Term
| direct ownership of stocks has |
|
Definition
| declined rather steadily since 1945, from over 90 percent back then to a little under 40 percent now |
|
|
Term
|
Definition
| been increasing, especially since the mid-1980s |
|
|
Term
| form of indirect ownership is defined |
|
Definition
| contribution pension plans, such as 401K plans mutual funds |
|
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Term
|
Definition
wrote two path-breaking papers
•showed specifically was that the total market value of a firm—the market value of the firm’s debt and equity—would not depend on the mix of debt and equity. |
|
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Term
|
Definition
| Then the change in the value of the equity held by the firm’s existing shareholders |
|
|
Term
|
Definition
| the total market value of a firm is unaffected by changes in the firm’s capital structure when capital markets are “frictionless |
|
|
Term
| Another way of explaining the MM idea |
|
Definition
| saying a firm can be worth more if it has both debt and equity than if it has just one or the other |
|
|
Term
|
Definition
| which means that it has only equity |
|
|
Term
|
Definition
| which means that it has both debt and equity |
|
|
Term
| what matters to equity holders |
|
Definition
|
|
Term
•we can write a firm’s tax-adjusted weighted-average cost of capital as |
|
Definition
WACCta = drD (1-tc) + (1-d)rE
•This means that paying a dollar to debt holders is less costly to the firm than paying a dollar to equity holders. Each dollar paid to debt holders reduces its tax liability by amount tc.
|
|
|
Term
| ) Debt and equity as claims on firms’ income |
|
Definition
How debt and equity are alike: they are both claims on firm’s income
--How debt and equity differ—equity holders are residual claimants |
|
|
Term
| Who holds debt and equity claims |
|
Definition
Insiders vs. outsiders
--Concentrated ownership vs. dispersed ownership (e.g., is equity held by one large shareholder or many different shareholders, is debt held by one bank or many different bondholders |
|
|
Term
| Which type of claimant has control rights |
|
Definition
| Shareholders have control rights as long as covenants are satisfied, while debt holders get some control rights if covenants are violated |
|
|
Term
| Claims that are intermediate between debt and equity |
|
Definition
Common stock
Preferred stock
Subordinated debt
Ordinary debt
Secured debt |
|
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Term
|
Definition
| debt that holder can convert to equity at some predetermined conversion rate |
|
|
Term
| Debt instruments differ in |
|
Definition
security, liquidity, and maturity |
|
|
Term
|
Definition
| Debt is “secured” when it is backed by collateral |
|
|
Term
|
Definition
| Debt instruments are more liquid when there is little asymmetry of information between owner of the claim and potential buyers of the claim, in which case adverse selection is not a big problem |
|
|
Term
|
Definition
Types of short-term credit:
--Loan commitments and lines of credit (not clear why Tirole classifies this as short-term)
--Commercial paper (credit quality is often enhanced by backup lines of credit)
--Trade credit (borrowing from suppliers by delaying payment) |
|
|
Term
| Types of long-term credit |
|
Definition
Long-term bank loans
--Long-term public or privately placed debt |
|
|
Term
| Firms’ choice between short and long-term debt |
|
Definition
| Prefer long-term debt so don’t have to go back to bank or credit market repeatedly and don’t have to worry about selling assets at fire-sale prices if they can’t roll over the debt |
|
|
Term
| Lenders choice between short-term debt |
|
Definition
| Prefer short-term debt because it imposes discipline on borrowing firms and allows lender to exit if firm’s finances deteriorate |
|
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Term
|
Definition
Keeping managers and shareholders from taking actions that jeopardize the repayment of principal and interest. |
|
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Term
|
Definition
covenants: Specifying when debt holders can intervene in management |
|
|
Term
| Costs to firms of going public |
|
Definition
Costs of supplying information on a regular basis to regulators and investors.
--Cost of underwriting and legal fees (7% of transaction in the U.S., according to a 2000 study).
--Cost of underpricing (shares are traded shortly after at 15-20% more than the offer price). |
|
|
Term
| Benefits to firms of going public |
|
Definition
Provides firm access to new sources of finance, which can be especially important if firm has good growth prospects.
