Financial Instruments
Financial Instruments
Professor Lasse H. Pedersen
Prof. Lasse H. Pedersen
1
Overview
Real and financial assets Use of financial assets Important examples of financial assets
Prof. Lasse H. Pedersen
2
Real Versus Financial Assets
Real Assets
– Assets used to produce goods and services – Examples: factories, land, human capital, etc.
Financial Assets
– Claims on real assets such as stocks bonds
– Derivatives
Prof. Lasse H. Pedersen
Use of Financial Instruments
Allocation of Capital
– Financing of projects
Consumption Smoothing:
– saving and borrowing
Allocation of Risk
– Diversification – Hedging – Insurance
Meeting place for investors with different (not necessary opposite) investment needs
Prof. Lasse H. Pedersen
Important Financial Assets
Fixed Income Securities
– ‘Borrowing instruments’ – Treasury bonds – Municipal bonds – Corporate bonds
Equity
– ‘Ownership in a firm’ – A stock is a ‘claim to funds after all debts have been paid’
Prof. Lasse H. Pedersen
Important Financial Assets
Derivatives
– Definition: ‘securities whose payoff depends on values of other assets’ – Examples
Options Futures Swaps
Investment Companies
– Mutual Funds
Prof. Lasse H. Pedersen
Treasury Bonds
Types of Treasury bonds
– Treasury Bills (less than 1 year maturity) – Treasury Notes (1-10 year maturity) – Treasury Bonds (10-30 year maturity)
Semi-annual coupon payments
Prof. Lasse H. Pedersen
7
Municipal Bonds
Issued by state and local governments
– Exempt from federal income tax – Exempt from (issuing) state local tax
Types of ‘munis’
– General obligation bonds: baked by the ‘full faith of credit’ of the issuer (taxing power) – Revenue bonds (riskier): issued to finance specific projects (airports, hospital, etc.)
Prof. Lasse H. Pedersen 8
Corporate Bonds
Default Risk Commercial paper
– Short term
Corporate bond
– Longer term – Typically pays semi-annual coupons – Different
Professor Lasse H. Pedersen
Prof. Lasse H. Pedersen
1
Overview
Real and financial assets Use of financial assets Important examples of financial assets
Prof. Lasse H. Pedersen
2
Real Versus Financial Assets
Real Assets
– Assets used to produce goods and services – Examples: factories, land, human capital, etc.
Financial Assets
– Claims on real assets such as stocks bonds
– Derivatives
Prof. Lasse H. Pedersen
Use of Financial Instruments
Allocation of Capital
– Financing of projects
Consumption Smoothing:
– saving and borrowing
Allocation of Risk
– Diversification – Hedging – Insurance
Meeting place for investors with different (not necessary opposite) investment needs
Prof. Lasse H. Pedersen
Important Financial Assets
Fixed Income Securities
– ‘Borrowing instruments’ – Treasury bonds – Municipal bonds – Corporate bonds
Equity
– ‘Ownership in a firm’ – A stock is a ‘claim to funds after all debts have been paid’
Prof. Lasse H. Pedersen
Important Financial Assets
Derivatives
– Definition: ‘securities whose payoff depends on values of other assets’ – Examples
Options Futures Swaps
Investment Companies
– Mutual Funds
Prof. Lasse H. Pedersen
Treasury Bonds
Types of Treasury bonds
– Treasury Bills (less than 1 year maturity) – Treasury Notes (1-10 year maturity) – Treasury Bonds (10-30 year maturity)
Semi-annual coupon payments
Prof. Lasse H. Pedersen
7
Municipal Bonds
Issued by state and local governments
– Exempt from federal income tax – Exempt from (issuing) state local tax
Types of ‘munis’
– General obligation bonds: baked by the ‘full faith of credit’ of the issuer (taxing power) – Revenue bonds (riskier): issued to finance specific projects (airports, hospital, etc.)
Prof. Lasse H. Pedersen 8
Corporate Bonds
Default Risk Commercial paper
– Short term
Corporate bond
– Longer term – Typically pays semi-annual coupons – Different