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Outline 2/16/99Outline 2/16/99

Current events Financial services

Securities firms Finance companies Mutual funds

Chapters 5,6,7 (short)

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Question from last periodQuestion from last period

Pure loss = 3.6-1.96 Expenses = 0.066 x 3,600,000 = 237,600 Dividends = 0.012 x 3,600,000 =$43,200 Investment returns = $170,000 Net Profits

1,640,000

-237,600

-43,200

+170,000

=1,592,000

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Question 5-1Question 5-1

In what ways are securities firms and investment banks financial intermediaries?

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Question 5-3Question 5-3

What are the different firms in the securities industry and how do they differ?

1. National: full service, corporate and retail (Merrill Lynch)

2. National: corporate finance and trading (Goldman Sachs, Morgan Stanley)

3. Security firms subsidiaries of commercial banks

4. Specialized discount brokers

5. Regional security firms

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Major activitiesMajor activities

Investing Investment banking

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Underwriting SecuritiesUnderwriting Securities

Private vs. public Best efforts vs. firm commitment Questions Chapter 5: 16-18

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5 -165 -16

An investment banker agrees to underwrite a $5,000,000 bond issue for the JCN Corporation in a firm commitment basis. The investment banker pays JCN on Thursday and plans to begin a public sale on Friday. What type of interest rate movement does the investment bank fear while holding these securities?

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5-175-17

An investment banker pays $23.50 per share for 3,000,000 shares of KDO Company. It then sells the shares to the public fir $25. How much money does KDO receive? What is the investment banker’s profit? What is the stock price of KDO?

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Question 5-18Question 5-18

The MEP Company has issues 5,000,000 new shares. Its investment banker agrees to underwite these shares on a best efforts basis. The investment is able to sell 4,200,000 shares for $54 per share. It charges MEP $1.25 per shares sold. How much money does MEP receive? What is the investment bankers profit? What is the stock price of MEP?

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Major activitiesMajor activities

Investing Investment banking Market making & Trading

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TradingTrading

Position trading Pure arbitrage Risk arbitrage Program trading

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Major activitiesMajor activities

Investing Investment banking Market making & Trading Cash management Mergers and acquisitions Others

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TrendsTrends

Balance sheet composition Stock market crash -- 1987 Commission income Bank holding company competition

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RegulationsRegulations

SEC NYSE NASD

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Question 5-20Question 5-20

Which is likely more costly to underwrite, corporate debt or equity? Explain.

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Finance CompaniesFinance Companies

Fastest growing segment of FI groups GMACCM & GMAC

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Finance Companies-- TypesFinance Companies-- Types

sales finance

personal credit

business credit

Differ from banks? Types of lending

consumer business mortgage

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Asset SecuritizationAsset Securitization

“ the process of pooling and packaging existing loans into securities suitable for resale”

Home mortgages Auto loans

5 Step process

1. loan originator

2. the loan purchase

3. the loan pooler

4. the guarantor (optional)

5. the investor

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SecuritizationSecuritization

Asset is homogenous Terms on loans are standardized Asset-backed loans Often guarantors Investor purchases diversified pool

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Captive Finance CompaniesCaptive Finance Companies

Captive examples GMAC

• $80 Billion

• 68% of assets in receivables

• 40% liabilities notes payable

• 33% long term debt

• 16% equity Ford Motor Credit

• $70 billion

• 73% of assets in receivables

• 81% short term credit

• 16% equity

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RegulationsRegulations

Compared to commercial banks

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Question 6-9Question 6-9

What advantages do finance companies have over banks in offering services to small business customers?

Question 8 Why is the rate charged on motor vehicle loans often

higher for a finance company than a commercial bank?

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Mutual FundsMutual Funds

7-1 What is a mutual fund and in what sense is a mutual fund a

financial intermediary?

7-4 What economic reasons can you provide for the existence of

mutual funds?

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Mutual FundsMutual Funds

Trends & causes Types of funds

long-term vs. money market tax exempt bond vs. equity Load vs. no load open ended vs. close ended

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7 - 8 7 - 8

How does the risk of short-tem funds differ from long term funds?

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RegulationRegulation

SEC NASD

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Valuation -- Net Asset Value (NAV)Valuation -- Net Asset Value (NAV)

Three factors affecting NAV dividends and income earned on assets capital gains or losses when the assets are sold capital appreciation in the underlying value of the stocks

held in the portfolio

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7-117-11

Open end Fund A has 100 shares of ATT @ $100 each and 50 Shares of Toro at $50 each.

Closed-end fund has 75 shares of ATT and 100 shares of Toro. Both funds issued 100 shares

a. What is NAV of each?

b. Assume 100 shares of ATT are added to A. What is NAV of A?

c. If ATT increases to $105 and Toro declines to $45, how does that impact NAV? Assume Fund A has only 100 shares of ATT.

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7-127-12

A mutual fund has 200 shares of Fiat, Inc., currently trading at $14 and 200 shares of Microsoft, currently trading at $140. NAV? If investors expect the price of Fiat shares to increase to $18

and Microsoft’s to decline to $110 by the end of the year, what is the expected NAV at the end of the year?

What is the maximum that the price of Microsoft can decline to maintain the NAV as estimated above?