CAPITAL CASINOS By Tessa Voors

Quick Recap Money not in bank? Wasting an opportunity No interest Risk of inflation Money in bank interest Banks make money by receiving more interest than they pay

Quick Recap What influences share prices? Current profitability Extent of assets Rumors about company’s future

Content Buying a business Buying Bonds Derivatives Hedge Funds Sovereign Wealth Funds

Buying a business Direct owning of shares Indirect owning of shares Private equity

Direct owning of shares Entitled to dividends Can vote for the board of directors Interest may clash with those of the board of directors: Principal-Agent problem

Principal-Agent Problem Principals (shareholders) Value of the holding must rise High dividends Profit on investment Agents (Board of Directors) Want long-term growth Reinvest profit in R&D instead of paying high dividends

Indirect owning of shares Shares owned by institutions: 50% in US & 67% in UK Insurance companies or pension funds Claim to manage your money better than the average investor But: only as long as the market is rising they look competent

Private Equity Firms Buy a private or public company Believe they can manage it better Sell the company for a profit Use a loan to buy up all the shares Private equity firms are often owned by financial firms

Buying Bonds 1. Issuer receives sum of money 2. Pays a fixed interest rate 3. Repays the initial sum after a certain period Offers no control in issuing party Bond price affected by: Market interest rate The closer to the redemption date

Junk Bonds Corporate bonds have higher yields The less reliablethe higher coupons Rated B-high yield Junk bond Offer generally 8 percentage points more

Asset-backed bonds In event of default: owner has degree of ownership Mortgage bond

Government Bonds & National Debts Safest type of bond Sovereign debt US: TreasuriesUK: Gilts Used to balance income and expenditure If more income than expenses: can buy back its own bonds

Derivatives Contracts that are derived from shares or bonds High betting level Work like insurance policies Bought to hedge companies themselves

Types of Derivatives Futures To buffer against future price changes by locking future transactions at current price Swaps Credit Default Swap: pay someone else to take the risk Does not entirely remove risk

Derivatives Contracts that are derived from shares or bonds High betting level Work like insurance policies Bought to hedge companies themselves Used for speculation Volume of trading in derivatives exceeds the trade in the underlying commodity

Hedge Funds Carry out speculative trading in derivatives “hedging” against risk Mutual funds for the rich “2 and 20” Aim for high absolute returns Use shorting disastrous consequences Frantic trading volatile markets

Hedge Funds

Sovereign Wealth Funds Held by government Invested abroad Mainly oil revenues, trading surpluses Concern: buying strategic assets

So in the end.. Involves risk Unstable financial systems Vulnerable to external events Manageable with regulation at national level

Questions?