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CHAPT2_fin650_sp99.PPT

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  • 1. Markets and Instruments Chapter 2 Finance 650 Spring 1999 Lecture notes prepared by: Dr. Susan D. Jordan
  • 2. The Money Market
    • Treasury Bills
      • auction or primary market
      • secondary market
      • Treasury Auction Process
        • competitive versus noncompetitive
  • 3. Auction results Results in WSJ and http://www.publicdebt.treas.gov/of/ofbills.htm
  • 4. TBill Formulas
    • P = Face [ 1 - r BD * (n/360)]
    • r BD = (F-P)/F * 360/n (bank discount yield)
    • r BEY = (F-P)/P * 365/n = (365* r BD )/(360 - t* r BD )
    • r BEY = bond (coupon) equivalent yield or APR
    • effective annual yield = [1 + (F-P)/P ] 365/n - 1
      • = (F/P) 365/n - 1
  • 5. Secondary market transactions
    • From WSJ on Tuesday, August 25, 1998
    • Dealer’s selling price (your purchase price)
    • Dealer’s purchase price (your selling price)
  • 6. Money market instruments
    • Commercial Paper
    • Eurodollar
    • Certificate of Deposit
      • Domestic
      • Eurodollar
      • Yankee
      • Bear Market CD
      • Bull Market CD
  • 7. Money market instruments (cont.)
    • Banker's Acceptance
    • Repurchase Agreement Repo RP
    • Federal Funds
    • Broker's call
    • LIBOR rate -- London Interbank Offered Rate
    Reverse Repo
  • 8. The Fixed-Income Capital Market
    • Includes Treasury notes and bonds, corporate bonds, municipal bonds, mortgage securities, and federal agency securities.
    • Overview of Bond Features
      • indenture
      • term to maturity
      • principal value
      • coupon rate
  • 9. Bond features (cont.)
      • sinking fund
      • debenture
      • mortgage or secured bond
      • income bond
    • Embedded Options
      • convertible bond
      • callable bond
      • put bond
      • exchangeable bond
  • 10. Treasury Notes and Bonds
    • Notes: original maturity of 2 to 10 years
    • Bonds: original maturity > than 10 years
      • Denominations of $1,000 or more
      • Both make semiannual coupon payments
      • Some T-Bonds may be called (last 5 years).
      • T-bonds issued since Feb. 1985 not callable.
      • Inflation-indexed Treasury securities
  • 11. Treasury quotes From WSJ Wednesday, August 28, 1997
    • If date is followed by p or n it is a note
    • Numbers to the right of the colon = 1/32 of a point
    • If you purchase, you pay
    • If you sell $1000 face, you receive
    • Coupon rate of 7 = 7% of par ($70/year or $35 semi)
    103.5625% of par $1035.00
  • 12. Treasury quotes From WSJ Wednesday, August 28, 1997
    • Yld = semiannual yield * 2 = Simple Interest = APR (Annual Percentage Rate ) = bond equivalent yield
    • Other Treasury bonds
      • Flower bond
      • Callable bonds (Maturity YR is a range)
        • yield on callables
          • discount bond = yield to maturity
          • premium bond = yield to first call
  • 13. Municipal Bonds
    • general obligation bond
    • revenue bond
      • industrial development bond or private purpose bond
    • tax anticipation bond
    • Equivalent taxable yield
      • r(1-t) vs. r m or r vs. r m /(1-t)
    7.20*(1-.20)= 5.76 7.20*(1-.30)= 5.04 Taxable bond yield = 7.20 and tax-exempt yield = 5.31
  • 14. Corporate bonds
    • issued by private firms to borrow money from the public
    • Corp Bond Quotes from WSJ on Wed, Sept. 3, 1997
    Current yield = 67.50/1006.25
  • 15. Equities
    • Common stock
      • Residual claim and limited liability
      • Two Basic Rights
        • Preemptive right
        • Right to control
          • Proxy
    • Preferred stock
      • fixed dividends
      • priority over common
      • tax treatment
  • 16. Stock market quotes
    • Dividends: annual disbursements based on last quarterly declaration
    • Yield: div/close
    • PE: close/(last four EPS)
    So what was EPS for last four quarters? 27 = 38.3125/E or $1.42
  • 17. Derivative Assets or Contingent Claims
    • Option Contract
      • purchaser of an option contract has the right to buy or sell the underlying at a stated price (the strike or exercise price) on or before a specified date (expiration).
      • Put: right to sell
      • Call: right to buy
      • Option Premium
      • Writer/Seller
    Naked versus covered
  • 18. Option contract quotes
  • 19. Derivative Assets or Contingent Claims
    • Futures Contract
      • calls for delivery of an asset (or its cash value) on a specified date for an agreed upon price to be paid at the maturity date.
      • Long: commitment to purchase the underlying
      • Short: commitment to deliver the underlying
      • cash settlement for index options
      • How is a long futures contract different from long call?
  • 20. Futures quotes
  • 21. Stock Market Indicators
    • Provide an overall indication of aggregate market movements
    • Uses:
      • track average returns
      • base of derivatives
      • measure systematic risk
      • compare performance of managers
  • 22. Stock Market Indicators
    • Sample
    • Computation
      • Average
        • Arithmetic
        • Geometric
    • Indexes
      • Value-weighted or capitalization-weighted
      • Equal-weighted
  • 23. Dow Jones Average & Indices
    • 30-Stock Industrial Average (DJIA or DOW)
    • 20-Stock Transportation Average
    • 15-Stock Utilities Average
    • 65-Stock Composite Average
    • The Dow Jones Equity Index
  • 24. DJIA
    • Price-weighted
    • Large, well-known cos (Blue chips)
    • 1884 with 11 stocks
    • 1928 => 30 stocks
    • Divisor is not equal to # companies
    • Divisor adjusted:
      • Companies added/deleted
      • Stock splits or stock dividends > 10%
  • 25. Consider a 2-stock sample
    • Price-weighted average
    • Equal-weighted index
    • Value-weighted index
  • 26.
    • DOW or price-weighted average
      • Day 0 = ($110+$30)/2 = 70
      • Day 1 = ($154+$33)/2 = 93.5
      • Change in DOW = 93.5/70 - 1 = 33.57%
    • Value-weighted Index (base = 100)
      • Day 0 = (MV1 + MV2)/Base * 100 =100
      • Day 1 = (1540+33000)/31100 *100 =111.06
      • Change in Value = 111.06/100 -1 = 11.06%
    • Equal-weighted Index
      • Change of (40% + 10%)/2 = 25%
  • 27. Consider 3 stocks
  • 28. Examples of domestic indices
    • Dow Jones Industrial Average
    • Standard & Poor’s 500 Composite
    • Nasdaq Composite
    • NYSE Composite
    • Wilshire 5000
    • Value Line Composite
  • 29. Examples of international indices
    • Nikkei 225 & Nikkei 300
    • FTSE (Financial Times of London)
    • Dax
    • Region and Country Indexes
      • EAFE
      • Far East
      • United Kingdom
  • 30. Example of bond indices
    • Lehman Brothers
    • Merrill Lynch
    • Salomon Brothers
    • Specialized Indexes
      • Merrill Lynch Mortgage

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