUITIESInvestment de nition:
• Textbook: An investment is the current commitment of money or other
resources in the expectation of reaping future bene ts.
• Warren Bu et: What is ‘investing’ if it is not the act of seeking value at least
su cient to justify the amount paid? Consciously paying more for a stock than
its calculated value – in the hope that it can soon be sold for a still-higher price
– should be labelled speculation (which is neither illegal, immoral or – in our
view – nancially fattening).
Value: is estimated using some model
Real assets: assets that a business or investor owns (land, buildings)
Financial assets: liquid assets that can easily be converted into cash (stocks,
bonds)
Price: is what the share is trading for on the market
Simple rule:
• Buy when Value > price
• Remember that Value has estimation error
• Therefore, margin of safety is needed
Financial Assets:
• Fixed-income or debt securities promise either a xed stream of income or a
stream of income determined by a speci ed formula
• Equity – represents an ownership share in a corporation (riskier investments
than debt – equity-holders can receive dividends)
• Derivatives – provide payo s that are determined by the prices of other assets
such as bond or stock prices (options, futures, swaps)
Financial Markets & the Economy:
• Stock prices re ect investors’ collective assessment of a rm’s current
performance and future prospects
• When the market is more optimistic about a rm, its share price will rise
• Consumption Timing – owning nancial assets allows individuals to shift their
consumption
• Allocation of Risk – investors select securities that meet their risk preferences
and
enables rms to raise capital to nance investments
• Separation of Ownership and Management – management team appointed by
board
of directions to run the rm
ffi fi fi ff flfi fi ff fifi fi fi fi fi fi
, - Agency Problem – managers pursue their own interests instead of the
interests of the shareholders
• Corporate Governance & Ethics – independent directors, oversight boards,
auditing
The Investment Process:
• Portfolio – collection of investments
• Asset Allocation Decision – choosing between broad asset classes
• Security Selection Decision – choosing which securities to hold within the classes
• ‘Top-Down’ starts with asset allocation decision
Markets:
• Risk-Return Trade-O – higher-risk assets are priced to o er higher expected
returns than lower risk assets
• E cient Markets – security prices adjust to new information in order to re ect
market consensus estimate value of the security
• Passive Management – holding highly diversi ed portfolios without spending
e ort or other resources attempting to improve investment performance
through security analysis
• Active Management – attempt to improve performance by either identifying mis-
priced securities or by timing the performance of broad asset classes
The Players:
• Firms – net demanders of capital (raise capital to pay for investments)
• Households – net suppliers of capital (purchase securities)
• Governments – borrowers or lenders depending on the relationship between tax
revenue and government expenditure
• Financial Intermediaries – bring suppliers and demanders of capital together
- Investment Companies – pool and manage the money of many investors
▪ Hedge Funds – only open to institutional investors
- Investment Bankers – advise corporations on the prices it can charge for
securities issued & appropriate interest rates, deals in primary market (IPOs)
- Venture Capital – investments in start-up companies
- Private Equity–investments in rms that do not trade publicly
• Cryptocurrency – a digital currency designed to work as a medium of exchange
through a computer network that is not reliant on any central authority to
uphold it
- Blockchain – a system in which a record of transactions made in
cryptocurrency are maintained across several computer that are linked in a
peer-to-peer network
The Financial Crisis of 2008-2009:
• Began with the housing market bubble, created by an overwhelming load of
mortgage-backed securities that bundled high-risk loans
• Reckless lending led to unprecedented numbers of loans in default – leading to
losses that resulted in nancial institutions failing
ffi
ff ff fi fi fi ff fl
, The Money Market:
• Treasury Bills (T-Bills) – a short term government debt obligation with a maturity
of one year or less
• Certi cate of Deposit (CD) – a certi cate issued by a bank to a person depositing
money for a speci ed length of time at a speci ed rate of interest
• Commercial Paper – a short-term unsecured promissory note issued by
companies
• Bankers’ Acceptance – an instrument representing a promised future payment
by a bank with payment accepted and guaranteed by the bank as a time draft to
be drawn on deposit
• Eurodollars – dollar-denominated deposits at foreign banks or foreign branches
of American banks
• Repurchase Agreements (Repos) – a form of short-term borrowing used in