--Allows original owners to diversify their personal portfolios (recall that we talked about this effect in Unit 1).
--Creates an objective measure of the firm’s performance (its stock price) that can be used to evaluate managers’ performance |
|
|
Term
| Two types of bids can be submitted |
|
Definition
| competitive and noncompetitive. |
|
|
Term
| Competitive bidders state |
|
Definition
•a desired quantity and yield (discount rate, in the case of bill auctions) |
|
|
Term
|
Definition
•do not specify a yield. They agree to accept whatever yield is determined at the auction and in return are sold whatever amount of securities they requested. |
|
|
Term
|
Definition
| The highest accepted yield is called |
|
|
Term
| uniform-price or nondiscriminatory auction |
|
Definition
•It is called that because everybody who gets securities gets the same yield—the stop-out yield. |
|
|
Term
|
Definition
| If you bid aggressively, you would win, but you would be “cursed” with a lower yield than other bidders |
|
|
Term
|
Definition
| This is the ratio of the total amount of competitive and noncompetitive bids to amount of securities actually issued |
|
|
Term
| synthetic zero-coupon Treasury “receipts”. |
|
Definition
•The idea was to separate out the coupons from coupon bonds and sell securities against them. |
|
|
Term
|
Definition
| a completely safe zero-coupon bond by announcing its Separate Trading of Registered Interest and Principal of Securities |
|
|
Term
|
Definition
| which are the most recently issued securities in a particular maturity class |
|
|
Term
| reverse repurchase agreement (reverse repo |
|
Definition
•the dealer agrees to purchase securities from a counterparty and sell them back the next day at a specified price. |
|
|
Term
| The general-collateral repo rate |
|
Definition
–is the normal rate and is closely tied to the federal funds rate, since they are both overnight rates. |
|
|
Term
|
Definition
| But if a particular security is scarce or in big demand, the repo rate for the security can fall below the general collateral rate, in which case the security is said to be |
|
|
Term
| With nominal bonds, it has to pay a inflation risk premium |
|
Definition
| to compensate investors for nominal interest rate risk due to unexpected changes in inflation |
|
|
Term
| Treasury might not enjoy a big interest savings with TIPS is that it must pay a liquidity premiumon TIPS |
|
Definition
| because these securities are less liquid than regular Treasuries (not issued as much, and not traded as often |
|
|
Term
|
Definition
| The difference between the two yields is sometimes called |
|
|
Term
| The two main classes of municipal bonds are |
|
Definition
•revenue bonds and general obligation bonds. |
|
|
Term
| Industrial development bonds are |
|
Definition
| revenue bonds issued to finance commercial enterprises by private firms—e.g. the building of a factory. The federal government limits the amount of these bonds that can be issued since they are also tax-exempt |
|
|
Term
| Relationships among interest rates on bonds with different maturities |
|
Definition
| Term Structure of Interest Rates |
|
|
Term
| The n-period interest rate is the average of the current one-period rate and expected rates over the next n - 1 periods |
|
Definition
| Expectations Theory of the Term |
|
|
Term
| Extra return on a long-term bond that compensates for its riskiness |
|
Definition
|
|
Term
| Grph comparing interest rates on bonds of various maturities at a given point in time |
|
Definition
|
|
Term
| Downward-sloping yield curve signifying that short-term interest rates exceed long-term sales |
|
Definition
|
|
Term
|
Definition
|
|
Term
| The most important thing about a yield curve is |
|
Definition
|
|
Term
| Long-term rates depend on ecpectations of future short-term interest rates |
|
Definition
|
|
Term
| Supplies of different types of bonds matter |
|
Definition
| Segmented markets or portfolio balance |
|
|
Term
| Investors require a premium for holding a bond with greater price risk |
|
Definition
|
|
Term
| Firms that estimate default risk on bonds |
|
Definition
|
|
Term
| Corporate bond with an S&P rating below BBB |
|
Definition
|
|
Term
| Difference between interest rates on BBB and AAA corporate bonds with 10-year maturities |
