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Investment Alternatives

Institute of Management Sciences University of Balochistan Quetta


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Organizing Financial Assets


This chapter focuses on the financial assets. Financial assets. assets, as discussed earlier, are financial claims on the issuers of the securities. These are the claims which are securities. negotiable, or saleable, in various marketplace. marketplace. There are various investment alternatives through direct investing to indirect investing. However, this chapter investing. concentrates on investment alternatives available through direct investing, which involves securities that investors not only buy and sell themselves, primarily capital market securities and derivatives securities, but also have direct control over. over.

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Direct Investing vs. Indirect Investing


Direct Investing is the one where investors buy and sell securities themselves typically through brokerage accounts. accounts. Investors who invest directly in financial markets, either using a broker or by other means, have a wide variety of assets from which to choose. choose.
Non-marketable investment opportunities, such as savings Nonaccounts at different financial institutions. institutions. Marketable securities which may be classified in one of three categories: categories:
the money market the capital market and the derivatives market. market.

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Direct Investing
The money market securities includes treasury bills, commercial papers etc The capital market securities can be classifies either fixed-income or equity fixedsecurities. securities. Finally, investors may choose to use derivative securities in their portfolios. portfolios.
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Major Types of Financial Assets


NonNon-Marketable
Saving deposits Certificates of deposits  Money market deposit accounts  U.S. saving bonds
 

Money Market
Treasury bills Negotiable certificates of deposits  Commercial paper  Eurodollars  Repurchase agreement  Banker s acceptance
 

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Major Types of Financial Assets


Capital Market
Fixed income  Treasuries  Agencies  Municipals  Corporates Equities  Preferred Stock  Common Stock

Derivatives Market
Options  Future Contracts


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NonNon-Marketable Financial Assets


Saving Accounts: Saving accounts are held at Accounts: commercial institutions or at thrift institutions such as saving and loan associations and credit unions. unions. NonNon-negotiable certificated of deposit: Commercial deposit: banks and other institutions offer a variety of savings certificates known as certificates of deposit (CDs). These (CDs). certificates are available for various maturities, with higher rates offered as maturity increases (Large deposits may also command higher rates, holding maturities constant). Institutions are free to set their constant). own rates and terms on most CDs. CDs.

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NonNon-Marketable Financial Assets


Money Market Deposit Accounts (MMDAs): (MMDAs): Financial institutions offer money market deposit accounts (MMDAs) with no interest rate ceilings. ceilings. Money market investment accounts, with a required minimum deposit to open, pay competitive money market rates and are insured up to $ 100,000 by the Federal Deposit 100, Insurance Corporation (FDIC), if the bank is insured. insured.
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NonNon-Marketable Financial Assets


U.S. Government Savings Bonds: The Bonds: nonnon-traded debt of the U.S. government savings bonds, are non-marketable, nonnonnontransferable, and non-negotiable, and noncannot be used for collateral. They collateral. purchased from the Treasury, most ofter through banks and savings institutions. institutions.

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Money Market Securities


Money Market: The money markets includes shortMarket: shortterm, highly liquid, relatively low-risk debt instruments low(such as Treasury bills and negotiable CDs) sold by governments, financial institutions and corporations to investors with temporary excess funds to invest. invest. This market is dominated by financial institutions particularly banks and governments. governments. The size of transaction in the money market typically is large ($ 100,000 or more). 100, more). The maturities of money market instrument ranges from one day to one year and are often less than 90 days. days.
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Money Market Securities


Treasury Bills: The premier money market Bills: instrument, fully guaranteed, highly liquid IOU (Issuer s Contractual Obligation) from the U.S. treasury. treasury. They are sold on an auction basis every week at a discount from face value in denominations of $10,000 to $ 1 million. Therefore, the discount 10, million. determines the yield. yield. The greater the discount at time of purchase, the higher the return earned by investors. investors. Typical maturities are 13 and 26 weeks. weeks.
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Money Market Securities


Negotiable certificate of deposit (CDs): These are issued in (CDs): exchange for a deposit of funds by most American banks. banks. The CD is a marketable deposit liability of the issuer, who usually stands ready to sell new CDs on demand. demand. The deposit is maintained in the bank until maturity, at which time the holder receives the deposit plus interest. interest. However, these CDs are negotiable, meaning that they can be sold in the open market before maturity. maturity. Dealers makes a market in these unmatured CDs. CDs. Maturity typically range from 14 days (the minimum maturity permitted) to one year. The minimum deposit is $100,000. year. 100,000.
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Money Market Securities


