Chapter 13 Nonbank Finance. © 2013 Pearson Education, Inc. All rights reserved.13-2 Insurance Life...
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Transcript of Chapter 13 Nonbank Finance. © 2013 Pearson Education, Inc. All rights reserved.13-2 Insurance Life...
Chapter 13
Nonbank Finance
© 2013 Pearson Education, Inc. All rights reserved. 13-2
Insurance
• Life insurance– Permanent (whole, universal, and variable)– Term
• Property and Casualty– Hold more liquid assets than life insurance
companies– Reinsurance
© 2013 Pearson Education, Inc. All rights reserved. 13-3
Insurance (cont’d)
• Competitive threat from the banking industry
• Credit insurance– Credit default swaps
• AIG case.
– Monoline insurance
© 2013 Pearson Education, Inc. All rights reserved. 13-4
Table 1 Relative Shares of Total Financial Intermediary Assets, 1970–2010 (percent)
© 2013 Pearson Education, Inc. All rights reserved. 13-5
Application: Insurance Management
• To lower moral hazard and adverse selection– Screening
– Risk-based premiums
– Restrictive provisions
– Prevention of fraud
– Cancellation of insurance
– Deductibles
– Coinsurance
– Limits on the amounts of insurance
© 2013 Pearson Education, Inc. All rights reserved. 13-6
Pension Funds
• Defined-contribution plan
• Defined-benefit plan– Fully-funded; underfunded
• Private pension plans– Employee Retirement Income Security Act
(ERISA) of 1974• Pension Benefit Guarantee Corporation
(PBGC, Penny Benny)
© 2013 Pearson Education, Inc. All rights reserved. 13-7
Pension Funds (cont’d)
• Public pension plans– Social Security
• Pay as you go system.• Massive underfunding.• Possible reforms proposed.
© 2013 Pearson Education, Inc. All rights reserved. 13-8
Finance Companies
• Virtually unregulated compared to commercial banks and thrifts institutions
• Sales finance companies• Consumer finance companies• Business finance companies
– Factoring – Leasing equipment
© 2013 Pearson Education, Inc. All rights reserved. 13-9
Securities Market Operations
• Financial facilitators– Investment banks
– Securities brokers and dealers
– Organized exchanges
© 2013 Pearson Education, Inc. All rights reserved. 13-10
Investment Banking
• Assist in the sale of securities– Advise the corporation on whether it should issue
bonds or stock. – Bonds: advise on maturity and interest payments– Stocks: advice on price
• Seasoned issues or initial public offering
– Underwrites
© 2013 Pearson Education, Inc. All rights reserved. 13-11
Investment Banking (cont’d)
• Regulated by SEC– Registration statement– Provide potential investors with a prospectus– 20 day waiting period
© 2013 Pearson Education, Inc. All rights reserved. 13-12
Securities Brokers and Dealers
• Securities brokers and dealers conduct trading in secondary markets
• Brokers– Agents for investors, match buyers and sellers– Paid brokerage commission
• Dealers– Stand ready to buy and sell– Hold inventories– Paid by the ‘spread’
• Brokerage firms– Act as brokers, dealers, and investment bank– Regulated by SEC
© 2013 Pearson Education, Inc. All rights reserved. 13-13
Organized Exchanges
• NYSE: largest organized exchange in the world. • Hybrid of auction market and dealer market. • Specialist• Regulated by SEC
– Authority to impose regulation and to alter the rules set by the exchanges
• Securities Amendments Act of 1975• Growing internationalization
© 2013 Pearson Education, Inc. All rights reserved. 13-14
Mutual Funds
• Pool the resources of many small investors by selling shares and using the proceeds to buy securities
• Sovereign wealth funds– Estimated to hold $3 trillion in assets
– Concerns• Size (can cause market instability)
• National security issues
• Provide very little information about their operations
• Open-end fund and closed-end fund
© 2013 Pearson Education, Inc. All rights reserved. 13-15
Mutual Funds (cont’d)
• Load funds and no-load funds
• Regulated by Securities and Exchange Commission
• Money market mutual funds– Function as checkable deposits that
earn interest.
© 2013 Pearson Education, Inc. All rights reserved. 13-16
Hedge Funds
• Similar to mutual funds but:– Minimum investment typically $1 million– No more than 99 investors– Net worth requirement for investors– Long-term commitment– Speculates on spreads
© 2013 Pearson Education, Inc. All rights reserved. 13-17
Private Equity and Venture Capital Funds
• Private equity fund– Long-term investments in companies that are not
traded in public markets.
• Two types– Venture capital funds– Capital buyout funds (leveraged buyout)
• Carried interest
© 2013 Pearson Education, Inc. All rights reserved. 13-18
Government Financial Intermediation
• Mortgage market– GNMA, Ginnie Mae– FNMA, Fannie Mae (GSE)– FHLMC, Freddie Mac (GSE)
• Farm Credit System
• Federal Credit Reform Act of 1990
• The creation of GSEs has led to conflict of interest and moral hazard problems.