|
Definition
|
|
Term
| Bonds issued by state and local governments |
|
Definition
|
|
Term
|
Definition
| Moral hazard that arises when the action of one party affects another party that does not observe the action |
|
|
Term
|
Definition
| Swindle in which an asset manager falsely claims to earn high returns and pays clients who ask for cash by raising money from new clients |
|
|
Term
|
Definition
| People can benefit from a good without paying for it, leading to underproduction of the good; in financial markets, savers are free riders when information is gathered |
|
|
Term
|
Definition
| Financial institution that owns large shares in private companies; includes takeover firms and venture capital firms |
|
|
Term
|
Definition
| Private equity firm that buys entire companies and tries to increase the companies' profits |
|
|
Term
| Venture Capital (VC) Firm |
|
Definition
| Private equity firm that buys shares in new companies that plan to grow |
|
|
Term
| Securities and Exchange Commission (SEC) |
|
Definition
| U.S. government agency that regulates financial markets |
|
|
Term
|
Definition
| Federal legislation that strengthens the requirements for information disclosure by corporations |
|
|
Term
|
Definition
| Buying or selling securities based on information that is not public |
|
|
Term
|
Definition
| a bank's commitment to lend up to a certain amount whenever a borrower asks |
|
|
Term
|
Definition
| an asset of a borrower that a bank can seize if the borrower defaults |
|
|
Term
|
Definition
| Difference between assets and liabilities |
|
|
Term
|
Definition
| Provision in a loan contract that restricts the actions of the borrower |
|
|
Term
|
Definition
| Minimum checking deposit that a borrower must maintain at the bank that has lent it money |
|
|
Term
|
Definition
| Refusal of a bank to lend to a borrower at any interest rate |
|
|
Term
|
Definition
| Numerical rating capturing a person's likelihood to repay loans based on her credit score |
|
|
Term
|
Definition
| Costs in time and money of exchanging goods, services, or assets |
|
|
Term
|
Definition
| Decisions by individuals or institutions about what assets to hold |
|
|
Term
|
Definition
| Company whose primary purpose is to hold securities, trade them, or help others trade them; includes mutual funds, hedge funds, brokers and dealers, and invesment banks |
|
|
Term
|
Definition
| Financial institution that holds a diversified set of securities and sells shares to savers |
|
|
Term
|
Definition
| Variant of a mutual fund that raises money from wealthy people and institutions and is largely unregulated, allowing it to make risky bets on asset prices |
|
|
Term
|
Definition
| Borrowing money to purchase assets |
|
|
Term
|
Definition
| Firm that buys and sells securities for others |
|
|
Term
|
Definition
| Firm that buys and sells certain securities for itself, making a market in the securities |
|
|
Term
|
Definition
| Financial institution that serves as an underwriter and advises companies on mergers and acquisitions |
|
|
Term
|
Definition
| Financial institution that helps companies issue new securities |
|
|
Term
|
Definition
| Financial markets in which firms and governments issue new securities |
|
|
Term
|
Definition
| Financial markets in which existing securities are traded |
|
|
Term
|
Definition
| Firm that issues securities that are traded in financial markets |
|
|
Term
| Initial Public Offering (IPO) |
|
Definition
| Sale of stock when a firm becomes public |
|
|
Term
|
Definition
| Physical location where brokers and dealers meet to trade securities |
|
|
Term
|
Definition
| Broker-dealer who manages the trading of a cetain stock on an exchange |
|
|
Term
| Over-the-counter (OTC) Market |
|
Definition
| Secondary securities market with no physical location |
|
|
Term
|
Definition
| OTC market in which all trades are made with dealers |
|
|
Term
|
Definition
| gap between the prices at which a dealer buys and sells a security |
|
|
Term
| Electronic Communications Network (ECN) |
|
Definition
| OTC market in which financial institutions trade securities with one another directly, rather than through dealers |
|
|
Term
|
Definition
| An average of prices for a group of stocks |
|
|
Term
|
Definition
| Mix of stocks adn bonds that a firm issues |
