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Week 1 Notes: Financial Marketing

This document provides an overview of financial markets and instruments for managing risk. It discusses the key participants and types of financial markets, including their functions, role players, assets traded, ownership and methods of sale. The document also outlines important concepts for financial markets like price determination, information sharing, risk sharing, liquidity and efficiency. Finally, it describes various instruments for managing risk like bonds, equities and universal risks that are difficult to mitigate, such as systemic and black swan events.

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Pulkit Aggarwal
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65 views

Week 1 Notes: Financial Marketing

This document provides an overview of financial markets and instruments for managing risk. It discusses the key participants and types of financial markets, including their functions, role players, assets traded, ownership and methods of sale. The document also outlines important concepts for financial markets like price determination, information sharing, risk sharing, liquidity and efficiency. Finally, it describes various instruments for managing risk like bonds, equities and universal risks that are difficult to mitigate, such as systemic and black swan events.

Uploaded by

Pulkit Aggarwal
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Unit 1 : Introduction to Financial Markets

Functions of participants in market :

1. Raise capital
2. Profit incentive
3. Hedging

Role players in market :

1. Government
2. Central bank
3. Investment banks
4. Insurance and reinsurance companies
5. Clearing houses - Companies that facilitate all activities between the commitment
of a transaction
6. Dealers/intermediaries/brokers

Type of financial markets

1. Type of asset traded


1. Equity market - Buying via selling a portion of company
2. Debt market - Fixed rates loan
3. Derivative market - Future contracts
4. Foreign exchange market
2. Maturity of asset
1. Money markets - short term highly liquid assets. Eg: Deposits, treasury
bills, commercial paper
2. Capital markets - long term assets. Eg: Debt and equity
3. Owner of the asset
1. Primary market - First time sell ie. IPO. SEC regulates sales.
2. Secondary market - Post IPO. SEC regulates sales.
4. Method of sale
1. Dealer market - financial market whereby many dealers post prices at
which they are willing to buy or sell a specific security of instrument.
2. Auction market - Market where by buyers point out the highest price they
are willing to pay for a product or service and sellers determine the lowest
price they are willing to sell their goods and services
Unit 2 : Elements of Financial Markets
1. Price determination and discovery - Underlying principle of market system is
that there must be agreed upon value attributed to goods or services.
1. Price determination - Market price of a commodity/service determined by
the general level of what buyers are willing to pay and what sellers are
willing to earn. Driven by supply and demand.
2. Price discovery - Specific agreement between B & S at the time of trade.
Depends on supply demand + quality of commodity.
3. Eg: Selling a car by determining price of similar car. Once someone
showed interest, then negotiating the price with that part.
2. Information aggregation and coordination - The speed and accuracy with
which information can be delivered to market participants has a direct effect on
the returns that can be made. Tech has helped in this by automation.
3. Risk sharing -
1. Division of risk among more than one party to minimise the impact of loss.
2. Risk is shared among those who have similar or equal risk of loss
3. Differs from insurance which involves transfer of risk from one party to
another.
4. In traditional insurance, associated risk is known. Hence charge
appropriate premium
5. Eg: Bank giving a loan to a client may approach another bank to assist
with risk by funding a portion of the loan.
4. Liquidity -
1. Ease with which an asset can be converted to cash.
2. Enables market participants to achieve their desired goals(profit).
3. In a market that is illiquid, buyers and sellers are at risk of loss due to time
exposure involved. Eg: Cryptocurrency. In the sell off, there were no buy
orders hence illiquid.
5. Efficiency -
1. Refers to the fact that the specified prices reflect all available information
regarding particular instruments, making it impossible for the participant to
outperform the market.
2. Prices are driven up or down to the point at which the available
information reflects an equilibrium price.
3. Eg: Arbitrage => Same stock sold at NYSE and LSE at $10 and $10.5
respectively. People will buy at NYSE and sell at LSE which will drive up
price in NYSE and down in LSE till equilibrium is reached.
Unit 3 : Risk and Probability
Managing risk in financial markets

1. Avoidance -
1. Most obvious choice of risk management.
2. Extreme and offers very little reward for the participants. Eg: US Treasury
bills
3. Only risk involved is that the issuers missed repayments.
4. Does not protect against inflation which erodes value of money over time.
5. Not recommended as lower investment returns.
2. Loss prevention or reduction -
1. In this, risk is accepted while steps are taken to minimise the potential
loss. Eg: via Hedging, future contracts(Oil currently at $50 expected to go
to $70 dollar in 6 months. Bought future contract at $60 for delivery in 6
months.
2. Involves risk as works on speculation which brings with it uncertainty and
hence even greater risk.
3. Diversification -
1. Diversification in multiple securities and bond markets.
2. Approach is to minimise potential loss by pooling assets with different risk
weightage as per their risk appetite.
4. Transferring risk -
1. Involves moving risk from one party to another.
2. Done on the theoretical basis that the risk averse party is willing to pay the
loss covering party a premium.
3. Eg: Insurance policy whereby a party pays frequent premiums based on
risk involved.

Unit 4 : Instruments for Managing Risk


Risk and financial Instruments

1. Bonds
1. Mitigation
1. Interest repayment rates are fixed and principal is determined
before sale.=> Income earned & repayment required is predictable.
2. Information concerning the reliability of the bond issuer is usually
readily available through ratings agencies.
2. Exposure
1. Function that a bond serves for the bond holder is to enable them
to collect frequent payments in the form of interest. If payments are
missed, investors will incur loss(called default risk).
2. Bonds operate in an interest rate environment. If interest rate
increases, bond value decreases and hence loss for investors.
Known as interest rate risk.
2. Equities
1. Mitigation
1. Equities offer ownership.
2. Equity owners have rights to the capital and in most cases voting
rights that they can use to exercise dividend payout.
3. If a company goes bankrupt, ownership attributes certain rights to
the holder that can minimise loss even though a normal
shareholder doesn’t have the first rights to payment.
2. Exposure
1. Equity holders have high price exposure as shares are openly
traded.Equities although being long term investment, in the short
term can experience price volatility and devaluation. This leads to
investors spending more time in the market.
2. Shareholder can exercise their vote to force a dividend distribution,
but in cases where profits do not allow for distribution, the
shareholder will experience dividend risk
3. Unlisted securities
1. Mitigation
1. Doesn’t have the same regulation standards as listed securities =>
Issuer can trade more cheaply and can get to market quickly as
compared to IPO.
2. Exposure
1. Safety concerns are there. Participants in these environments are
likely to experience market manipulation.
4. Universal Risks - Type of risk that cannot be avoided.
1. Systemic risk
1. Risk that is not isolated to one particular company, trader or
institution.
2. Affects the underlying components of the integrated system of the
entire financial market.
3. Very hard to foresee as it can originate from almost anywhere in
the system.
4. This type of risk requires an overhaul or serious amendment of the
system.
5. Eg : 2008 financial recession due to mortgage defaults.
2. Black swan event
1. Risk event that is infrequent, unpredictable and cannot be
predicted.
2. Eg: Corona.

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