FIN 310 Class
Web Page, Fall '19
Instructor:
Maggie Foley
Jacksonville
University
Weekly SCHEDULE,
LINKS, FILES and Questions
Week |
Coverage, HW, Supplements -
Required |
WSJ Papers for Discussion in class and
Videos |
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Intro. & Chapter
1 |
Daily earning announcement: http://www.zacks.com/earnings/earnings-calendar IPO schedule:
http://www.marketwatch.com/tools/ipo-calendar Chapter 1 Introduction Introduction to Capital
Markets - ION Open Courseware (Video)
Note: Flow of funds describes the financial assets flowing from various
sectors through financial intermediaries for the purpose of buying physical
or financial assets. *** Household, non-financial business, and our government Financial institutions facilitate exchanges of funds and financial
products. *** Building blocks of
a financial system. Passing and transforming funds and risks during
transactions. *** Buy and sell, receive
and deliver, and create and underwrite financial products. *** The transferring
of funds and risk is thus created. Capital utilization for individual and for
the whole economy is thus enhanced. For class discussion: 1. What
is the business model of each player in the above graph? 2. Which
player is the most important one in the financial market? 3. Can
anyone of them be removed from the market? Chapter 1 - ppt
1.
What
are the six parts of the financial markets
Money: · To pay for purchases and store wealth (fiat money, fiat currency) What is Bitcoin for
BEGINNERS in 7-Min. & Bitcoin Explained | What is Cryptocurrency
Explained 2019
Financial Instruments: · To transfer resources from savers to investors and to transfer risk to those best equipped to bear it. Where do student loans go?
(video)
An Introduction to
Securitized Products: Asset-Backed Securities (ABS) (video)
Financial Markets: · Buy and sell financial instruments · Channel funds from savers to investors, thereby promoting economic efficiency · Affect personal wealth and behavior of business firms. Example? Financial Institutions. · Provide access to financial markets, collect information & provide services · Financial Intermediary: Helps get funds from savers to investors Central Banks · Monitor financial Institutions and stabilize the economy Regulatory Agencies · To provide oversight for financial system. The role of financial
regulation (Video) - Do you agree with
her?
2.
What
are the five core principals of finance
3.
What is stock?
4.
Why
do we need stock exchanges? · Transparency · Anonymous · Guarantee and settlement · Regulated 5.
What
is high frequency trading? pros and cons Videos High Frequency Trading
(video)
How high frequency trading
works (video)
6.
What is flash
crash? (refer to the two articles on the right) Flash
crash From Wikipedia, the free encyclopedia A flash crash is
a very rapid, deep, and volatile fall in security prices occurring within an extremely
short time period. A flash crash frequently stems from trades executed by black-box
trading, combined with high-frequency trading, whose speed and
interconnectedness can result in the loss and recovery of billions of dollars
in a matter of minutes and seconds. Occurrences The Flash Crash This type of event
occurred on May 6, 2010. A $4.1 billion trade
on the New York Stock Exchange (NYSE) resulted in a loss to the Dow Jones Industrial Average of over 1,000 points and then a
rise to approximately previous value, all over about fifteen minutes. The
mechanism causing the event has been heavily researched and is in dispute. On
April 21, 2015, the U.S. Department of Justice laid "22 criminal counts,
including fraud and market manipulation" against Navinder Singh Sarao, a trader. Among the charges included
was the use of spoofing algorithms. 2017 Ethereum Flash Crash On June 22, 2017, the
price of Ethereum, the second-largest
digital cryptocurrency, dropped from more than
$300 to as low as $0.10 in minutes at GDAX exchange. Suspected for market manipulation or an account takeover
at first, later investigation by GDAX claimed no indication of wrongdoing.
The crash was triggered by a multimillion-dollar selling order which brought
the price down, from $317.81 to $224.48, and caused the following flood of
800 stop-loss and margin funding liquidation orders, crashing the market. British pound flash crash On October 7, 2016,
there was a flash crash in the value of sterling, which dropped more than 6% in two
minutes against the US dollar. It was the pound's lowest level against the
dollar since May 1985. The pound recovered much of its value in the next few
minutes, but ended down on the day's trading, most likely due to market
concerns about the impact of a "hard Brexit"—a more complete break with the European Union following Britain's 'Leave' referendum vote in June. It was initially speculated that the
flash crash may have been due to a fat-finger trader error or an algorithm reacting to negative news articles
about the British Government's European policy. FLASH CRASH!