|
|
Term
| Modigliani-Miller theorem |
|
Definition
| Proposition that a firm's capital structure doesn't matter |
|
|
Term
| Mortagage-backed securities (MBSs) |
|
Definition
| Securities that entitle an owner to a share of payments on a pool of motgage loans |
|
|
Term
| Governement-sponsored enterprise (GSE) |
|
Definition
| Private corporation with links to the goverment |
|
|
Term
|
Definition
| Company that provides cash in return for a postdated check |
|
|
Term
|
Definition
| Legal limit on interest rates |
|
|
Term
|
Definition
| Unfair lending practices aimed at poor and uninformed borrowers |
|
|
Term
|
Definition
| small lender that holds an item of value as collateral |
|
|
Term
|
Definition
| Lender that violates usury laws and collects debts through illegal means |
|
|
Term
|
Definition
| Securities with payoffs tied to the prices of other assets |
|
|
Term
|
Definition
| Agreement to traqde an asset for a certain price at a future point in time |
|
|
Term
|
Definition
| The right to trade a security at a certain price any time before an expiration date |
|
|
Term
|
Definition
| an option to buy a security |
|
|
Term
|
Definition
| An option to sell a security |
|
|
Term
| Credit Default Swap (CDS) |
|
Definition
| Derivative with payouts triggered by defaults on certain debt securities |
|
|
Term
|
Definition
| Reducing risk by purchasing an asset that is likely to produce a high return if another of one's assets produces low or negative returns |
|
|
Term
|
Definition
| Using financial markets to make bets on asset prices |
|
|
Term
Adverse selection arises in the equity market when there are ______, and in the debt market when there are ______.
|
|
Definition
unobservable differences among firms in expected future earnings; unobservable differences among firms in risk |
|
|
Term
The key difference between mutual funds and hedge funds is that mutual funds ______.
|
|
Definition
are more heavily regulated to protect small investors |
|
|
Term
Brokers _____, while dealers ______.
|
|
Definition
buy and sell securities for others; make a market by buying and selling securities themselves |
|
|
Term
The functions of investment banks include
|
|
Definition
underwriting new equity issues |
|
|
Term
| Primary markets are for _____, while secondary markets are for ______. |
|
Definition
issuing new securities; trading existing securities |
|
|
Term
| Derivatives such as futures, options, and credit default swaps are used ____. |
|
Definition
sometimes to reduce risk and other times to speculate |
|
|
Term
|
Definition
|
|
Term
| When a dealer quotes a bid-ask spread for a security, the bid price is the price at which the dealer is willing to ____ the security, while the ask price is the price at which the dealer is willing to ____ the security. |
|
Definition
|
|
Term
| An over-the-counter market differs from a stock exchange in that an over-the-counter market _____. |
|
Definition
|
|
Term
| NASDAQ stocks are traded on |
|
Definition
both a dealer market and ECNs |
|
|
Term
| When you call your broker and tell her to buy 100 shares of Exxon-Mobil if the price falls to $75, you are _____. |
|
Definition
|
|
Term
| During financial crises, bid-ask spreads on securities tend to ____ because of ______. |
|
Definition
widen; concerns about liquidity |
|
|
Term
| The difference between the yield on a nominal Treasury bond and the yield on a Treasury inflation-indexed bond of the same maturity equals the ______. |
|
Definition
expected inflation rate plus an inflation risk premium on the nominal bond minus an illiquidity premium on the inflation-indexed bond |
|
|
Term
| In the municipal bond market, bonds backed by the taxing power of the issuer are called ______, while bonds backed by the income from a specific project are called _____. |
|
Definition
general obligation bonds; revenue bonds |
|
|
Term
| When a dealer conducts an overnight reverse repo in the U.S. Treasury market, it _____ and agrees to _____ at a _____ price the next day. |
|
Definition
purchases a bond from a counterparty; resell the bond to the counterparty; higher |
|
|
Term
| The yield on an on-the-run Treasury security is usually ____ the yield on an off-the-run Treasury security of similar maturity because the on-the-run security is_____. |
