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Summary Introduction to financial markets
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Summary of the course “Introduction to financial markets” at the University of Antwerp.
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Unit 1- The economy consists of haves= lenders and havenots= borrowers
- Net wealth= assets – liabilities (economische middelen – schulden)
- Balance sheet: gives an overview of the assets and the liabilities
- Types of assets:
o Tangible assets or real assets: get’s the value of their physical character and
the utility they generate (their function) (=tastbare assets)
o Intangible assets: get’s the value from a legal claim to some future benefit
(=niet-tastbare assets)
o Financial assets: an intangible asset that represents a claim to future cash
- Value changes in the assets, buying a car is not a good investment because the value
will lower over the years
- Assets generate an income on their own, whether you work or not it generates
money. Like a rent you receive every month, stocks that generates money for you
- Households are owners of all assets in the economy
- Shareholders are owners of a company
- Leverage= borrowing money at an interest rate of 2% and with that money you
invest in shares with a profit of for example 5%, so you make money with the money
that you borrowed. Looks like interest trade business. Making money on the interest
margin. (=hefboomeffect)
- Gearing:
o Gearing ratio: long term debt/equity
o Net gearing ratio: (long term + short term debt – short term financial assets –
cash)/equity
- Companies can be funded with:
o Shareholders funds
o Debt (with the use of leverage)
- Dupont scheme:
o ROE= ROA x LM
ROE= return on equity: profit/equity
ROA= return on assets: profit/assets
LM= leverage multiplier: assets/equity
- Business model of a bank: taking money of depositors and lending it out to someone
else
- Trading book= assets for trading
- Finance is necessary for buying houses, cars, etc
- Indirect finance: there is a financial intermediate in between the transaction (fe a
bank), the lender and the borrower don’t know each other
- Direct finance: a direct transaction between the lender and the borrower (for
example between you and your parents) on the primary market
, Role of the Government in financial markets:
- If you have inside information of trades, you are not allowed to trade anymore, for
example you’re the head of a trading agency, then you can no longer trade on the
market.
o Disclosure regulation: in order to prevent issuers from defrauding investors
by concealing (achterhouden) relevant information.
o Market conduct regulation: financial activity regulation in order to prevent
insider trading
o Financial institution regulation: in order to prevent the default of financial
intermediaries and in order to safeguard the payment system.
o Restrictions on foreign participants: in order to control the money supply
- Government can also:
o Influence the markets through monetary policy
o Provide bail outs for banks: the government bails out a bank at risk
o Act as a financial intermediary (credit support through loans)
Q/A
- Difference between money market and capital market:
o The money market is the trade in short-term debt. It is a constant flow of
cash between governments, corporations, banks, and financial institutions,
borrowing and lending for a term as short as overnight and no longer than a
year. The capital market encompasses the trade in both stocks and bonds.
- What are securities and their characteristics?
o A security is a certificate or other financial instrument that has monetary
value and can be traded. Securities are generally classified as
either equity securities, such as stocks
and debt securities, such as bonds and debentures
- What is de difference between equity and debt?
- Debt refers to the source of money which is raised from loans on which the interest
is required to be paid, whereas equity means raising money by issuing shares of
company and shareholders get return on such shares from profit of company in form
of dividends.
Unit 2
- Financial history: giving something to someone with the idea that this person gives
something back, but a little bit more (with interest). Read: I give you one sheep, and
later on you give me an elephant.
- Interest rate= the price of money
o The price to “rent” money
o The reward for the lender to postpone consumption
- The interest rate depends on the risks taken by the lender. It depends on borrower
to borrower.
, o Risk (interest rate) depends on:
Credit worthiness of the borrower
Maturity of the dept
- interest rate graph from 1 day to 30 years term structure of interest rates or a
yield curve
o on the x-axis: time to maturity (from 1 day to 30 years)
o on the y-axis: interest rate
- the graph will lay higher with a less credible borrower
- if the graph goes downwards (when it’s descending), it is called speculative rate
because that’s not good for the economy and then it is not interesting for investors
anymore.
- You want your graph to go upwards (ascending) for a good economy
- Demand and supply (vraag en aanbod) determine a risk-free interest rate. This
interest rate rewards the delay in consumption.
o The lender faces risks for which a compensation(premium) is required:
Maturity premium= loans with a longer maturity (over a longer period
of time) will carry a higher interest rate
Expected inflation premium= a premium for the inflation that is going
to happen
Credit spread= liquidity premium= a premium for the expected losses
- Special contractual provisions:
o Seniority: you are above the other contracts, you have more rights
- Collateral arrangements= more secure, less risk
- Differential tax treatment= special tax agreement
- Nominal interest rate= real interest rate + expected inflation
- Nominal rate has the inflation in calculated
- Over time the interest rate is descending, nowadays there is almost a negative
interest rate (so you lend 100€ and you give back 98€) because recently there are
other problems like the storage of money.
- Simple interest rates: you don’t capitalize you only calculate the interest at the
end of the period
- Compounded interest rates: interest on interest you allow interest of the first
period to become capital and so to yield interest in the second period (u laat de rente
van de eerste periode kapitaal worden en dus rente opbrengen in de tweede
periode)
- Time traveling with finance:
o Present value
o Future value
- Formula for calculating with simple interest rates (time traveling finance):
V τ =V 0 ×( 1+ r × t)
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