Tài chính doanh nghiệp - Chapter 1: Role of financial markets and institutions

Chapter 1Role of Financial Markets and InstitutionsFinancial Markets and Institutions, 7e, Jeff MaduraCopyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved.1Chapter OutlineOverview of financial marketsTypes of financial marketsSecurities traded in financial marketsValuation of securities in financial marketsMarket efficiencyFinancial market regulationGlobal financial marketsRole of financial institutions in financial marketsComparison of roles among financial institutionsOverview of financial institutionsGlobal expansion by financial institutions2Overview of Financial MarketsA financial market is a market in which financial assets (securities) can be purchased or soldFinancial markets facilitate financing and investing by households, firms, and government agenciesParticipants that provide funds are called surplus unitse.g., householdsParticipants that enter markets to obtain funds are deficit unitse.g., the governmentA major participant in financial markets is the Fed, because it controls the money supply3Types of Financial MarketsFinancial markets can be distinguished by the maturity structure and trading structure of its securitiesMoney versus capital marketsThe flow of short-term funds is facilitated by money marketsThe flow of long-term funds is facilitated by capital marketsPrimary versus secondary marketsPrimary markets facilitate the issuance of new securitiese.g., the sale of new corporate stock or new Treasury securitiesSecondary markets facilitate the trading of existing securitiese.g., the sale of existing stockSecurities traded in secondary markets should be liquid4Types of Financial Markets (cont’d)Organized versus over-the-counter marketsA visible marketplace for secondary market transactions is an organized exchangeSome transactions occur in the over-the-counter (OTC) market (a telecommunications network)Knowledge of financial markets is powerDecide which markets to use to achieve our investment goals or financing needsDecide which markets to use as part of your jobAvoid common mistakes in investing and borrowing5Securities Traded in Financial Markets Money market securitiesMoney market securities are debt securities with a maturity of one year or lessCharacteristics:LiquidLow expected returnLow degree of risk6Securities Traded in Financial Markets (cont’d)Capital market securitiesCapital market securities are those with a maturity of more than one yearBonds and mortgagesStocksCapital market securities have a higher expected return and more risk than money market securities7Securities Traded in Financial Markets (cont’d)Bonds and mortgagesBonds are long-term debt obligations issued by corporations and government agenciesMortgages are long-term debt obligations created to finance the purchase of real estateBonds and mortgages specify the amount and timing of interest and principal payments8Securities Traded in Financial Markets (cont’d)StocksStocks (equity) are certificates representing partial ownership in corporationsInvestors may earn a return by receiving dividends and capital gainsStocks have a higher expected return and higher risk than long-term debt securities9Securities Traded in Financial Markets (cont’d)Derivative securitiesDerivative securities are financial contracts whose values are derived from the values of underlying assetsSpeculating with derivatives allow investors to benefit from increases or decreases in the underlying assetRisk management with derivatives generates gains if the value of the underlying security declines10Valuation of Securities in Financial MarketsSecurities are valued as the present value of their expected cash flows, discounted at a rate that reflects their uncertaintyMarket pricing of securitiesDifferent investors may value the same security differently based on their interpretation of informationImpact of valuations on pricingEvery security has an equilibrium market price at which demand and supply for the security are equalFavorable information results in upward valuation revisions; unfavorable information results in downward revisionsSecurities reach a new equilibrium price as new information becomes available11Valuation of Securities in Financial Markets (cont’d)Impact of the Internet on the valuation processThe valuation of securities is improved as a result of the internet because ofOnline price quotationsThe availability of the actual sequence of transactions for some securitiesIncreased information about firms issuing securitiesOnline orders to buy or sell securities12Market EfficiencyMarkets are efficient when security prices fully reflect all available informationIn an efficient market, different investors may still prefer different securities because of differences in:Risk preferenceDesired liquidityTax status13Market Efficiency (cont’d)Impact of asymmetric informationAsymmetric information is information a firm’s managers have that is not available to investorsThe valuation process is influenced by the financial statements that are used to derive cash flow estimatesSecurities may be mispriced because of Flexibility in accounting guidelinesOverestimation of earningsThe asymmetric information problem can be reduced if managers frequently disclose financial data and information to the public or through increased regulation14Financial Market RegulationMany regulations attempt to ensure that businesses disclose accurate informationDisclosureThe Securities Act of 1933 intended to ensure complete disclosure of relevant financial information on publicly offered securitiesThe Securities Exchange Act of 1934 extended the disclosure requirements to secondary market issues15Financial Market Regulation (cont’d)Regulatory response to financial scandalsEnron, WorldCom and other scandals involvedExaggerated earningsFailure to disclose relevant informationAuditors not meeting their responsibilitiesExisting regulations were not completely preventing fraud16Financial Market Regulation (cont’d)Increased regulation is existing or emerging in these areas:Provision of more complete and accurate financial informationMore