博迪教学课件02

Chapter2:

FinancialMarketsand InstitutionsObjectiveUnderstandingtheworkingsofthefinancialsystemDeterminingratesofreturn1Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallChapter2Contents2.1WhatisaFinancialSystem?2.2TheFlowofFunds2.3TheFunctionalPerspective2.4FinancialInnovation&the“InvisibleHand”2.5FinancialMarkets2.6FinancialMarketRates2.7FinancialIntermediaries2.8FinancialInfrastructureandRegulation2.9Governmental&Quasi-GovernmentalOrganizations2Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTheFinancialSystemFinancialdecisionsaremadewithinthecontextofafinancialsystemThefinancialsystembothconstrainsandenablesthedecisionmakerThischapterprovidesaframeworkforunderstandinghowfinancialsystemswork3Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.1WhatistheFinancialSystem?AFinancialSystemiscomprisedofmarkets,intermediaries,servicefirmsandotherinstitutionsusedtocarryoutthefinancialdecisionsofhouseholds,businessfirms,andgovernments4Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallGeographyoftheMarketssomemarketsforaparticularmarketinstrumentmayhaveawelldefinedgeographiclocationsuchastheNewYorkStockExchangeortheOsakaOptionsandFuturesExchangeothermarketinstrumentsaretradedonover-the-counteroroff-exchangemarketsforbonds,stocks,andforeignexchange5Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallContractualJurisdictionsThejurisdictiongoverningatradeneedstobeclearlyestablishedbeforemakingsignificantinvestments,particularlywhentradingoveracomputernetworkJurisdictionalconflictsaretoofrequent,andhavesignificanteconomicconsequencesbecauselegalprinciplesvarysignificantlybetweenjurisdictions6Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.2TheFlowofFundsFundsmayflowfromthesurplusunittothedeficitunitDirectlyThroughmarketsThroughintermediaries7Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialIntermediaryafirmwhoseprimarybusinessistoprovidefinancialservicesandfinancialproductsExamples:bank(checkingaccounts,loans,CDs…)investmentcompany(mutualfunds…)insurancecompany(termlifeinsurance…)8Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTheFlowofFundsDiagramMarketsIntermediariesSurplusUnitsDeficitUnits9Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTheFlowofFundsDiagramWeshallexaminevariouspathwaysfromthesurplusunittothedeficitunit10Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaMarketAhouseholdwithsurplusfundsinveststhemingovernmentbonds11Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaMarketMarketsIntermediariesSurplusUnitsDeficitUnits12Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaIntermediaryHoldersofsurplusfundsmayuseanintermediary,suchasabank,toinvestthem.Thebankreceivesthesurplusfunds,sayas90-daydeposits,andaddsthemtothebank’sassets(creatingabankliability).Moneyisfungible,sothecorrespondingloancannotbeidentified13Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaIntermediaryMarketsIntermediariesSurplusUnitsDeficitUnits14Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaIntermediaryandMarketSometimestheintermediaryitselfhassurplusfunds,andinveststheminthemarketoranotherintermediaryAbankthatborrowsandinvestsinthemoneymarketcanincreaseitsflexibility,reduceitsrisks,andturnaprofitEventually,thesurplusfundsareconsumedbyadeficitunit15Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowsviaIntermediaryandMarketMarketsIntermediariesSurplusUnitsDeficitUnits16Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundFlowviaMarketsandIntermediariesIntermediariessuchasGeneralMotorsAcceptanceCorporationissuecommercialpapertofinancecarloansandleasesmadetohouseholdsneedingacarInthiscase,thepaperhasashortermaturitythantheloan,leadingtoarisk17Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundsFlowviaMarketsandIntermediaries

MarketsIntermediariesSurplusUnitsDeficitUnits18Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundsFlow:DisintermediationSometimesthecostofusingmarketsandintermediariescannotbejustified,andsurplusunitsanddeficitunitscontractdirectlyatitsdiscretion,thedeficitunitmayrepurchasecontractsbeforetheirmaturity,(ataproperdiscount),toavoiddisruptingsecondarymarkets,andtoaddliquidity19Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundsFlow:DisintermediationMarketsIntermediariesSurplusUnitsDeficitUnitsMarketsIntermediariesSurplusUnitsDeficitUnits20Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundsFlow:SecuredCreditPoorcreditriskssometimesreceivecreditcardapplicationsfrombanksofferinga$1,000creditlimit,if$1,000isdepositedintoasavingsaccountascollateral19.56%ischargedonthecardbalance,while3.5%ispaidondeposits.Ahighannualfeeisalsocharged21Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundsFlow:SecuredCreditMarketsIntermediariesSurplusUnitsDeficitUnitsPoorCreditRisk22Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.3FunctionalPerspectiveAU.S.bankstodaydiffersfroma1928U.S.bank,andaSaudibanktoday.AcreditunionintheU.S.todaysharesmanyofthesamefunctionsasaU.S.bankAnalyzinginstitutionsfromafunctionalperspectivehelpsustounderstandwhyinstitutionsdifferovertimeandjurisdiction23Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallSixKeyFinancialFunctions:TransferringResourcesAcrossTime&SpaceManagingRiskClearingandSettlingPaymentsPoolingResourcesandSubdividingSharesProvidingInformationDealingwithIncentiveProblems24Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTransferringResourcesAcrossTimeandSpaceAfinancialsystemprovideswaystotransfereconomicresourcesthroughtime,acrossgeographicregions,andamongstindustries25Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTransferringResourcesAcrossTimeandSpace(Illustration)ADutchhouseholdcurrentlyhasexcessfundsneededintenyearsAChinesebusinesswouldbecomemoreprofitablewithnewinvestmentfundsFinancialmarketsmakethismatch26Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallManagingRiskAfinancialsystemprovideswaystomanageRisk27Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallManagingRisk

Futureflowshaveassociatedrisks.Likeflows,risksmaybeunbundleandrepackagedbyafinancialsystemusingportfolios,financialderivatives,andguaranteesManyfinancialcontractstargetrisksratherthanflows28Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallManagingRisk

