Lecture Two Chapter 4

Assignment 01
Due: March 2nd, 2012
1 to 2 pages typed Names & Batch Number on the top Right Corner Due at the Beginning of Class

Question #1
Explain the short and long term securities issued by the Government of Pakistan

Question #2
Discuss interest rates in Pakistan and how they relate/reflect the domestic economic conditions with respect to business development

Team Selection
Select a team/group with Five Students each Assignments Group Project/Presentation

Money & Capital

Who wants it?
Individuals, Organizations, Companies, Cities, Countries etc.

For what Purpose? Where do they get it? How transactions take place?
Direct Middle Person Intermediary Institutions

Efficient Market
Efficient Market Function
Savers & Spenders
Access Quick Low cost Adequate protection Trust Stability Competition Accountability

Markets
Physical Assets & Financial Asset Market
Physical - Real/tangible Assets Financial - Claims to Real Assets Derivatives derived from changes in prices of assets

Spot & Futures Market

Buying a fridge Buying a plane

Money & Capital Markets

Short term Long term

Markets
Primary & Secondary Markets
Primary - Issuer gets the proceeds
Raise new money, IPOs

Secondary Trades among investors

Private & Public Markets

Private Directly between two parties
Bank loans

Public Large number of investors

Stocks

Liquid, Marketable, Low risk

Intermediaries
Commercial Banks Savings & Loans Credit Unions Pension Funds Insurance Companies Mutual Funds

Stock Markets
Auction Markets
Physical location Buyers & sellers meet Frequently traded securities Brokered, commission on sales NYSE Dealer (holds Inventory) Market Electronically connected Infrequently traded securities Bid-Ask Spread Nasdaq

OTC Market

Stock Indexes
Measure of Performance of Stock Markets Examples:
Dow Jones Industrial Average S&P 500 NASDAQ Wilshire 5000 KSE 30, KSE 100 Nikkei, Dax, FTSE

Money Markets
Treasury bills (zero coupon) Certificates of deposit Commercial Paper Bankers Acceptances Eurodollars Repurchase Agreements Federal Funds

Capital Markets - Bonds

Publicly Issued Instruments
Treasury Bonds and Notes, TIPS Agency Issues (Fed Gov) Municipal Bonds Tax treatment Example

Privately Issued Instruments

Corporate Bonds Mortgage-Backed Securities

Capital Markets - Equity

Common stock
Ownership Bought & Sold Voting Rights Residual Claim Limited Liability

Preferred stock
No Voting Rights Fixed Dividends (Perpetuity Cumulative) Callable, Convertible

Cost of Money
Interest Rate
Price paid to borrow money
1. Rate of return expectations of producers/borrowers Future benefits exceed current project investment 2. Time preferences of savers/lenders Current v. future consumption 3. Risk associated with loan Success of the project 4. Expected rate of inflation Same amount of money is worth more today than tomorrow

Factors affecting Cost of Money

Interest Rate Components

k = k* + IP + DRP + LP + MRP
k(risk free) = k* + IP k k* IP DRP LP quoted interest rate real risk free rate of interest inflation premium default risk premium liquidity premium

Normal Yield Curve

Term Structure:
A relationship between interest rates and maturities Interest Rate (%) 15 10 5
Real risk-free rate

Maturity risk premium

Inflation premium

0 1 10

Years to 20 Maturity

Other Factors
Interest rates are also influenced by Demand for Money
Overseas Investing
Country specific risks Exchange rate risk

Money supply controlled by central banks National budget deficits/surpluses Trade deficits/surpluses Business activity

Home Work
Chapter 1
Question(s): 12,13,14 3,12 1,2,11

Chapter 4
Question(s): Problem(s):