Dow Jones drops 560 points in 4 Minutes! May 6th 2010 (video)
Flash Crash 2010: Trader
Relives Nightmare Three Years Later (video)
Flash Crash: Can Only One
Trader Be Responsible? (video)
What Is High-Frequency
Trading? Finance, Algorithms, Software, Strategies, Firms (2014) (Video,
optional)
THE HUMMINGBIRD PROJECT
Clips + Trailer (2019) (video)
Flash Crash 2010
- VPRO documentary – 2011 (video, optional)
Homework of the 1st week (due with first mid term): 1.
What is high frequency trading (HFT)?
Shall SEC ban HFT? 2.
So is HFT good or bad? Why or why
not? 3.
What is flash crash? How does it make
investors so worried? How can HFT trigger flash crash? 4.
What is a flash crash in Forex? What
is mini-crash? What is witching hour? 5.
Can regulators protect Forex from a
flash crash? |
Goldman Sachs says computerized trading may make
next 'flash crash' worse
·
Goldman Sachs is worried the increasing
dominance of computerized trading may cause more volatility during market
downturns. ·
The firm says high-frequency trading
machines may "withdraw liquidity" at the worst possible moment in
the next financial crisis. Goldman
Sachs is cautioning its clients that computerized trading may exacerbate the
volatility of the next big market sell-off. "One theory that has
been proposed for why market fragility could be higher today is that because HFTs
[high-frequency trading] supply liquidity without taking into account
fundamental information, they are forced to withdraw liquidity during periods
of market stress to avoid being adversely selected," Charles
Himmelberg, co-head of global markets research at Goldman, said in a report
Tuesday. "In our view, this at least raises the risk that as machines
have replaced people, and speed has replaced capital, the inability of the
market's liquidity providers to process complex information may lead to
surprisingly large drops in liquidity when the next crisis hits." Himmelberg
noted the higher level of computerized trading has not been truly
"stress tested" during the bull market since the financial crisis.
He said the increasing incidents of volatility in various markets such as the VIX spike
on Feb. 5, the 10-year Treasury bond on Oct. 15, 2014, and the British
pound on Oct. 6, 2016, may be precursors of a bigger one to come. "The
rising frequency of 'flash crashes' across many major markets may be an
important early warning sign that something is not quite right with the
current state of trading liquidity," he said. "These warning signs
plus the rapid growth of high-frequency trading (HFT) and its near-total
dominance in many of the largest and most widely traded markets prompt us to
more carefully consider the possibility (not necessarily the probability)
that the long expansion accompanied by relatively low market volatility may
have helped disguise an under-appreciated rise in 'market fragility.'" The strategist said computerized trading is generally not
backed by large levels of capital, which could drive the "collapse"
of liquidity if the machines suffer any big losses during a significant
market downturn. "Future flash crashes may not end well," he warned.
"The quality of trading liquidity for even the biggest, most
heavily-traded markets should not be taken for granted." — With reporting by CNBC's Michael Bloom. Bump in the Night:
FX Flash Crashes Put Regulators on Alert BY SAIKAT
CHATTERJEE and Trevor Hunnicutt LONDON/NEW YORK (Reuters) - The increasing frequency of flash
crashes in the $5.1 trillion-a-day foreign exchange market has regulators
scrambling for answers. Sudden, violent and often quickly reversed price moves are now
a regular occurrence in world currency markets -- often during the so-called
'witching hour', a period of thin trading between 5-6 pm in New York when
currency dealers there have powered off and colleagues in Tokyo have yet to
sign on. Two big crashes this year separately pummeled the yen and the
Swiss franc and, given the importance of currency pricing for trade,
investment flows and the global economy, policymakers are concerned a major
fracturing could threaten financial stability. "The question is, is this a new normal, or is it a canary
in the coalmine sort of thing?" said Fabio Natalucci, deputy director of
the Monetary and Capital Markets Department at the International Monetary
Fund (IMF). "We have seen the frequency of these events increase so
this may be pointing to a major liquidity stress event coming at some point
in the future." Natalucci said liquidity strains -- market lingo for an
insufficient number of buy and sell orders -- were evident days ahead of a
big crash and the IMF was creating a monitoring tool that might be able to
predict when the next one was coming. Reflecting official disquiet, flash crashes have been a
regular topic of discussion this year at the Federal Reserve Bank of New
York's FX market liaison committee, a forum for central bankers and market
players. Bankers and policymakers agree that an industry-wide switch to
machine-trading in FX markets is behind the frequency and severity of the
price moves, meaning that further crashes are likely. "Our pessimistic view is that this technology is going to
become an increasing part of the FX market and we need to step up our
monitoring," a G10 central bank official said, declining to be named
because he is not authorized to speak publicly. Regulators aren't pressing the panic button yet. Natalucci
said there was no evidence that flash crashes so far had raised funding costs
for firms or households and it made sense to study the problem before
"rushing into enacting any regulatory responses". Mini-crashes already occur roughly every two weeks in the FX
market according to a study by Pragma, a company which creates computer
trading models. In these incidences, a currency's price will shift
dramatically followed by a swift reversal, along with a sudden and
significant widening of the spread between prices quoted to buy and sell it.