restrictions to ensure proper auditing by auditorsProper oversight by the firm’s board of directors17Global Financial MarketsFinancial markets vary among countries in terms ofThe volume of funds that are transferred from surplus to deficit unitsThe types of funding that are availableHow financial markets influence economic developmentMany foreign countries have converted to market-oriented economiesAllows businesses and consumers to obtain financingMany Eastern European countries allowed for privatization, the sale of government-owned firms to individualsFinancial markets in these countries ensure that businesses can obtain funding from surplus units18Global Financial Markets (cont’d)Global integrationMany financial markets are globally integratedParticipants move funds out of one country’s market and into anotherForeign investors serve as key surplus units in the U.S. by purchasing securitiesU.S. investors serve as key surplus units for foreign countries by purchasing foreign securitiesMarket movements and interest rates have become more correlated between markets19Global Financial Markets (cont’d)Global integration (cont’d)Barriers to global integrationLack of information about foreign companiesDifferent accounting regulationExcessive cost of executing international transactionsFinancial market integration within EuropeElimination of regulationsMerging of some European stock exchangesAdoption of the euro20Global Financial Markets (cont’d)Role of the foreign exchange marketThe foreign exchange market facilitates the exchange of currenciesFinancial intermediaries serve as brokers and/or dealers in foreign exchange marketsForeign exchange marketThe exchange rate is the market-determined price of a currencyPrice changes in response to supply and demand21Role of Financial Institutions in Financial MarketsIn a perfect market:All information about any securities for sale in primary and secondary markets would be continuously and freely available to all investorsAll information identifying investors interested in purchasing securities as well as investors planning to sell securities would be freely availableAll securities are infinitely divisibleMarkets are imperfectFinancial institutions are needed to resolve problems created by market imperfections22Role of Financial Institutions in Financial Markets (cont’d)Role of depository institutionsDepository institutions accept deposits from surplus units and provide credit to deficit unitsDepository institutions are popular because:Deposits are liquidThey customize loansThey accept the risk of loansThey have expertise in evaluating creditworthinessThey diversify their loans23Role of Financial Institutions in Financial Markets (cont’d)Commercial banksAre the most dominant depository institutionOffer a wide variety of deposit accountsTransfer deposited funds by providing direct loans or purchasing debt securitiesServe both the public and the private sector24Role of Financial Institutions in Financial Markets (cont’d)Savings institutionsInclude savings and loan associations (S&Ls) and savings banksAre mostly owned by depositors (mutual)Concentrate on residential mortgage loansCredit unionsAre nonprofit organizationsRestrict their business to credit union membersTend to be much smaller than other depository institutions25Role of Financial Institutions in Financial Markets (cont’d)Role of nondepository financial institutionsNondepository institutions generate funds from sources other than depositsFinance companiesObtain funds by issuing securitiesLend funds to individuals and small businesses26Role of Financial Institutions in Financial Markets (cont’d)Mutual fundsSell shares to surplus unitsUse funds to purchase a portfolio of securitiesSome focus on capital market securities (e.g., stocks or bonds)Money market mutual funds concentrate on money market securities27Role of Financial Institutions in Financial Markets (cont’d)Securities firms Broker functionExecute securities transactions between two partiesCharge a fee in the form of a bid-ask spreadInvestment banking functionUnderwrite newly issued securitiesDealer functionSecurities firms make a market in specific securities by adjusting their inventory28Role of Financial Institutions in Financial Markets (cont’d)Insurance companiesProvide insurance policies to individuals and firms for death, illness, and damage to propertyCharge premiums Invest in stocks or bonds issued by corporations29Role of Financial Institutions in Financial Markets (cont’d)Pension fundsOffered by most corporations and government agenciesManage funds until they are withdrawn from the retirement accountInvest in stocks or bonds issued by corporations or in bonds issued by the government30Comparison of Roles among Financial InstitutionsIndividual Surplus UnitsDepositoryInstitutionsFinance CompaniesMutual FundsDeficit UnitsDepositsPurchaseSecuritiesPurchase SharesPolicyholdersEmployersEmployeesInsurance CompaniesPension FundsPremiumsEmployeeContributions31Overview of Financial InstitutionsCompetition between financial institutionsFinancial institutions should operate to maximize the value of their ownersPresent value of future cash flowsDepends on:Growth and profitabilityDegree of risk32Overview of Financial Institutions (cont’d)Competition between financial institutions (cont’d)Impact of the internet on competitionOnline commercial banksLower costs and higher interest ratesOnline services by banksReduces costs and increases efficiencyOnline insurance companiesReduces operating costsOnline brokerage firmsReduces operating costs and fees33Overview of Financial Institutions (cont’d)Consolidation of financial institutionsReduction in regulations has resulted in more opportunities to capitalize on: Economies of scaleEconomies of scopeMergers have resulted in financial conglomeratesConsolidation may increase expected cash flows or reduce risk, or both34Global Expansion by Financial InstitutionsVarious financial institutions have expanded through international mergers, resulting in:More services to clientsAn international customer baseThe introduction of the euro has increased international mergers35