1. McGraw-Hill/Irwin © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. Financial Securities CHAPTER 2

2. 2-2 Major Classes of Financial Assets or Securities Money market Bond market Equity markets Indexes Derivative markets

3. 2-3 Money Market Instruments Treasury bills Certificates of deposits –Time deposit with a bank. Not withdrawable on demand. Negotiable in denominations over $100,000 Commercial Paper –Short term unsecured debt notes, issued by large corporations, sometimes backed by a bank line of credit Bankers Acceptances –Like a postdated check, a promise to pay in the future, that is ‘accepted’ by a bank, the bank assumes responsibility for ultimate payment.

4. 2-4 Money Market Instruments cont. Eurodollars –Dollar-denominated deposits at foreign banks or foreign branches of US banks. Usually large sums, usually time deposits. Repurchase Agreements (RPs) and Reverse RPs –Sell a security and agree to repurchase. Brokers’ Calls –Broker borrows from bank, agrees to repay on demand, used for funding stock margin purchases Federal Funds LIBOR Market (London Interbank Offer Rate) –Rate at which large banks in London lend money among themselves. Usually tied to currency other than USD

5. 2-5 Figure 2.1 Money Rates

6. 2-6 Figure 2.2 Treasury Bills

7. 2-7 Figure 2.3 Spreads on CDs and Treasury Bills

8. 2-8 Bond Market Treasury Notes and Bonds Federal Agency Debt International Bonds Municipal Bonds Corporate Bonds Mortgages and Mortgage-Backed Securities

9. 2-9 Treasury Notes and Bonds Maturities –Notes – maturities up to 10 years –Bonds – maturities in excess of 10 years –30-year bond 2001 Treasury suspended sales 2005 discussion to possibly resume sales Par Value - $1,000 Quotes – percentage of par

10. 2-10 Figure 2.4 Treasury Notes, Bonds and Bills

11. 2-11 Federal Agency Debt Major issuers –Federal Home Loan Bank –Federal National Mortgage Association –Government National Mortgage Association –Federal Home Loan Mortgage Corporation

12. 2-12 Figure 2.5 Government Agency & Similar Issues

13. 2-13 Municipal Bonds Issued by state and local governments Types –General obligation bonds –Revenue bonds Industrial revenue bonds Maturities – range up to 30 years

14. 2-14 Figure 2.6 Outstanding Tax-exempt Debt

15. 2-15 Municipal Bond Yields Interest income on municipal bonds is not subject to federal and sometimes state and local tax To compare yields on taxable securities a Taxable Equivalent Yield is constructed

16. 2-16 Table 2.3 Equivalent Taxable Yields

17. 2-17 Figure 2.7 Ratio of Yields on Tax-exempts to Taxables

18. 2-18 Corporate Bonds Issued by private firms Semi-annual interest payments Subject to larger default risk than government securities Options in corporate bonds –Callable –Convertible

19. 2-19 Figure 2.8 Corporate Bond Prices

20. 2-20 Developed in the 1970s to help liquidity of financial institutions Proportional ownership of a pool or a specified obligation secured by a pool Market has experienced very high rates of growth Mortgages and Mortgage-backed Securities

21. 2-21 Figure 2.9 Mortgage-backed Securities Outstanding

22. 2-22 Equity Markets Common stock –Residual claim –Limited liability Preferred stock –Fixed dividends - limited –Priority over common –Tax treatment Depository receipts –Certificates traded in US markets that represent ownership in shares of a foreign company.

23. 2-23 Figure 2.10 Listing of Stocks Traded on the NYSE

24. 2-24 Track average returns Comparing performance of managers Base of derivatives Uses of Stock Indexes

25. 2-25 Representative? Representative? Broad or narrow? Broad or narrow? How is it weighted? How is it weighted? Factors for Construction of Stock Indexes

26. 2-26 Examples of Indexes - Domestic Dow Jones Industrial Average (30 Stocks) Standard & Poor’s 500 Composite NASDAQ Composite NYSE Composite Wilshire 5000

27. 2-27 Figure 2-11 Comparative Performance of Several Stock Market Indexes

28. 2-28 Examples of Indexes - Int’l Nikkei 225 & Nikkei 300 FTSE (Financial Times of London) Dax Region and Country Indexes –EAFE –Far East –United Kingdom

29. 2-29 Construction of Indexes How are stocks weighted? –Price weighted (DJIA) –Market-value weighted (S&P500, NASDAQ) –Equally weighted (Value Line Index)

30. 2-30 Derivatives Securities Options Basic Positions –Call (Buy) –Put (Sell) Terms –Exercise Price –Expiration Date –Assets Futures Basic Positions –Long (Buy) –Short (Sell) Terms –Delivery Date –Assets