Markets

Financial Markets derive from Financial Economics, which studies Financial Systems.

There are two types of Financial Markets:

  1. Capital markets: Markets for long-term financial instruments
  2. Money markets: Markets for short-term financial instruments

The two primary long-term instruments are the Stock and the Bond.

The following are long-term instruments, also called Capital Market:

  • Treasury Notes & Bonds: There are long-term instruments. They usually have a coupon and have a very high interest rate risk. The maturity is between 2 to 30 years. Characteristics of Treasury Notes & Bonds: Coupon, interest rate risk, 2 to 30 years maturity.
  • Mortgages: A loan to an individual or business, or corporation, secured by real estate, usually to buy real estate.
  • Municipal Bonds: A bond issued by a local government like a state or municipality
  • Corporate Bonds: Bonds issued by a corporation.
  • LEASE: There are 2 types; Operating LEASE and Capital LEASE. It is very similar to a LOAN for the purchase of equipment. Legally, the lender remains the owner of the asset.
  • Preferred Stock: The corporation guarantees you of a particular dividend payment on that particular stock and common stock holders do not get any dividend until the preferred stock get paid.
  • Common Stock: It is a security that represents ownership in a corporation. Holders of common stock exercise control by electing a board of directors and voting on corporate policy. They are on the bottom of the priority ladder for ownership structure. iIn the event of liquidation, common shareholders have rights to company’s assets only after bondholders, preferred shareholders and other debtholders are paid in full.

The following are short-term instruments, also called Money Market:

  • Treasury Bill: Short-term financial instrument issued by the government or issued by the treasury at a discount. The discount is called a discount instrument. It brings and yield no interest, there are no coupons and the only way the buyer will get return is through the discount. Treasury bills are default-free, deep (liquid), competitive / non competitive bidding, book-entry securities.
  • Fed Funds (Federal Funds): It is a deposit at the central bank. It is an asset for the depositor and a liability for the central bank. The only risk it bears is the risk of the central bank (the currency risk). Characteristics of Fed Funds: minimum required reserves, total reserves, excess reserves, Fed Funds rate
  • REPO (Repurchase Agreement): It is the sale of securities with an immediate agreement to buy them back on a future date at specified price. Characteristics of REPO: Security Loan, low risk, monetary policy.
  • Negotiable CD (Negotiable Certificate of Deposit): It is a deposit at a depositary institution, usually a commercial bank. Negotiable means that the security can be bought or sold. Characteristics of Negotiable CD: large denomination, institutional investor, commercial bank, term security = term deposit = time deposit, bearer instrument, one to four months.
  • Commercial Paper (CP): They areissued by corporations or financial institutions. Often, commercial banks and investment banks will issue commercial paper to finance themselves. It is a discount instrument; Just like the treasury bill, it has no coupon, it pays no interest and the only way to get a return is to be sold at a discount from its face value. Characteristics of Commercial Paper: 20 to 45 days, up to 270; discount instrument, direct placement. back-up line of credit, non-depository issue, ABCP (Asset Backed Commercial Paper) is a commercial paper secured with asset, usually secured with financial instrument; It could be mortgages or some other assets.
  • Banker’s acceptance: To accept means to take responsibility in case of default. Banker’s acceptance can be issued by any company. It is acceptance by usually a commercial of investment bank. It is a guarantee by the commercial of investment bank to pay in case of default. Characteristics of Banker’s acceptance: accept, low risk, insurance.
  • Eurodollars (Foreign deposit of dollars): Euro means in a foreign country, dominated in dollars in a foreign country. Characteristics of Eurodollars: Foreign deposit, time deposit, overnight, unregulated, competitive, deep, London, Tokyo, Singapore, Hong Kong; Eurodollar CD.