Week9 Slides



Refersto a number of funds invested by one firm though they have differentgoals

Whymutual funds are popular

  • Diversification thus reduced risk,

  • Affordability due to lower cost of transactions

  • liquidity in easy conversion into cash

  • customizability is made possible


  • Is the value of company shares at current market value

Typesof market capitalization

  • Large cap- have market caps of $5.3 billion and more

  • Medium cap- have $1.4 to $5.9 billion caps

  • Small cap- have below $ 1.4 billion caps

Whyindex funds are popular

  • Their performance is relatively higher than others

  • They are not actively managed

  • Incur low expenses

  • Simplest form of funds to manage

BondVS stock mutual funds

  • Bond funds sell shares to individuals and invest in bonds while the stock funds invest in stocks

Motiveof investing in mutual funds

  • Portfolio manager expertise

  • To reach particular objectives

  • Initial investment is small

NetAsset Value:is the value of the security bought less the liabilities associated.

Loadvs. no- load mutual funds

  • No Load funds are sold directly to individuals and no charges are made

  • Load funds are sold via stock broker and a charge is induced

Expenseratio: Annualexpenses per share

Net asset value of mutual fund

Relationshipbetween expense ratio and performance

  • The lower the expense ratio, the higher the performance

Typesof stock mutual funds

  • Growth funds that focus on average growth stocks

  • Capital appreciation funds that focus on stocks expected to grow at high rate

  • Small cap funds that focus on small firms

  • Mid cap funds that focus on medium size firms

  • Equity income funds that focus on firms paying high dividends

  • Balanced growth and income funds that focus on growth and high dividend paying stocks

  • Technology funds that focus on technology based firms

  • Index funds that reflect the movement of stock index

  • International funds that focus on firms outside US

  • Socially responsible funds that focus on offensive firms

  • Exchange traded funds that mimic the particular stock index and their share value changes over at all times

Typesof bond mutual funds

  • Treasury bond that focus on treasury bonds

  • Ginnie Mae bond that focus on bonds issued by the government

  • Corporate funds that focus on high quality firms

  • High yield bond that focus on relatively risky bonds

  • Municipal bond that focuses on municipal bonds

  • Index bond that mimic the existing bond index

  • International bond that focus on non- US firms

  • Global bond funds that invest in both U.S and foreign bonds


  • Defined as the susceptibility of the fund performance in relation to the stock market conditions

Trade-offbetween risk and return in stock funds

  • Stock index fund has a limited return and risk

  • A moderate growth fund has a moderate return and risk

  • A high risk growth fund has a high return and risk possibility

Riskof investing in bond mutual fund

  • Interest rate risk is the susceptibility of the fund to interest rate movements

  • Longer term bonds are more sensitive

Tradeoff involved

  • Conservative: No default risk, low interest risk and low return

  • Moderate: moderate default and interest rate, and moderate return

  • High risk: high default and interest risk, high return

Factorsin selection of bond funds

  • The desired fund characteristics

  • Risk tolerance

  • Mutual fund’s prospects

Openand close end funds

  • Open end funds give a chance to buy or redeem shares at any point and the prices are determined by the net asset value of the shares.

  • Close end funds allow the purchase of irredeemable shares where the prices are determined by the market forces.

NetAsset Value Formula

NAV=(Total value – Liabilities)/ number of outstanding shares

Week10 Slide 1

  • Commercial Banking industry

Historyof banking

  • Glass Steagall Act of 1933

  • This is an act passed to reduce the failure of banks due to engaging in investing activities

  • The act was repealed in 1999 to allow the banks to engage in securities trade.

  • The act prohibited the brokerage and underwriting activities

  • Currently the act loophole of section 20 allows banks to engage in underwriting



  • Are short term IOUs sold by reputable firms to raise cash

  • Risk of default is small

  • There is no need to register with SEC if they mature within nine months


  • Are short term promissory notes issued by bank and supported by the firm

  • Are sold on a discount

  • Maturity is between 30 to 180 days

  • Vary in size depending on the amount of the transaction


  • Are short term securities issued by banks with a typical amount of $100000, $500000 and $ 1million

  • They are guaranteed by the bank

  • Have a minimum value of $100000

Taxon deposits formula

Ix rd



  • Acts as the bank to the United States Government

  • Regulates the nation’s financial institution


  • Insures deposits in the United States against possible bank failure

  • Created to restore public confidence in banks

Officeof the comptroller of the Currency

  • Serves charter, supervises and regulate national banks and federal branches


  • Adjustable rate mortgages to respond to the changing interest rate risk

  • Credit cards that have reduced transaction costs

  • Automated teller machines

Consand pros of banks consolidation


  • Possible decline of small banks

  • Rush to consolidate increases risk


  • Survival of community banks is enhanced

  • Increased competition hence effectiveness

  • Diversification of bank loan portfolio


Businessstart ups

Thesmall business administration (SBA)

