McGraw-Hill/Irwin

Copyright 2012 by The McGraw-Hill Companies, Inc. All rights reserved.

Financial Markets
Financing Decision
Source of Funds (Capital)
Capital Structure

2-2

The Flow of Capital: Closely Held Corporations

2-3

The Flow of Capital: Public Corporations

2-4

The Flow of Capital: Public Corporations

Financial Market:
Market where securities are issued and traded.

Primary Market:
Market for the sale of new securities by corporations.

Secondary Market:
Market in which previously issued securities are traded among investors.
2-5

Financial Markets
Initial Public Offering (IPO):
First offering of stock to the general public.

Fixed-Income Market:
Market for debt securities

2-6

Financial Markets: Markets for Debt

Capital Markets are used for long-term financing Example of long-term debt: Bonds

Money Markets are used for short-term financing.

Example of short-term debt: Commercial Paper

2-7

Information Provided by Financial Markets:

Commodity Prices
Interest Rates Company Value Cost of Capital
2-8

Financial Intermediaries
Mutual Fund
An investment company that pools the savings of many investors and invests in a portfolio of securities Hedge Fund A private investment pool, open to wealthy or institutional investors, that is only lightly regulated and therefore can pursue more speculative policies than mutual funds Pension Fund Fund set up by an employer to provide for employees retirement

2-9

Flow of Cash Example: Mutual Fund

$ Bank of America
Sells shares

$ Explorer Fund
Issues shares

Investors

2-10

A Closer Look: Financial Institutions

Commercial Bank Investment Bank Insurance Company

2-11

Companies and Intermediaries

Company
Obligations Funds

Intermediaries
Banks Insurance Companies Brokerage Firms
2-12

Intermediaries and Investors

Intermediaries
Obligations Funds

Investors
Depositors Policyholders Investors
2-13

Cash Flow Example: Banks

Company
Loan $2.5 mil

Banks

Intermediary
Deposits Cash

Depositors

Investor

2-14

Cash Flow Example: Insurance Company

Company
Issue Debt $2.5 mil

Insurance Company

Intermediary
Sell Policies Cash

Policyholders

Investor

2-15

Function of Financial Markets

Transport cash across time
Risk transfer and diversification Liquidity

2-16

Function of Financial Markets

Payment mechanism Provide information

2-17

The Crisis of 2007-2009

2-18

Appendix A: Total U.S. Equity Financing

Holdings of Corporate Equities, 3rd Quarter 2010

2-19

Appendix B: Total U.S. Debt Financing

Holdings of Corporate & Foreign Bonds, 3rd Quarter 2010

2-20