Transcript Total financial assets

Investments:
Background
and Issues
Dr. Emilio Tomasini
Adjunct Professor of Corporate Finance
University of Bologna - ITALY
1
Bodie, Kane and Marcus
Essentials of Investments
9th Global Edition
McGraw-Hill/Irwin
Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
DR. EMILIO TOMASINI
Phone 02 30314494
 Skype tomasini4
 Email: [email protected]
 Exam: written quiz, 22 closed questions, 3
exercises 4 points each
 Questions taken from those on the books basic +
intermediate
 Text book: Bodie/Kane/Marcus and Emilio
Tomasini /Urban Jaekle … see website
 Office hours: SKYPE 09:00 – 24:00 every day
except Sunday
 Free software: Visual Trader, Ex-Ante, I-Ratings

PROGRAM
14 April hours 11-14 introduction PART ONE
15 April hours 11-14 bonds PART THREE
22 April hours 11-14 bonds PART THREE
28 April hours 11-14 Portfolio Theory PART TWO
29 April hours 11-14 Efficient markets, behavioural finance and
technical analysis PART TWO
5 May hours 11-14 Portfolio Theory PART TWO
6 May hours 11-14 Modern technical analysis PART TWO
12 May hours 11-14 Futures PART FIVE
13 May hours 11-14 Futures PART FIVE
19 May hours 11-14 Options PART FIVE
20 May hours 11-14 Options PART FIVE
26 May hours 11-14 Trading systems PART SIX bonus
27 May hours 11-14 Trading systems PART SIX bonus
NO FISCAL ASPECTS OF FINANCE

They change continuosly

They are different in every country

They depend on the fact you are an individual a
corporation a bank an insurance a branch etc.
FOCUS ON THE FUTURE




Financial crisis in 2008 was mostly unforeseen
Do not explaing today what happened yesterday
as it was easy to understand
There will be many financial crisis in the future
Try to give you a rule to understand a crisis is
underway
MOTIVATION

Why are we here ?
Quant Finance makes me feeling clever
 I like talking difficult and theoretical complexity
 I did not know what to do in life
 Bologna is full of young people and so fascinating
 I come from Latvia and my boyfriend is from
Granarolo Emilia …
…
…

MOTIVATION

Why I am here ?
MOTIVATION …
NO DISCRIMINATION
MY MOTIVATION




100% COMPETITION: LITTLE GUYS CAN WIN
OVER BIG GUYS
A NOBEL RESERACH CAN BE PERFORMED
IN YOUR KITCHEN WITH AN OLD PC NO
INTERMEDIATION
THERE IS NO RULE JUST YOURSELF
COOPERATION IS EVERYTHING … DEATH
ALSO
WHAT IS MISSING IN THE TEXTBOOK ?
YES YOU CAN
RESEARCH + SOFTWARE + TIME = MONEY
WHAT MY GOALS IN TEACHING WILL BE?