The spread usually narrows after a few minutes. KILL SWITCHES Computer models known as algorithms, or algos, have largely
replaced humans in currency trading, helping banks to cut costs and boost the
speed at which deals are done. The models are designed to execute trades smoothly by breaking
down orders into small pieces and searching for platforms where liquidity is
plentiful. But problems arise when market conditions change, for
instance, when trading volumes suddenly collapse or volatility spikes as has
been the case during Britain's protracted attempt to extricate itself from
the European Union. At such times, algos are often programmed to shut down. Two senior central banking officials, speaking on condition of
anonymity, said such "kill switches" drained liquidity. And, because fragmented forex markets depend on algos for a
constant stream of price quotes -- by one estimate there are 70-odd trading
platforms -- a widespread shutdown causes volumes to nosedive, making the
price moves more dramatic. The first of this year's notable crashes came on January 3
when the yen spiked suddenly against the dollar after Tokyo markets closed.
It jumped 8% within the space of seven minutes against the Australian dollar
and 10% to the Turkish lira. The second was on February 11 when the Swiss franc gyrated
frantically, with an unexplained and brief jump against the euro and dollar. A Reserve Bank of Australia (RBA) report noted that several
flash episodes have been recorded during the witching hour. It was also
during this illiquid period on October 7, 2016 that sterling collapsed 9% in
early Asian trading, falling to around $1.14 from $1.26 within minutes. The RBA's analysis of all these flash crashes concluded
algorithmic trading strategies likely acted as "amplifiers". (GRAPHIC: Japan Yen Flash crash Jan 3 -
https://tmsnrt.rs/2WiSDWn) Human traders would be able to spot an opportunity from the
market turmoil -- buying a currency in free fall - which would help to defuse
it. But these days there are far less of them around. Upto 70% of all FX orders on platform EBS, one of two top
venues for currency trading, now originate from algorithms. In 2004, all
trading was undertaken by humans. With banks under constant pressure to cut costs and
post-financial-crisis rules making it ever more expensive to trade, there is
no sign of firms hiring extra staff or deploying existing employees onto a
graveyard shift. Instead, some try to avoid trading when they know volumes will
be light such as major holidays. Machines, meanwhile, are expected to become even more
dominant. Pragma has just launched an algorithm to trade non-deliverable
forwards, derivatives used to hedge exposure to illiquid currencies, especially
in emerging markets, according to Curtis Pfeiffer, chief business
officer at the firm. Trading in illiquid, emerging market currencies was previously
the mainstay of voice traders. "FX trading in banks is a tough business because spot
trading is so commoditized and revenues are squeezed," said John Marley,
a senior currency consultant at Smart Currency Business. "Moreover, banks have rolled back their proprietary
trading desks due to the extra capital required and lower risk
appetite." (GRAPHIC: G10 FX traders - https://tmsnrt.rs/2Elpkvq) TALKING POINTS Policymakers' ability to understand and affect currency moves
are hampered by the freewheeling nature of the FX market, which is
unregulated, private and decentralized. The 'FX Global Code' was developed by central banks and
private sector participants to promote a fair and open FX market but it is
not legally binding. In comparison to equity markets, where regulators have been
able to introduce measures to try and tame wild price swings, policymakers in
the FX space are still at the discussion stage. Flash crashes were on the agenda of two recent meetings of the
Foreign Exchange Committee, an industry group sponsored by the Federal
Reserve Bank of New York, and a gathering of the Global Foreign Exchange
Committee (GFXC) this month. "It’s important for us to use this forum to understand