Afundmanagermayincreasesrisk(andexpectedreturns)ofafundbyissuingbondssecuredagainstthefundsassets,writingputoptions,buyingcalloptions,andgoing“long”marketindexfuturesAnotherfundmanagermaydecreaseriskbyinvestinginthemoneymarket,putoptions,andshortindexfutures29Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallClearingandSettlingPaymentsAfinancialsystemprovideswaysofclearingandsettlingpaymentstofacilitatetheexchangeofgoods,services,andassets30Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallClearingandSettlingPaymentsBarter(Levijeans,oldstamps&coins)Gold(requirespurityassay,heavy)Papermoney(restrictedgeographically)Creditcards(notuniversallyaccepted)Personal,cashier'sortraveler’schecks(acceptabilityvaries,denomination)31Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPoolingResourcesandDividingOwnershipinLargeAssetsAfinancialsystemprovidesamechanismforthepoolingoffundstoundertakelarge-scaleindivisibleenterpriseorforthesubdividingofsharesinlargeenterpriseswithmanyowners32Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPoolingResourcesandDividingOwnershipinLargeAssetsT-billshaveaminimumfacevalueof$10,000,buthaveverylowrisk(Solution:moneymarketmutualfund)Developingapromisingtechnologywouldexposeasinglefirmtotoomuchcapitalrisk(Solution:jointventure)Ahouseholdwishestodivestitselfofitsownershipinachainofrestaurants(Solution:Formacorporation,andsellitsstock33Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallProvidingInformationAfinancialsystemprovidespriceinformationthathelpscoordinatedecentralizeddecision-makinginvarioussectorsoftheeconomy34Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallProvidingInformationInvestorsneedcurrentpricestoevaluatetheirportfoliosofquotedsecuritiesQuotedpricesmaybeusedtoestimatethevalueofsimilarnon-quotedsecuritiesOptionpricesmaybeusedtodeterminethemarket’sassessmentofastock’srisk35Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFamilyLoans:AdvantagesFavorableinformationaboutyouthat’savailabletoyourfamilymaynotbeavailabletocommerciallendersThisaberrationleadstoanopportunityYoumaybeabletoobtainafamilyloanatalowerinterestrateYourfamilymembermaymakeahigherreturnonasimilarrisk36Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFamilyLoans:DisadvantagesFamilyloanstendtobehardertocollect,becausecollectionmaythreatenfamilytiesFamilymembersareoftennaivewhenevaluatingthecreditriskoflovedonesCommerciallyavailableinvestmentsareliquid,andoffermoreappropriatecashflowsandrisk-rewardtradeoffsThefamilylenderisexposedtoindividualriskthatisdiversifiedaway(withoutsignificantcost)inacommercialinvestment37Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallDealingwithIncentiveProblemsAfinancialsystemprovideswaystodealwiththeincentiveproblemsthatoccurwhenonepartytoafinancialtransactionhasinformationthattheotherpartydoesnot,orwhenonepartyisanagentandmakesdecisionsforanother38Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallMoralHazardAsituationinwhichhavinginsuranceagainstsomeriskcausestheinsuredpartytotakegreaterriskortotakelesscareinpreventingtheeventthatgivesrisetotheloss.39Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallMoral-HazardAdamentersintoaninsurancecontractwithCarmel.AdampaysCarmelapremiumof$10,000.CamelwillreimburseAdam’scostsshouldafiredamagehisbusinessduringthenextyear,butpaynothingotherwise.Adambelieveshecanreducetheprobabilityoffirebyinstallingacheapsprinkler.Withoutthecontracthewouldcertainlyinstalltheunit,buthegainsnothingbyinstallingtheunitwiththeinsurancecontractinforce.Adamisexposedtoamoralhazard.AdamisnowtakinglesscareofhisassetsnowthatCarmelhasassumedtheriskoftheirloss40Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallAdverseSelectionAtypeofincentiveprobleminwhichthosewhopurchaseinsuranceagainstriskaremorelikelytobeatriskthanthegeneralpopulation.41Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallAdverseSelectionCarmelhasidentified100businessesthatfallintothecategoryofhavingafloodonaverageonceevery200-years.Basedonthisestimate,Carmelsetsapremiumbasedon1%oftheinsuredamount.Adam’sbusinessisoneofthe100,andheacceptsthecontractbelievingthathisbusinesspremisesaresubjecttofloodaboutevery50-years.Dillip’sbusinessisanotherofthe100,buthedoesnotacceptthecontractbecausehebelievesthatthereisalmostnochanceofflooddamaginghisbusiness42Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPrincipal-AgentProblemAsituationarisingwhenagentsdonotmakethesamedecisionsthattheprincipalswouldhavemadeiftheprincipalsknewwhattheagentsknewandweremakingthedecisionsthemselves.43Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPrincipal-AgentProblemsAdamisthereal-estateagentmarketingCarmel’shousethat’sworth$200,000fora6%commissionAdam’sagencyhasamultiple-listingagreementwithotheragencies,wherebylistingagentsreceive2.5%,andsellingagentsreceive3.5%Bernadettewishestobuythehomeforonly90%ofitsmarketvalue,$180,000.AdamurgesCarmeltoaccepttheoffer.Why?theagencywillreceiveonly$5,000ifitissoldbyanotheragencyatfullvaluetheagencymakes$10,800ifAdamcanpersuadeCarmeltosellatthelowerprice44Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallInsureandBurnAbusinesshasawarehousefullofunfashionableclothesTheownerarrangesforinsuranceatabovetruemarketvalueforthewarehouse,itscontent,andlossofbusinessAfireisthensettocollecttheinsurance45Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallInsureandBurn:SolutionsMoralriskincreaseswith[marketvalue-insuredvalue],so:understandthebusinessofinsuredcompaniesinsisttheinsuredassumessomeriskoflossavoid“unlucky”ownerswithdubiousmoralitygainareputationforaggressiveforensicinvestigationsrequiretheuseofmodernsurveillance,detectionandprotectiveequipment46Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallInsureandBurn:Consequences

