Financial Markets and Institutions – BA 543 Tuesday Bexell 415 12:00 noon to 2:50 p.m. 6:00 p.m. to 8:50 p.m.

Chapter 2 – Financial Intermediation Definition of Financial Intermediation Transforming acquired financial assets into preferred type of asset (liability) for owner (borrower) Example: Car Loan (Funds from Depositors are packaged in loans for customers buying a car) Example: Swap (Bond swap from fixed to floating rate) Performed by Financial Institutions Many of these intermediation functions are completed with large institutions Completed in Financial Markets

Chapter 2 – Financial Intermediation A closer look at Financial Institutions Types Banks – Commercial, Investment, Savings and Loans, Credit Unions, etc. Investment Companies Insurance Companies Others – Pension Funds, Foundations, etc. Functions Transforming, Exchanging, and Designing Financial Assets Advising and Managing Financial Assets

Chapter 2 – Financial Intermediation Direct Investing with Intermediaries Commercial Bank Direct Deposit – CD – Promised Payment at the end of the Investment Period Dollars are loaned to a borrower (to buy a car) with a different payment schedule Indirect Investing with Intermediaries Mutual Fund Company (Investment Company) Buy mutual fund shares at NAV (no load) Company uses funds to buy stocks and bonds

Chapter 2 – Financial Intermediation Four Functions of Intermediation Maturity Borrow in the long, lend in the short Risk Reduction (Diversification) Eliminate firm specific risk via a portfolio Cost Reduction of Information/Contracting Share information acquired across large set of individuals Payment Mechanisms Checks, Credit Cards, Debit Cards, etc.

Chapter 2 – Financial Intermediation Asset/Liability Management for Financial Institutions Nature of Business – Buy and Sell Money Buy Low, Sell High – Spread Nature of Liabilities Timing and Amount of Outflow of Cash Table 2-1 Page 25 Liquidity of Claims against Financial Institutions – can obligations be met with current assets of the institution?

Chapter 2 – Financial Intermediation Growth of Financial Intermediaries through Financial Innovation Market Broadening Instruments – attracts new investors Zero-Coupon Bonds – TGIRS, LYONS, etc Risk Management Instruments Options Arbitrage Instruments – Price Stability Index Assets for direct trade Motivation? Risk Transfer or Abritrage

Chapter 2 – Financial Intermediation Asset Management Firms AKA money managers, fund managers, portfolio managers, etc. Manage funds of Individuals Businesses Endowments Foundations New Type of Fund – Hedge Fund Private funds, professionally managed and not available to public Not formally defined…we will skip for this class