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Chapter 2 An Overview of Financial SystemFunction of Financial Markets:
Channeling funds, economic efficiency, time purchases.
Structure of Financial Markets
Categorizations based on the way to obtain funds
Debt Markets
Equity Markets
By issuing a debt instrument, such as a bond or a mortgage
Reduce default risk
By issuing equities, such as common stock
Claims to share in the net income after expenses and taxes and the assets of a business.
The borrower should pay the holder of the instrument fixed dollar amounts (before taxes) at regular intervals (interest and principal payments) until a specified date.
Equities make periodic payments (dividends) to holders.
Benefit from any increases in the corporations profitability or asset value.
Maturity: short-term, intermediate-term, long term
No maturity date.
Residual claimant: all debt holders must be paid first
Equity holders get paid after debt holders
No ownership rights; often being accompanied by redemption provisions or convertibility
Equities confer ownership rights on equity holders.
Categorizations based on issues and liquidity of securities
Primary Markets
Secondary markets
New issues of a security are sold by corporation or government agency borrowing funds to initial buyers
Previously issued securities can be resold.
NASDAQ
Investment banks underwrite securities. A corporation acquires new fund only when its securities are first sold in primary markets.
Securities brokers - agents of investors who match buyers with sellers of securities;
Securities dealers - link sellers by buying and selling securities at stated prices.
Two important functions: LTo make the financial instruments more liquid, then make them more desirable and thus easier for the issuing firm to sell in the primary market;
2. To determine the price of the security that the issuing firm sells in primary markets.
Categorizations based on organization modes in secondary markets
Exchanges
Over-the Counter Markets
Meet in one central location to
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