money markets involving the purchase of securities with the agreement to sell
them back at a speci c date, usually for a higher price (reverse repo – represent
the same transaction from the other party’s perspective)
• Federal Funds – overnight borrowings between banks and other entities to
maintain their bank reserves at the Federal Reserve
• Broker’ Call – the interest rate charged by banks on loans made to brokerage
rms
• LIBOR Market – London Interbank O er Rate (LIBOR) is the premier short-term
interest rate quoted in the European money market & serves as a reference rate
for a wide range of transactions
• Yields on Money Market Instruments – generally low-risk but not risk-free
• Money Market Funds – mutual funds that invest in money market instruments
The Bond Market:
• Treasury Notes & Bonds – securities that pay a xed rate of interest every 6
months until maturity (notes maturity <10 years, bonds maturity 20/30 years)
• In ation-Protected Bonds – linked to an in ation index in order to hedge
in ation risk
• Federal Agency Debt – bonds issued by government-sponsored agencies
• International Bonds – Eurobond is a bond denominated in a currency other than
that of the country in which it is issued
• Municipal Bonds – issued by state & local governments
• Corporate Bonds – bonds issued by companies
• Mortgage & Asset Backed Securities – created by pooling together mortgages
and non-mortgage assets such as student loans respectively
Equity Securities:
• Common Stock – represent ownership shares in a corporation
• Residual Claim – stockholders last in line for a claim on assets of business
• Limited Liability – most that stockholders can lose is their original investment
• Capital Gains – pro ts from the sale of an investment
• Preferred Stock – promises to pay a xed amount of income each year and does
not convey voting power to the stockholder (payments treated as dividends –
not tax- deductible for rm)
fi fl fi fifi fi fi fifffi fl fifi
, • Depositary Receipts – certi cated traded in markets that represent ownership
shares of a foreign company
Share: part ownership of a business (not true ownership)
Shareholder rights:
• Vote at shareholder meetings
• Receive a dividend
• Share in residual at liquidation
Stock index:
• measures nancial market uctuations - used to tell us movement of a portion
of the market
• Dow Jones Industrial Average (DJIA) – 30 large blue-chip companies
• Standard & Poor 500 (S&P 500) – market-value-weighted index of 500 rms
• Nikkei (Japan), FTSE (UK), DAX (Germany), Hang Seng (Hong Kong), JSE (RSA)
• Bond-Market Indicators – measure the performance of various categories of
bonds
Derivative Markets:
• Option – a nancial instrument based on the value of underlying assets where
the buyer of the option pays a premium
• Call Option – gives the holder the right to purchase an asset for a speci ed
strike price, on or before a speci ed expiration date
- Increases in value as price of underlying asset increases
• Put Option – gives the holder the right to sell an asset for a speci ed strike
price, on or before a speci ed expiration date
- Decreases in value as price of underlying asset increases
• Futures Contract – an obligation to buy or sell an asset at a stipulated futures
prices on a maturity date
- Long Position (Purchasing) – gains if asset value increases
- Short Position (Delivering) – gains if asset value decreases
Primary Market:
• Firms issue new securities through underwriter to public – Investors get new
securities; rm gets funding
Secondary Market:
• Investors trade previously issued securities among themselves
fifi fi
fifl fi fi fi
The benefits of buying summaries with Stuvia:
Guaranteed quality through customer reviews
Stuvia customers have reviewed more than 700,000 summaries. This how you know that you are buying the best documents.
Quick and easy check-out
You can quickly pay through credit card or Stuvia-credit for the summaries. There is no membership needed.
Focus on what matters
Your fellow students write the study notes themselves, which is why the documents are always reliable and up-to-date. This ensures you quickly get to the core!
Frequently asked questions
What do I get when I buy this document?
You get a PDF, available immediately after your purchase. The purchased document is accessible anytime, anywhere and indefinitely through your profile.
Satisfaction guarantee: how does it work?
Our satisfaction guarantee ensures that you always find a study document that suits you well. You fill out a form, and our customer service team takes care of the rest.
Who am I buying these notes from?
Stuvia is a marketplace, so you are not buying this document from us, but from seller miaphillips. Stuvia facilitates payment to the seller.
Will I be stuck with a subscription?
No, you only buy these notes for $8.46. You're not tied to anything after your purchase.
Can Stuvia be trusted?
4.6 stars on Google & Trustpilot (+1000 reviews)
73918 documents were sold in the last 30 days
Founded in 2010, the go-to place to buy study notes for 14 years now