  • Is an agency of the federal government

  • Offers managerial and financial assistance to small businesses

  • Guarantees loans made by small business people

  • Assist women and minorities

Featuresof a business plan

  • Company description

  • Owner’s qualifications

  • Product description

  • Market analysis

  • analysis

Causesof business failures

  • Economic factors

  • reasons

  • Personal reasons

  • Lack of experience

Functionsof investment banks

  • Underwrite initial sale of stocks and bonds

  • Deal makers in mergers

  • Middlemen in the purchase of companies

  • Private broker to the wealthy

Rolein underwriting and stocks and bonds

  • Advising on the current market conditions and when to issue

  • Filing SEC registration documents on issue of more than $1.5million and a maturity of more than 270 days

  • Form an under writing syndicate to minimize risk involved

  • Conducts private placement and the best efforts policies

Rolein Equity sales

  • Assist in determining the firm value

  • Develop confidential financial statements

  • Prepare a letter of intent

Rolesin mergers and acquisition

  • Assist in identifying potential acquirers and targets

  • Assist in legal issues, line up specifics

Rolesof securities dealers and brokers

  • Market order, you buy security at the market price

  • Limit order, you pay what you are willing

  • Short sales, you sell a security to buy it later

Fullservice and discount brokers

  • Full service brokers provide research and advice on the securities.

  • Discount brokers, provide facilities for purchase and sale but don’t offer advice


  • Hold securities in their accounts

  • Are market makers

1933and 1934 Act provisions

  • Establishment of SEC

  • Registration requirements

  • Prohibition of market manipulation

Venturecapital firms

  • These firms provide startup capital for small firms

  • They too offer the management expertise

Structureof venture capital firms

  • Most are limited companies, getting funding from wealthy individuals, pension funds and corporations.

Week10 part 2

  • Insurance companies and pension funds

  • Life insurance

  • It provides for the death expenses as well as the family left behind

Premiumdetermining factors

  • Number of dependents

  • One’s age

  • Health status

  • wealth and obligations

Formulaof determining Life insurance needs

Incomemultiple method: Income x 5-10 factor

Termlife insurance period vs. period of time

  • Can be renewed or converted

  • Initial premiums are much lower

  • Rates go up on renewal

Lifeinsurance provisions

  • Grace period time after policy has lapsed that it can be restated

  • Policy loans: cash value you can borrow on policy without terminating it

  • Incontestable clause: provision that you cannot claim on a misrepresentation after a specific time


  • Are part benefits that are extended to terminally ill patients just before their death from life policy

Formsof Permanent life policy

  • Whole life: covers the entire life of a person

  • Universal policy contains a provision for flexible premium payment

Mutualinsurance companies

  • Are owned by policy owners and attempts to provide the lowest cost of insurance

  • Get a tax advantage as they are mostly stock companies

  • State governments have the responsibility of governing the insurance companies


  • Pay as you go system is used to pay the current benefits from the current funding.

Backgroundof life insurance

  • Term life insurance is the cheapest policy

  • Whole life policy is also called the permanent policy

  • Variable universal policy gives a chance for the holder to choose various investments

  • Income approach is the easiest way of determining the insurance needs

Typesof life insurance

  • Decreasing term: benefits paid decreases with time

  • Mortgage life insurance: pays off a mortgage after policy holders death

  • Group term insurance: is available to a group of individuals, employees

Bankcapital requirements

  • Leverage ratio must exceed 5 %

  • Capital must exceed 8 % of the bank’s assets

Leverageratio formula

  • LR= capital/ assets

Elementsof risk management and control

  • Senior management quality

  • Adequacy of policies limiting risks

  • Quality of risk assessment

  • Adequacy of fraud preventing measures


  • Better and clear information is needed

  • Better information lowers the risk of moral hazard

Aspectsof consumer protection

  • Standardized rates are used to protect customers

  • Redlining of particular areas is prevented by the use of CRA measures

Internationalbanks regulation

  • Other banks in the world face similar challenges as USA

  • Charters, supervision and deposit insurance are used as common themes

  • Capital requirements are standardized

Definedbenefit retirement payment formula

  • Rate x average of final 3 years income x years of service


  • Electronic banking has caused a challenge in the safety of the information

  • Privacy of information is an issue

1980sbanking crisis

  • Decreasing profitability

  • innovation creates chances of risk taking

Principlesof insurance

  • There must be a relationship between insured and insurer

  • Insured must suffer if there is no insurance cover

  • Insured must provide accurate information

  • Insured is not to profit from being covered

  • The insurance company has right to reduce compensation done by third party insurance company7 must have many similar insured cases

  • Loss must be quantifiable

  • Company must be able to compute probability of loss

  • Moral hazard in insurance

  • This occurs when the insured fails to take necessary caution to prevent a loss from occurring

Typesof insurance

  • Life

  • Health

  • Property and casualty

Typesof life insurance

  • Term life: insured is covered only when the policy is in effect

  • Whole life policy: insured is covered whole life and beneficiaries compensated after death

  • Universal life: includes both term life and savings portions

  • Pays benefits to the insured until death

  • Reinsurance: a policy that directs a portion of insured risk to another insurance company

Variouspractices in the insurance industry

  • Risk based premium

  • Reinsurance

  • Coinsurance

  • Limits on the insurance amount

  • Restrictive provisions

  • Cancellations of insurance


  • Is a plan that pools assets during working years and pays the benefits in the non-working years