Insurancebecomesover-priced,giventherisks,leadingtoreduceduseInsurancecompaniesareexposedtomoreclaimsduringrecessionsTheeconomylosesassetsthatitwouldhavehadAbarriertoentryiscreatedfornew(honest)businessesthatlackaclaimstrack-recordIncreasedadministrativecostsLongerverificationdelayswhensettlingclaims47Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallSmallBusinessAsasmallbusinessowner,yourlevelofeffortmaydependonthesourceofborrowingIfmoneywasborrowedfromafriend,ratherthanabank,youmayworkharder.ItishardtoletdownafriendIfthemoneywasborrowedfromabank,ratherthanafriend,youmayworkharder.BanksarelessforgivingthanfriendsIfyourbehaviordependsuponthesourceofaloan,thenyouarethevictimofmoralhazard48Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallAdverseSelectionYouhaveapaininyourchest,obtainlifeinsurance,andthenvisityourdoctorTheinsurancecompanyhasfraudulentlyassumedahighriskKnowingthatyouwilldiesoon,youwon’tnowpurchasethatlifeannuity,leadingtoanon-fraudulentadverseselectionAsymmetricalinformationhasresultedinadverseselectionInsurancecompaniesadjusttheirpremiumsforadverseselection49Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallAdverseSelectionSomeinsurancecompaniesexploitrulesdesignedtoprotectthemagainstfraudulentadverseselectionYouvisitthedoctorwiththeusualspectrumofmedicalcomplaints,thedoctortakesnotes,andneitherofyouareconcernedYouobtain$1,000,000inlifeinsuranceingoodfaithLater,acarmountsthesidewalk,killingyouTheinsurancecompanyrefusestopayyourestate,claimingapreexistingconditionfoundinyourrecordsthatwouldhavecausedthemtorefusetherisk50Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPrincipal-AgentProblemYourarestilldead.Yourspousedials:1-555-SUE-THEM,andagreestothelawyer’s33.33%contingencyTheinsurancecompanyofferstosettlethe$1,000,000claimfor$300,000Acceptanceoftheofferearnsthelawyerarisk-less$100,000fortwohoursworkRejectingtheofferleadstohigherriskandexpectedreward,butattheexpenseofconsiderabletrialpreparationThelawyeradviseshervulnerableclienttosettleSomeinsurancecompanies“size”theirsettlementtobeattractiveprimarilytothelawyer,whowillthen“sell”ittotheirclient51Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPrincipal-AgentExamplesAnemployeeselectsanairline,hotelorcarrentalcompanytoobtainfreeflightmileageforpersonaluseThedecisionhasbeenmadeininterestoftheemployee,ratherthanthecompanyThecompanymaylosetime,orpayahigherpriceforservice52Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallPrincipal-AgentExamplesAsuppliergivesgiftstoitscustomers’employeeshavinginfluenceoverpurchasedecisionsTraditionally,thesegiftsincludeCaribbeansweepstakes,giftvouchers,entertainment,andoutrightbribesThesupplierisattemptingtosubvertemployeeloyaltybycreatinganprincipal-agentconflictInsomeindustriesthereisatradition,toleratedbyhighermanagement,ofaccepting“adultentertainment”fromsuppliersInadditiontoperpetuatinganprincipal-agentconflict,bothcompaniesexposethemselvestolargesexualdiscriminationsuitsfromfemalebuyersandsalespeople53Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.4FinancialInnovation&the“InvisibleHand”Financialinnovationoccursspontaneouslyfromtheindividualactionsofentrepreneursandfirms,andnotfromtheactionsofacentralauthority.Example:Creditcards54Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.5FinancialMarkets:ByBasicFinancialAssetsDebt(Alsocalledfixedincomesecurities,BondsandLoans)FixedIncomeInstrumentspromisingfixedfuturepaymentsEquities(CommonStock/Shares)Residualclaimonassets.LimitedliabilityDerivatives(Options,Forwards,Futures)Securitiesthatderivetheirvaluefromothersecurities55Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallMarkets:ByMaturityMoneyMarketMostlydebtinstrumentsissuedbygovernmentsandsecurelargecorporationsHighlyliquid:QuicklyconvertibletocashGloballyintegratedCapitalMarketEquities,anddebtinstrumentswithalifegreaterthanayear56Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall2.6FinancialMarketRates

InterestratesExchangeratesStock-marketindicators57Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesInterestRatesThePromisedrateofreturn.Examples:MortgagerateCommercialRateDependupon:UnitofaccountMaturityDefaultRisk58Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallUnitofAccountThemediuminwhichthepaymentsaredenominatedUsuallyacurrency,butmaybeacommoditysuchasgold,silver,astandard“basket”ofgoodsandservices59Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchange-RateRiskonT-BillsAbondissuedbyacentralgovernmentisrisk-freeonlyinthatcountryThebond’sreturninaforeigninvestor’scurrencyisuncertainbecauseexchangeratesfluctuate,andfuturecashflowsaredenominatedinthedomesticcountry’sunitofaccount60Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallOtherRisksonT-BillsT-Billsaredefault-free,butnotrisk-lessYouobservethatthe12-monthT-Billhasahigheryieldthanthe6-monthT-Bill.YouplantotakeadvantageofthisbybuyingaT-Billwithamaturityof12months,andplantosellitafter6monthstopaycollegefees.Interestratefluctuationsresultinaslightlyhigher(orlower)thanexpectedcapitalreturnOccasionally,the3-monthratemaybehigherthanthe6-monthrate,butrolling-overa3-monthbillresultsinrisk,tooEvena6-monthbillisnotrisk-lesstoyouifinflationisuncertain.Thiscollegemayincreasefeesby20%61Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExample:ExchangeRateRiskSuppose:YouareaJapaneseInvestorwishingtomakea1-yearinvestmentCurrentexchangerate(Spot)of150Japaneseyen/poundsterlingJapanesebondsyield3%Britishbondsyield9%Investment15,000¥Crystalball:Spot1-yearfromnow140¥/£

62Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExample15000¥15260¥15450¥£100£109Time3%¥/¥(direct)1.73%¥/£/£/¥150¥/£9%£/£140¥/£JapanU.K.63Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExampleThecurrencyspeculationdoesn’t

pay-offunderthisscenario.Itreturnsonly1.73%,whichisbelowthe3%offeredbyadirectJapaneseinvestmentAnewcrystalballindicatesthatthecorrectexchangerateone-yearfromnowisnot140,but149,YenperPoundObservethatthecurrencyspeculationdoespay-offunderthisscenario.Itreturns8.27%,whichisabovethe3%offeredbyadirectinvestment64Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExample15000¥16241¥15450¥£100£109Time3%¥/¥(direct)8.27%¥/£/£/¥150¥/£9%£/£149¥/£JapanU.K.65Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExampleOurJapanesespeculatornowseesabusinessopportunityShewillofferfinanciallysoundJapanesecompaniesdoingbusinessinLondonacontractthatobligatesbothherselfandthemtobuyorsellpoundsforYenatafixedexchangerateoneyearfromnow66Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExampleHerideaistoissue,orpurchase,risk-free1-yearbonds(Shehasasuperbcreditrating)inYen,andinvesttheproceedsin1-yearBritishbondsDoingthissheiscreatingaderivativesecuritythatshecallsaForwardExchangeRateContract67Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExample15000¥(borrowed)15450¥15450¥Repaid£100Invested£109MaturesTime3%¥/¥(direct)3%¥/£/£/¥150¥/£9%£/£Forward¥/£JapanU.K.68Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallExchangeRateExampleNote:Thisisfor1year,buttheanalysisiseasytogeneralize69Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallMaturityThematurityofafixed-incomeinstrumentisthedateof,orperiodto,itsfinalcashflowTheinterestrateonshort-terminstrumentsmaybehigher,lowerorthesameaslong-terminstruments70Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallU.S.TreasuryYieldCurve

Source:BMay26,3006.71Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallDefaultRiskThepossibilitythatsomeportionoftheinterestortheprincipalonafixed-incomesecuritywillnotbepaidinfullThegreatertheperceiveddefaultrisk,thehighertheinterestratetheissuermustpromisetogiveYieldSpread(SeenextTable)72Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallYieldComparisons73Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesRatesofReturnonRiskyAssetsManyassetsdonotpromisearateofreturnRealEstateEquitySecuritiesWorksofArtReturncomesfrom:AnyCashFlowsfromtheAssetCapitalGains74Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallHoldingPeriodReturnAssume:PurchasepriceofSharewas$100Sellingprice1-yearlaterwas$105Cashdividendspaidinyearwere$575Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallComputationofReturn76Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesMarketIndexesandMarketIndexingOveralllevelofstockprices,AbenchmarkUS:DJI,SP500Japan:Nikkei,TopixUK:FT-30,FT-100Germany:DAXFrance:CAC40Switzerland:CreditSuisseEurope,Australia,FarEast:MSCI,EAFE77Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesRatesofReturninHistoricalPerspectiveThefollowinggraphsshowthereturnsofselectedsecuritiesandinflationThefirstshowsannualreturnsThesecondshowsaffectson$1investedin1925.Thescaleislogarithmicinordertoshowallthegraphsonthesamechart78Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallStockFundOperatingExpenseRatios(percent,1990-2003)79Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTurnoverRateExperiencedbyStockFundInvestorsRemainsLow

(percent,1971-2005)80Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFundShareholdersPayLower-than-average-ExpensesinStockFunds

(percent,1990-2005)81Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall82Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallTotalReturnIndices(1926-2004)83Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallAnnualReturns(1926-2003)84Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHall85Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesInflationandRealInterestRatesNominalPrices&RatesPricesandratesexpressedintermsofcurrencyRealPrices&RatesPricesandratesexpressedintermsofpurchasingpower86Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallNominaltoReal87Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesInterestRateEqualizationInterestRateArbitrage88Copyright©2009PearsonEducation,Inc.

PublishingasPrenticeHallFinancialMarketRatesTheFundamentalDeterminatesofRatesofReturnExpectedProductivityofCapitalGoodsCapitalGoodsProductivityUncertaintyTimePreferen