|
Definition
|
|
Term
| According to the Modigliani-Miller theorem, if there were no taxes, bankruptcy costs, or asymmetric information problems, a company would be unable to benefit its shareholders by _____. |
|
Definition
changing the mix of debt and equity |
|
|
Term
| In the choice by corporations between debt and equity, tax considerations tend to favor ____ and bankruptcy costs tend to favor ____. |
|
Definition
|
|
Term
| STRIPS were introduced in the 1980s to meet the demand of investors for _____. |
|
Definition
zero-coupon Treasury securities |
|
|
Term
| Under the current system for auctioning Treasury securities, both competitive and non-competitive bidders receive the _____. |
|
Definition
highest accepted yield among competitive bidders |
|
|
Term
| In the late 1990s, the Treasury switched from a discriminatory auction to a uniform-price auction on the grounds that _____ in a uniform-price auction. |
|
Definition
investors would tend to offer higher yields |
|
|
Term
| Compared to other developed countries, the percentage of U.S. stocks that are owned directly by households is _____. |
|
Definition
|
|
Term
| According to Flow of Funds data, the decline in the percentage of stocks owned _____ by households has been largely offset since the 1980s by an increase in the share of stocks owned ____ by households, reflecting the increased importance of ____. |
|
Definition
directly; indirectly; mutual funds and defined-contribution pension plans |
|
|
Term
| According to Tirole, ownership of stocks is ______ in the U.S. than other countries, making _____ of firms’ managers more difficult. |
|
Definition
more dispersed and less stable; active monitoring |
|
|
Term
| In the event of bankruptcy, the claims of preferred stockholders are _____ those of common stockholders and are ____ those of subordinated debtholders. |
|
Definition
|
|
Term
| According to Tirole, high-quality borrowers differ from low-quality borrowers in that high-quality borrowers____ |
|
Definition
have more long-term debt, more public debt, and more loan commitments from banks |
|
|
Term
| The benefits to a firm’s owners of going public include |
|
Definition
I. Gaining access to new sources of funding.
II. Allowing the owners to diversify their personal portfolios.
III. Disciplining managers by introducing the threat of takeover.
IV. Providing an objective measure of firm performance to use in compensating managers |
|
|
Term
| The costs to a firm’s owners of going public include |
|
Definition
I. Less effective monitoring of managers by shareholders due to more dispersed ownership.
II. The tendency for shares to be underpriced in IPOs.
IV. Loss of control of the business. |
|
|
Term
| For most corporations in the developed world, the main source of new funds is _____. |
|
Definition
|
|
Term
Which of the following statements is false?
|
|
Definition
Stock prices react only modestly to earnings and merger announcements. |
|
|
Term
Which of the following factors could explain why the Efficient Market Hypothesis does not always hold?
|
|
Definition
I. Overconfidence by investors
II. "Greater fool" theory of investing
III. Limits to arbitrage. |
|
|
Term
The graph that compares interest rates on bonds of different maturities is called the ______.
|
|
Definition
|
|
Term
| "Junk bonds" are those rated ____ by Standard & Poor’s. |
|
Definition
|
|
Term
| Other things equal, the interest rate on an bond rated Aa by Moody’s should be ______ the interest rate on a bond rated Baa and ____ the interest rate on a U.S. Treasury bond of the same maturity. |
|
Definition
|
|
Term
| Under normal circumstances, a municipal bond would pay a _____ interest rate than a U.S. Treasury bond of the same maturity, reflecting the fact that interest income on municipal bonds is _____. |
|
Definition
|
|
Term
According to the expectations theory of the term structure, the
n-period interest rate is the ______.
|
|
Definition
average of the current one-period rate and the expected one-period rates over the next
n-1 periods
|
|
|
Term
| If a new Chairman is appointed to the Federal Reserve and people believe the new Chairman prefers a higher long-run inflation target, what will likely happen to the yield curve according to the expectations theory? |
|
Definition
|
|
