CHAPTER 1 The Investment

Environment

Investments, 8th edition

Bodie, Kane and Marcus

Slides by Susan Hine

McGraw-Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Real Assets Versus Financial Assets

Essential nature of investment

Reduced current consumption
Planned later consumption
Real Assets
Assets used to produce goods and
services
Financial Assets
Claims on real assets

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Table 1.1 Balance Sheet of U.S.
Households, 2007

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Table 1.2 Domestic Net Worth

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A Taxonomy of Financial Assets

Fixed income or debt

Money market instruments
Bank certificates of deposit
Capital market instruments
Bonds
Common stock or equity
Derivative securities

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Financial Markets and the Economy

Information Role
The Google effect
Consumption Timing
Allocation of Risk
Separation of Ownership and
Management
Agency Issues

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 Financial Markets and the
Economy Continued
Corporate Governance and Corporate Ethics
Accounting Scandals
Examples Enron, Rite Aid, HealthSouth
Auditorswatchdogs of the firms
Analyst Scandals
Arthur Andersen
Sarbanes-Oxley Act
Tighten the rules of corporate governance

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 The Investment Process

Asset allocation
Choice among broad asset classes like
stocks, bonds, real estate, commodities
Security selection
Choice of which securities to hold within
asset class
Security analysis

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 Markets are Competitive
Risk-Return Trade-Off (no free lunch)
Efficient Markets: price reflects all info.
Active Management
Finding mispriced securities
Timing the market
Passive Management
No attempt to find undervalued
securities
No attempt to time the market
Holding a highly diversified portfolio
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 The Players
Business Firms net borrowers
Households net savers
Governments can be both borrowers and
savers
Financial Intermediaries
Investment Companies; invests mainly in
securities
Banks
Insurance companies
Credit unions
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 The Players Continued

Investment Bankers:Goldman Sachs,

Citigroup, J.P.Morgan
Perform specialized services for
businesses such as issuing securities for
firms
Markets in the primary market

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Table 1.3 Balance Sheet of
Commercial Banks, 2007

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Table 1.4 Balance Sheet of Nonfinancial
U.S. Business, 2007

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 Recent TrendsGlobalization

American Depository Receipts (ADRs)

claim in shares of a foreign company
Foreign securities offered in dollars
Mutual funds that invest internationally
Variant of ADR: Exchange Traded Funds
(ETFs) ,diversified investment in foreign
shares, e.g. iSHAREs, WEBS

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Figure 1.1 Globalization: A Debt Issue
Denominated in Euros

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 Recent TrendsSecuritization

Mortgage pass-through securities

Other pass-through arrangements
Car, student, home equity, credit card
loans
Offers opportunities for investors and
originators

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Figure 1.2 Asset-backed Securities
Outstanding

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Recent TrendsFinancial Engineering

Use of mathematical models and computer-

based trading technology to synthesize new
financial products
Bundling and unbundling of cash flows

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Figure 1.3 Building Creates a Complex
Security

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Figure 1.4 Unbundling of Mortgages into
Principal- and Interest-Only Securities

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Recent TrendsComputer Networks

Online information dissemination

customer's direct access to an on-line broker
Information is made cheaply and widely
available to the public
Automated trade crossing
Direct trading among investors

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