Securities Firms, Mutual Funds, and Financial Conglomerates Chapter 20 © 2003 South-Western/Thomson Learning

Slide 2 Learning Objectives  What securities firms are and what financial services they provide  Various types of mutual funds  What are hedge funds and real estate investment trusts (REITs)  Role of government-sponsored enterprises (GSEs)  What financial conglomerates are and why they have grown so much in recent years

Slide 3 Securities Firms  Investment Banks  Financial institutions that design, market and underwrite new issuances of securities in primary market  Responsibilities for New Offerings-two types  Initial Public Offering (IPO) - not previously sold financial stocks or bonds to public  Seasoned Issuance – when stocks or bonds have been previously issued  Timing The two main functions of securities firms are investment banking and the buying and selling of previously issued securities.

Slide 4 Securities Firms  Investment Banks  Role of Securities and Exchange Commission  Registration Statement  Statement that must be filed with the SEC before new securities offering can be issued  Prospectus  Subpart of registration statement that must be given to investors before they purchase securities  Credit Rating  Underwriting and Marketing  Syndicate  Group of investment banks  Each underwrites a proportion of new securities offering

Slide 5 Securities Firms  Investment Banks and Functioning of Primary Market  Private Placement  Method of issuing new securities by selling to limited number of large investors

Slide 6 Brokers & Dealers: Secondary Market  Types of Orders – to instruct broker / dealer  Market Orders  Purchase or sell the securities at present market price  Limit Orders  Purchase securities at market price up to certain maximum  Short Sell  Borrow shares of stocks  Sell them today with guarantee that investor will replace them by a date in future

Slide 7 Brokers & Dealers: Secondary Market  Margin Loans  Loans to investors  Proceeds are used to purchase securities  Brokerage Fees  Brokerage firms could compete by offering lower fees  Discount brokerage firms  Provide limited or no investment advice  Fees much lower that full-service brokerage firms

Slide 8 Securities Industry  Securities Industry Protection Corporation (SIPC)  Nonprofit membership corporation  Established by Congress in 1970  Provides insurance up to $500,000 per investor  To protect investors’ securities from liquidation by brokerage firm Self-regulated by National Association of Securities Dealers (NASD) and various securities exchanges such as the New York and American stock exchanges.

Slide 9 Investment Companies  Open-End Fund  Mutual fund continually sells new shares to public  Buys outstanding shares from public  At price equal to the net asset of value  Difference between market value of shares of stock that mutual fund owns and liabilities of mutual fund  Closed-End Fund  Mutual fund sells limited number of shares like other corporations  Usually do not buy back outstanding shares Companies that own and manage a large group of different mutual funds.

Slide 10 Investment Companies  Load  Sales commission  Paid to broker to purchase mutual finds  By law, load cannot exceed 8.5%  No-Load  Mutual funds purchased directly from mutual fund company  Not subject to a load

Slide 11 Growth of Investment Funds  Recent legislation gives individuals control over where their pension funds are invested, many have chosen mutual funds  Many types of mutual funds are often offered by single investment company  Create new funds that invest in several mutual funds  Fund of Funds  Mutual fund  Invests in portfolio of other mutual funds rather than individual stocks and/or bonds

Slide 12 Growth of Investment Funds  Stock Funds  Aggressive growth funds  Global equity funds  Growth and income funds  Income-equity funds  Index funds  Sector funds  Socially conscious funds

Slide 13 Exhibit 20–3a A Sample of the Types of Mutual Funds

Slide 14 Growth of Investment Funds  Bond Funds  Corporate bond funds  Global bond funds  Ginnie Mae funds  High-yield bond funds  Long-term municipal bond funds  State municipal bond funds  U.S. government income funds

Slide 15 Exhibit 20–3b A Sample of the Types of Mutual Funds

Slide 16 Growth of Investment Funds  Stock and Bond Funds  Balanced funds  Flexible portfolio funds  Income-mixed funds  Convertible securities funds

Slide 17 Exhibit 20–3c A Sample of the Types of Mutual Funds

Slide 18 Hedge Funds  Nontraditional type of MF that attempt to earn maximum returns regardless of rising or falling financial prices  General partner usually organizes fund and is responsible for day-to-day trading decisions  Not regulated as traditional investment pools or mutual funds  Attempt to earn high - or maximum - returns  Use riskier investment strategies than those in traditional mutual funds  Traditionally charge high fees and take large percent of profits

Slide 19 Real Estate Investment Trusts (REITs)  Special type of mutual fund  Pools funds of many small investors  Uses them to buy or build income property  Uses them to make or purchase mortgage loans

Slide 20 Government-Sponsored Enterprises  GSE Housing Market  Federal National Mortgage Association (Fannie Mae)  Federal Home Loan Mortgage Corporation (Freddie Mac)  Government National Mortgage Association (Ginnie Mae) Publicly held corporations that are chartered by Congress.

Slide 21 Government-Sponsored Enterprises  GSE Farm Loan Market  Federal Farm Credit Banks Funding Corporation (FFCBFC)  Issues bonds and discount notes to make loans to farmers  Federal Credit Financial Assistance Corporation (FACO)  Issues bonds with explicit government guarantee  Uses proceeds to assist the FFCBFC

Slide 22 Government-Sponsored Enterprises  GSE Student Loan Market  Student Loan Marketing Association (Sallie Mae)  Issues securities to purchase student loans  Increases the amount and liquidity of funds flowing into student loans  Financing Corporation (FICO)  Issues bonds  Uses proceeds to help resolve the savings and loan crisis

Slide 23 Financial Conglomerates  Own and operate several different types of financial intermediaries and institutions  Alleged advantages of forming financial conglomerates include taking advantage of  Economies of scale - gains from size that may result from several firms  Streamline management  Eliminate duplication of effort of several separate firms  Economies of scope  Advantages to firms being able to offer customers several financial services under one roof  Diversification  Branching out of financial conglomerates into several product lines