YES YOU CAN
TEST
EVERYTHING
CONCEPTIONS
WITHOUT
LISTEN
TO
EVERYBODY:
UCKAINIAN STUDENT CAN
STREET ?
PRE-
HOW
AN
BEAT THE
DISTRUST YOUR UNIVERSITY PROFESSOR:
WHO KNOWS DOES, WHO DOES NOT
KNOWS TEACH, HOW DOES NOT KNOW
HOW TO TEACH TEACH GYM
1.1 REAL VERSUS FINANCIAL ASSETS
• What is an Investment ?
• Reduce current consumption for greater
future consumption (either borrowing money
...)
• Real Assets
• Used to produce goods and services: Property,
plants and equipment, human capital, etc.
• Financial Assets
• Claims on real assets or claims on real-asset
income
TABLE 1.1
BALANCE SHEET, U.S. HOUSEHOLDS, 2011
Assets
$ Billion
% Total
Liabilities and Net Worth $ Billion
% Total
Real assets
Real estate
Consumer durables
18,117
4,665
25.2%
6.5%
Mortgages
Consumer credit
10,215
2,404
14.2%
3.3%
Other
Total real assets
303
23,085
0.4%
32.1%
Bank and other loans
Security credit
Other
Total liabilities
384
316
556
13,875
0.5%
0.4%
0.8%
19.3%
8,038
1,298
13,419
8,792
6,585
5,050
4,129
1,536
48,847
71,932
11.2%
1.8%
18.7%
12.2%
9.2%
7.0%
5.7%
2.1%
67.9%
100.0%
Net worth
58,058
71,932
80.7%
100.0%
Financial assets
Deposits
Life insurance reserves
Pension reserves
Corporate equity
Equity in noncorp. business
Mutual fund shares
Debt securities
Other
Total financial assets
TOTAL
Note: Column sums may differ from total because of rounding error.
SOURCE: Flow of Funds Accounts of the United States, Board of Governors of the Federal Reserve System, June 2011.
1.1 REAL VERSUS FINANCIAL ASSETS
• All financial assets (owner of the claim)
are offset by a financial liability (issuer of
the claim)
• When all balance sheets are aggregated,
only real assets remain
• Net wealth of economy: Sum of real
assets
TABLE 1.2
DOMESTIC NET WORTH, 2011
Assets
$ Billion
Commercial real estate
14,248
Residential real estate
18,117
Equipment and software
4,413
Inventories
1,974
Consumer durables
4,665
TOTAL
43,417
Note: Column sums may differ from total because of rounding error.
SOURCE: Flow of Funds Accounts of the United States, Board of Governors
of the Federal Reserve System, June 2011.
1.2 FINANCIAL ASSETS
• Major Classes of Financial Assets or Securities
1.
Fixed-income (debt) securities
• Money market instruments
• Bank certificates of deposit, T-bills, commercial paper,
etc.
• Bonds
• Preferred stock
2.
Common stock (equity)
• Ownership stake in entity, residual cash flow
3.
Derivative securities
• Contract, value derived from underlying security
1.3 FINANCIAL MARKETS AND THE
ECONOMY
1. Informational Role of Financial
Markets
• Do market prices equal the fair value
estimate of a security's expected future risky
cash flows?
• Can we rely on markets to allocate capital to
the best uses?
• Other mechanisms to allocate capital?
• Advantages/disadvantages of other systems?
1.3 FINANCIAL MARKETS AND THE
ECONOMY
2. Consumption Timing
• Consumption smooths over time
• When current basic needs are met, shift
consumption through time by investing
surplus
3. Price variability reduction
• Ezekiel cobweb system
•If you bring surplus to the next year and
production fits to the new surplus arriving
from the previous year variability will be
lower
1.3 FINANCIAL MARKETS AND THE
ECONOMY
4. Risk Allocation
• Speculators and producers / hedgers
• Specialization in risk taking
• Lower price for risk in the society
1.3 FINANCIAL MARKETS AND THE
ECONOMY
5. Separation of Ownership and
Management
• Large size of firms requires separate
principals and agents
• Investors are not managers and managers
are not investors
• Specialization and risk reduction
THE FINANCIAL CRISIS OF 2008
Just ask yourself a question:
“This is good or bad finance ?”
And then you know if a new crisis will
happen in the future
1.3 FINANCIAL MARKETS AND THE
ECONOMY
• Corporate Governance and Corporate
Ethics
• Businesses and markets require trust to
operate efficiently
• Without trust additional laws and regulations are
required
• Laws and regulations are costly
• Governance and ethics failures cost the
economy billions, if not trillions
• Eroding public support and confidence
1.3 FINANCIAL MARKETS AND THE
ECONOMY
• Corporate Governance and Corporate
Ethics
• Accounting scandals
• Enron, WorldCom, Rite-Aid, HealthSouth, Global
Crossing, Qwest
• Misleading research reports
• Citicorp, Merrill Lynch, others
• Auditors: Watchdogs or consultants?
• Arthur Andersen and Enron
1.3 FINANCIAL MARKETS AND THE
ECONOMY
• Corporate Governance and Corporate
Ethics
• Sarbanes-Oxley Act:
• Requires more independent directors on company
boards
• Requires CFO to personally verify the financial
statements
• Created new oversight board for the accounting/audit
industry
• Charged board with maintaining a culture of high
ethical standards
1.4 THE INVESTMENT PROCESS
• Asset Allocation
• Primary determinant of a portfolio's return
• Percentage of fund in asset classes
• Stocks 60%
• Bonds 30%
• Alternative assets 6%
• Money market securities 4%
• Security selection and analysis
• Choosing specific securities within asset class
1.5 MARKETS ARE COMPETITIVE
• Risk-Return Trade-Off
• Assets with higher expected returns have higher
risk
Stocks
Average Annual Return
Minimum (1931)
Maximum (1933)
About 12%
−46%
55%
• Stock portfolio loses money 1 of 4 years on
average
• Bonds
• Have lower average rates of return (under 6%)
• Have not lost more than 13% of their value in
any one year
1.5 MARKETS ARE COMPETITIVE
• Risk-Return Trade-Off
• How do we measure risk?
• How does diversification affect risk?
1.5 MARKETS ARE COMPETITIVE
• Efficient Markets
• Securities should be neither under-priced
nor over-priced on average
• Security prices should reflect all
information available to investors
• Choice of appropriate investment-
management style based on belief in
market efficiency
1.5 MARKETS ARE COMPETITIVE
• Active versus Passive Management
• Active management (inefficient markets)
• Finding undervalued securities (security selection)
• Market timing (asset allocation)
• Passive management (efficient markets)
• No attempt to find undervalued securities
• No attempt to time
• Holding a diversified portfolio
• Indexing; constructing “efficient” portfolio
1.6 THE PLAYERS
• Business Firms (net borrowers)
• Households (net savers)
• Governments (can be both borrowers and
savers)
• Financial Intermediaries (connectors of
borrowers and lenders)
• Commercial banks
• Investment companies
• Insurance companies
• Pension funds
• Hedge funds
1.6 THE PLAYERS
• Investment Bankers
• Firms that specialize in primary market
transactions
• Primary market
• Newly issued securities offered to public
• Investment banker typically “underwrites” issue
• Secondary market
• Pre-existing securities traded among investors
1.6 THE PLAYERS
• Investment Bankers
• Commercial and investment banks' functions and
organizations separated by law 1933-1999
• Post-1999: Large investment banks independent from
commercial banks
• Large commercial banks increased investment-
banking activities, pressuring investment banks’
profit margins
• September 2008: Mortgage-market collapse
• Major investment banks bankrupt;
purchased/reorganized
1.6 THE PLAYERS
• Investment Bankers
• Investment banks may become commercial
banks
• Obtain deposit funding
• Have access to government assistance
• Major banks now under stricter commercial
bank regulations
1.6 THE PLAYERS
• Venture Capital and Private Equity
• Venture capital
• Investment to finance new firm
• Private equity
• Investments in companies not traded on
stock exchange