1- The Financial System

Financial instruments (what) + financial markets (where) + financial institutions (who)

structures through which funds flow

markets in which users of funds (ex. corporations) raise funds through
- NEW ISSUE of securities

markets in which financial instruments are traded between investors
- EXISTING instruments
- provides liquidity to the instruments (asset to cash at fair market value)

market in which short term instruments are issued (PM) or traded (SM) with maturity =< 1 year

long term instruments with maturity > 1 year
- includes debt and equity market

financial obligations for specific payments (interest) for a specific end at a certain time
- suppliers of debt = creditors
- buyers of debt = borrowers

residual claims on assets - if a company has money left it will be distributed to shareholders
investors - buy equity instruments to get a return

length of life of an instrument
- longer maturity = + price flucations

income from financial instruments (does not equal profit)

number of securities issued + market prices

market in which cash flows from sale of assets in foreign currency are transacted

depreciation: foreign currency depreciates relative to USD, value of cash flows fall, FI is long
appreciation: foreign currency appreciates relative to USD, value of cash flows increase, FI is short

derivative securities (financial security whose payoff is linked to another previously issues security) are traded

exchange

over the counter

enter in an investment or open a position to reduce the risk

bet the best price

use of borrowed moeny to increase potential return of an investment
- traders gain greater exposure to market without increasing capital investment

financial assets
- claim of future earnings

- value
- investor owns them
-investor can decide their use (control)
- provide incoem from financial instruments (return)

group of assets with similar characteristics (maturity, interest, risk) and returns

1) equity
2) debt
3) currencies
4) real estate
5) commodities
6) derivatives
7) crypocurrencies

= stocks
return: capital gain (capacity to sell stock at higher price + dividend)

= bonds
return: interest/coupon

return: interest

return: rent

= goods exchanged to build instruments

= instruments whos value depends on another underlying asset (secondary asset class)

= digital currencies

regulatory agencies that impose regulations on financial instruments
1) firms to issue stocks are reuqired by SEC to register securities in legal document (prospectus)
2) monitors trading (ensure investors have full and accurate information)

intermediaries that perform the function of channeling funds from suppliers of funds to users of funds

1) monitoring costs - fund users actions need to be monitored
2) liquidity costs - incurred in producing capital or raising funds
3) price risk - assets sale price risks being lower than purchase price

economic agent that acts on behalf of smaller investors
-collects information
- investing funds

financial claims issued by a financial institution are more attractive to investors than those directly issued by a corporation
- provides clients with liquid instruments (- maturity, - risk, - return, - volatility)

FI ability to diversity (reduce risk) by holding number of different securities in a portfolio
- reaching maximum benefits to the economy by transfer of funds
- investors prefer indirect transfer (transfer of funds through financial intermediary) to a direct transfer (corporation sells its stock/debt direct to investors)

monitoring costs = aggregates funds resulting in lower costs for economies of scale
liquidity and price risks = supperior liquidity --> lower price risk
transaction cost services = economies of scale in transaction costs
maturity intermediation = better bear risk of mismatching the maturities of their assets and liabilities
denomination intermediation = pool funds of many small investors to overcome constraints of large minimum denomination size

buying a currency against another currency
"trader goes long eursd" = buys euros, sells usd
- go long in currency forecasted to appreciate against another currency

selling a currency against another
"trader goes short eursd" = sells euros, buys usd"
- go short in currency forecasted to depreciate against another currency