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Financial Markets Overview

Financial Markets Overview. IEMS 326. Why this Lecture?. Goals: financial literacy financial numeracy Will this be on the exam? Yes. Know definitions Primary vs. Secondary markets Stocks vs. Flows vs. Trades Know orders of magnitude, relative sizes. Market functions.

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Financial Markets Overview

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  1. Financial Markets Overview IEMS 326

  2. Why this Lecture? • Goals: • financial literacy • financial numeracy • Will this be on the exam? • Yes. • Know definitions • Primary vs. Secondary markets • Stocks vs. Flows vs. Trades • Know orders of magnitude, relative sizes. • Market functions

  3. Debt versus Budget • What’s bigger, the debt or deficit of the US? • U.S. federal debt: over $11T • U.S. federal deficit 2009: about $1½T • In general, distinguish among 3 things: • stocks—e.g. how much has been invested? • flows—an increase or decrease in stocks • trades—exchanges of ownership • (may not affect the real economy)

  4. Debt, Deficit, Bonds • The U.S. federal debt is a… • stock—total amount borrowed • The U.S. federal deficit is a… • flow—this year’s increase in the debt • When I buy a U.S. Treasury bond, it’s a… • trade—if I buy it from you • flow—if I buy it from the U.S. Treasury

  5. Budgets • The U.S. federal budget is… • about $3T • about twice the U.S. federal deficit • about $10K per person (population ~300M) • Illinois has population ~13M and its state budget is… • about $50B • about $4K per person

  6. Budgets • The City of Evanston’s budget is… • $191M • about $2.5K per person (population ~75K) • Northwestern’s budget is… • $1.6B • about $100K per student (~16K students)

  7. Values of Investments • What’s worth more, American Airlines or Northwestern’s endowment? • Our endowment: about $6B (~$400K/student) • American Airlines (AMR): • market capitalization $2.1B • = (# shares of stock)*(price of a share) • = 333M shares * $6.33/share

  8. Shareholding and Market Cap • If I buy 333 shares of American Airlines… • a trade on the NYSE stock exchange • …I’ll own 1 millionth of the corporation • If NU tries to buy all 333M shares… • the price would probably go up • Market capitalization: valuation of the whole company based on small trades now.

  9. Typical share prices • From $1 to $100s • Not too low… • (penny stocks) • …or too high! • Berkshire Hathaway

  10. How to make money in stocks • buy low • sell high • …or collect dividends • When the share price goes up, (trade) • the company is more expensive • shareholders are happy • real economy vs. financial trades

  11. Primary&Secondary Equity Market • primary equity market: (flow) • e.g. initial public offering (IPO) • Google issued new shares • sold them to investors for $30B • invested $30B in cool stuff • secondary equity market (exchanges): (trade) • $36.6T total • shares and $$ change hands • brokers get ¢ (~0.1% of value)

  12. Bond Market • primary bond market: • U.S. Treasury or G.E. borrows money by issuing bonds to investors • secondary bond market: • bonds and $$$ change hands • brokers get $ (1-2% value) • trades: $1T/day

  13. Global Bond Market • $80T oustanding • (stock) • about $13K/person

  14. Foreign Exchange Market • currency: trade $ for euros • open 24/7 • trades: about $3T/day • about $500/person/day • about $200K/person/year • purposes: • international trade • hedging • speculation

  15. Foreign Exchange Market

  16. Commodities Markets • spot vs. futures • exchanges: • CME/CBoT • NYMEX, etc. • pork bellies • 20 tons, frozen • physical delivery • hedging, speculation

  17. Derivatives

  18. Backup slides

  19. How companies make money • successful business projects… • create positive earnings • increase book value • make it possible to pay higher dividends • real economy vs. financial trades

  20. Bonds issued

  21. Nationality of bond issuer

  22. Nationality of bond holder

  23. Government Bonds

  24. Bond market

  25. Foreign Exchange Market: What?

  26. Foreign Exchange Market: Where?

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