  • Types of pensions

  • Defined benefit plan: the sponsor promises a fixed amount of compensation

  • Defined contribution plans: the contribution is determined in advance and is fixed

  • Private plans: set by employers and employees and such groups

  • Public plans: set by the government and are compulsory

Week11 Part 1

market components

  • Public offering: are made available to individuals and the institutional investors

  • Private placement: securities are sold to limited number of people

Couponsand risks

  • A zero coupon bond makes no coupon payments

  • A zero coupon bond is discounted at the time of sale


  • This is a stock that offers the opportunity of paying regular and fixed dividends

  • Preferred stockholders are subject to interest risk, call risk and default risk


  • It reduces the risk time and the efforts of starting a business

  • There is a clear prior business performance record

  • Recognizable business name

  • Proven business model

  • Savings due to volume purchases made


  • Risk and mismanagement is easily transferrable from one business to the other without detection

  • Franchise fees may be high

  • There are franchise agreement restrictions

  • There are tight controls required in the franchise process

  • Payments of royalties further increases the cost

Purposeof money markets

  • They provide a warehousing opportunity for the surplus cash held by investors

  • Provides low cost source of money required by borrowers

  • Help to solve the cash timing challenges

Classificationof mortgages

  • Mortgage interest rates

  • Loan terms

  • Mortgage loan amortization

Week11 slide 2

Themoney markets

  • The term money is used to mean currency.

  • Securities in the money market are highly liquid and hence the use of the term money

  • Money markets is hence the platform for the exchange of securities

Characteristicsof the money market

  • Most money market securities do not pay interests

  • Pension funds invest a portion of the funds in the money market to increase the value

  • U.S treasury is always a demander and never a supplier in the money market

Advantageover banks

  • The money market mediates between borrowers and suppliers hence a distinct cost advantage

Moneymarket participants

  • US treasury that sells securities to raise money for a debt servicing

  • Businesses which buy and sell short term securities

  • Investment companies which trade on commercial accounts behalf

  • Pension funds which engage in securities market to invest for returns

  • Individuals who buy market mutual funds

Moneymarket instruments


  • Treasury bills which have a maturity periods of 28 days

  • I = (f – P)/ F X 360/n

  • Treasury bills are auctioned to the market every Thursday

  • Treasury bills accept both competitive and noncompetitive bids

  • Fed funds

  • Are short term fund sources usually for a period of one day

  • They are used by banks to cater for the short term cash needs


Thesework in a similar way as the fed funds

Nobanks however are allowed to participate

Theyinvolve the purchase of securities at one point in time andrepurchasing them at a later date

  • They are short term sources of money

Negotiablecertificates of deposits

  • These are certificates that are issued with a specific maturity period and interest

  • Their denominations range from $1000090 t0 $ 1000000

Unsecuredpromissory notes

  • Are sources of funds that mature within 270 days


  • Are agreements between the banks and individuals to pay an amount at a particular date

  • The date agreed on must be specified

  • This mode is applied by individuals who live in different countries

  • The bank is used as an intermediary

Benefitsof using bankers’ acceptances

Thepayment of the agreed amount assured of being made

  • The exporter is shielded from the foreign exchange risk

  • The exporter does not have the access to the importers security

  • A crucial international trade is guaranteed by having the bank as the intermediary


  • Are dollar denominated deposits held in the foreign banks

  • The deposits are done in terms of dollar due to the stability of the dollar currency

  • Has a high rate of return in the foreign countries than in the domes=tic market

  • Multinational banks are not restricted of accepting smaller offers as the domestic banks are

Purposeof the money markets

  • The market provides a cheap source of short term money

  • Provides a place for short time funds warehousing for the investors that are in the market

  • Solves the cash timing problems that are Oftenly experienced by the government

Week12 Slides

Mortgagemoney markets

  • Are markets that offer a long-term loan to enable individuals to own properties

  • It is secured by real estate

  • Amortized loans are involved in the re4ference to mortgage loans

  • Amortized loans are those that are paid each month in terms of their principal amount and the interest accrued

  • The rate is calculated based on the principle amount of the real estate

  • The security is purely the estate that is under consideration

  • Mortgage may be borrowed to enhance owning of a home or even a commercial building

Typesof mortgages

  • Conventional mortgages: are those that have fixed terms, fixed period of payment and fixed rate of payments

  • Adjustable rate mortgages: are those that have a rate that changes with the change in the market conditions

  • Balloon mortgages: are the mortgages whose final payments are higher than the earlier payments altogether

Secondarymortgage loans

  • Are loans that were created by the congress to promote an active source of home mortgages

  • They are at times referred to as conventional conforming loans

  • They have features conforming to those of the conventional loans

  • Balloon mortgages are amortizing loans

  • Balloon loans are not paid once in one particular period

  • Balloon loans are paid partially during the maturity period while the principle at the end

Determinantsof the interest rate for the borrowers

  • Current long-term market rates

  • The term period that the loan will take to mature

  • The number of discount point

Costof home ownership

  • The principal and interest amounts

  • Property taxes impose

  • Insurance

  • Repairs and maintenance