Commercial Paper: A short-term, unsecured Paper: shortpromissory note issued by large, well known and financially strong corporations (including finance companies). companies). Denominations start at $ 100,000 with a 100, maturity of 270 days or less. less. Commercial paper is usually sold at discount either directly to by the issuer or indirectly through a dealer. dealer.
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Money Market Securities


Eurodollars: DollarEurodollars: Dollar-denominated deposits held in foreign banks or in office of U.S. banks located abroad. abroad. Although this market originally developed in Europe, dollar-denominated deposits can now be dollarmade in may countries, such as those of Asia. Asia. Eurodollar deposits consists of both time deposits and CDs, with the latter constituting the largest component of the Eurodollar market. market. Maturities are mostly short term, often less than six months. months.
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Money Market Securities


Repurchase agreement (RPs): An agreement (RPs): between a borrower and a lender (typically institutions) to sell and repurchase U.S. government securities. securities. The borrower initiates an RP by contracting to sell securities to a lender and agreeing to repurchase these securities at a prespecified price on a stated date. date. The maturity of RPs is generally very short, from three to 14 days and sometimes overnight. overnight. The minimum denomination is typically $ 100,000. 100,000.
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Money Market Securities


Banker s Acceptance: A time draft drawn on a bank Acceptance: by a customer, whereby the bank agrees to pay a particular amount at a specified future data. data. Banker s acceptance are negotiable instruments because the holder can sell them for less than face value (i.e. (i. discount them) in the money market. market. Banker s acceptance are traded on discount basis, with minimum denomiations of $ 100,000. 100,000. Maturities typically range from 30 to 180 days, with 90 days being the most common. common.
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FixedFixed-Income Securities
Capital Market: The market for long-term securities Market: longsuch as bonds and stocks. stocks. Capital market encompass fixed-income and equity fixedsecurities with maturities greater than one year. year. Risk is generally much higher than in the money market because of the time to maturity and the very nature of the securities sold in the capital markets. markets. The capital market includes both debt and equity securities, with equity securities having no maturity date. date.
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FixedFixed-Income Securities
FixedFixed-income securities: These are the securities: securities with specified payment date and amounts primarily bonds. bonds. Bonds are long-term debt instruments longrepresenting the issuer s contractual obligation or IOU. IOU.

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Equity Securities
Preferred Stock: An equity security with Stock: an intermediate claim (between the bondholder and the stockholder) on a firm s assets and earnings. earnings. Common Stock: An equity security Stock: representing the ownership interest in a corporation. corporation.
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Derivative Securities
Derivative securities: are the securities securities: that derive their value in whole or in part by having a claim on some underlying security. security. A financial security such as an option or future whose value is derived in part from the value and characteristics of another security, the underlying asset. asset.
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Derivative Securities
Future Contract: Futures involve a Contract: financial contract that requires the buyer to purchase an asset (or the seller to sell an asset), such as a physical commodity or a financial instrument, at a specific price on a predetermined date in the future. future.

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Derivative Securities
Option: Option: A contract in which the writer (seller) promises that the contract buyer has the right, but not the obligation, to buy or sell a certain security at a certain price (the strike price) on or before a certain expiration date, or exercise date. The asset in the contract is referred to as the underlying asset, or simply the underlying. An option giving the buyer the right to buy at a certain price is called a call, while one that gives him/her the right to sell is called a put.

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Derivative Securities
The primary difference between options and futures is that options give the holder the right, not the obligation, to buy or sell the underlying asset until expiration, whereas the holder of a futures contract is obligated to fulfill the terms of the contract. contract.

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Indirect Investing
Indirect Investing refers to the buying and selling of the shares of investment companies, which, in turn, hold portfolios of securities. securities. Indirect investing is a very important alternative for all investors to consider, and has become tremendously popular in the last few years with individual investors. investors.

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Major Types of Financial Assets


Indirect Investig Investment Companies
Unit Investment Trust Open End  Money market mutual fund  Stock, bond and income funds Closed end

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