Investment Analysis
Lecture 1
Introduction:
Financial System, Institutions &
Instruments
Nadir Khan Mengal
5/4/2010
Investment Analysis
Financial Markets
A market is a venue where goods and
services are exchanged.
A financial market is a place where
individuals and organizations needing
funds are brought together with those
having surplus of funds.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Types of Markets
Physical Assets Market
Physical markets deal with real assets such as wheat, automobiles, computers,
etc.
Financial Assets Market
Financial markets deal with stocks, bonds, derivative securities, etc.
Money Market
Money markets are for short-term, highly liquid debt securities.
Capital Market
Capital markets are for intermediate, long-term debt etc.
Primary Market
Primary markets are markets where corporations raise new capital.
Secondary Market
Secondary markets are where existing shares are traded among investors.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Types of Markets (Cont )
Spot Markets
Spot markets are markets where assets are bought or sold
for on the spot delivery.
Futures Markets
Futures markets are markets in which participants agree to
buy or sell an asset at some future date.
Private Markets
Private markets are markets where transaction occurs
between two parties.
Public Markets
Public markets are markets where standardized contracts are
traded on organized exchange.
Nadir Khan Mengal
5/4/2010
Investment Analysis
How is Capital Transferred?
1.Direct Transfers
2.Indirect Transfers
a) Investment Banking House
b) Financial Intermediaries
Nadir Khan Mengal
5/4/2010
Investment Analysis
Direct Finance
Borrowers borrow funds directly from lenders in financial markets by selling
them securities (also called financial instruments) which are claims on
borrowers future income or assets.
Securities are assets for the person who buys them but liabilities for the
individual or firm that sells them.
For example, if Toyota Indus needs to borrow funds to pay for a new factory to
manufacture electric cars, it might borrow funds from savers by selling them
bonds, debt securities that promise to make payments periodically for a
specified period of time.
Indirect Finance
Borrowers borrow funds from a financial institution (commercial bank etc)
where the savings are deposited, i.e. they borrow through financial
intermediaries and these borrowings are backed by their portfolio of assets
which are claims on the borrowers.
Or hire a financial advisor (investment bank) to arrange capital for them.
Nadir Khan Mengal
5/4/2010
Investment Analysis
INDIRECT
FINANCE
FUND
S
Financial
Intermediaries
FUND
S
FUND
S
Lenders-Savers
1.Households
2.Business Firms
3.Government
4.Foreigners
FUND
S
Financial
Markets
FUND
S
BorrowersSpenders
1.Business Firms
2.Government
3.Households
4.Foreigners
DIRECT
FINANCE
Nadir Khan Mengal
5/4/2010
Investment Analysis
Financial Institutions (FIs)
A financial institution acts as an agent that
provides financial services to its clients or
members.
FIs perform the essential function of arranging
funds from those with surplus funds to those
with shortage of funds.
FIs generally fall under financial regulation
from a government.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Types of FIs
I. International Financial Institutions
International Monetary Fund
World Bank
European Investment Bank
II. Government Institutions
Export Credit Agencies
Export Insurance Agencies
Public
Financial
Institutions
III.Depository Institutions
Commercial Banks
Mutual Savings Banks
Credit Unions
IV. Non-Depository Institutions
Investment Banks
Insurance Companies
Pension Funds
Stock Market Brokers and Dealers
Nadir Khan Mengal
Private
Financial
Institutions
5/4/2010
Investment Analysis
Financial System
The financial system of a country consists of institutions
and regulators that act on a national or regional level.
The main players are the (1) financial institutions, such as,
commercial banks, (2) financial intermediaries, such as,
brokers/investment banks, (3) financial markets, such as,
exchanges, (4) national agencies and government
departments, such as, central bank and finance ministries
etc.
Financial system hence , is the channel through which
savings become investments and through which money
and financial claims are transferred and settled. The
participants in a financial system work together for the
health and stability of a nations economy.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Why Regulators are needed?
FIs provide vital services to all sectors of the
economy; therefore, their regulation is in public
interest.
In an attempt to prevent the failure of FIs and
the failure of financial markets overall and hence
the whole economy.
Regulatory authorities are necessary for
maintenance and financial stability of the
economy and building confidence of all stake
holders in the system.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Financial Instruments
Financial instruments are cash, evidence of ownership
interest in an entity or a contractual right to receive or
deliver cash or another financial instrument.
An instrument having monetary value or recording a
monetary transaction.
In general, any financial security such as a bond, stock,
check, etc. Money market securities (such as Treasury
Bills, Commercial Papers) and Capital market securities
(such as Certificate of Deposit, long-term bonds) are
also referred to as instruments.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Types of Financial Instruments
Categorized by Asset Class
1.Equity Based: representing ownership
of the asset.
2.Debt Based: reflecting a loan the
investor has made to the issuing entity.
Nadir Khan Mengal
5/4/2010
Investment Analysis
Types of Financial Instruments
Categorized by Maturity
1. Money Market:
Short-term (less than 1 year)
Less price fluctuation
Hence less risky investments
2. Capital Market:
Debt and equity instruments with maturities greater
than 1 year
Wider price fluctuation
Fairly risky investments
Nadir Khan Mengal
5/4/2010
Investment Analysis
1. Money Market Instruments
Treasury Bills
Certificate of Deposits (CDs)
Commercial Paper
Repurchase Agreements (Repos)
Nadir Khan Mengal
5/4/2010
Investment Analysis
2. Capital Market Instruments
Stocks
Corporate Bonds
Government Securities
Sukuks
Nadir Khan Mengal
5/4/2010