flash events, their causes, and how the principles of the Global Code can be
applied to promote a fair and efficient FX market," Simon Potter,
executive vice president of the Federal Reserve Bank of New York and the
chair of the GFXC, told Reuters. Central banks could potentially intervene to smooth out
significant and prolonged gyrations in currency markets but that would be
controversial. "The primary mandate for most central banks is price
stability and the secondary mandate is financial stability," said
Nikolay Markov, senior economist at Pictet Asset Management. "As long as these intraday big moves do not impinge on
financial stability or drain interbank liquidity, central banks will monitor
these developments and are not supposed to react to intraday moves." It could also be costly -- Britain's failed defense of
sterling in 1992 cost it around 3.3 billion pounds according to Treasury
calculations -- and potentially futile. "I doubt that central banks can do much to prevent the
occurrences of these flash crashes as previous incidents have been a result
of a complete drying up of market liquidity, resulting in some big
moves," said Neil Mellor, senior FX strategist at BNY Mellon in New
York. "Unless those problems are addressed, we will continue to see such
price swings." (Editing by Sujata Rao and Carmel Crimmins) Copyright 2019 Thomson Reuters. |
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Chapter 2 |
Chapter
2 What is Money Part I What is Money? · There is no single
"correct" measure of the money supply: instead, there are several
measures, classified along a spectrum or continuum between narrow and broad monetary aggregates. • Narrow measures include only the
most liquid assets, the ones most easily used to spend (currency, checkable
deposits). Broader measures add less liquid types of assets (certificates of
deposit, etc.)
· M0:
In some countries, such as the United Kingdom, M0 includes bank reserves, so
M0 is referred to as the monetary base, or narrow money. · MB:
is referred to as the monetary base or total currency. This is the base
from which other forms of money (like checking deposits, listed below) are
created and is traditionally the most liquid measure of the money supply. · M1: Bank
reserves are not included in M1. (M1 and Components @ Fed St. Louise website)
· M2:
Represents M1 and "close substitutes" for M1. M2 is a broader
classification of money than M1. M2 is a key economic indicator used to
forecast inflation. (M2 and components @ Fed St. Louise website) · M3:
M2 plus large and long-term deposits. Since 2006, M3 is no longer published
by the US central bank. However, there are still estimates produced by
various private institutions. (M3 and components at Fed St. Louise website) ·
Let’s watch this money supply
video: Draw
Me The Economy: Money Supply (video)
For discussion: ·
What could happen if we
increase money supply? ·
What about reduce money supply? ·
What are the possible ways to
reduce money supply? ·
Among M0, M1, M2, M3, which
one is the correct measure of money? ·
Why M2 is >> M0? ·
Why does M2 increase much
faster than M1? Does it has any impact on you? For more information, please visit http://www.data360.org/report_slides.aspx?Print_Group_Id=168
Summary:
Money Supply M2 in the United States
increased to 14872.10 USD Billion in July from 14755.10 USD Billion in June
of 2019. oney Supply M2 in the United States averaged 4121.70 USD Billion
from 1959 until 2019, reaching an all time high of 14872.10 USD Billion in
July of 2019 and a record low of 286.60 USD Billion in January of 1959.
https://tradingeconomics.com/united-states/money-supply-m2 M2 of other countries
Part II What is
Fractional Banking System? Money Creation in a Fractional Reserve Banking System
In
a fractional reserve banking system, banks create money when they make loans. Bank
reserves have a multiplier effect on the money supply. Example: You deposited $1,000 in a local bank
Summary:
Part III: Crypto currency ppt
1(FYI) What is Bitcoin? (video)
What is bitcoin? By Khan Academy (video) (optional) Bitcoin futures (BTC) https://www.cmegroup.com/trading/bitcoin-futures.html ·
Bitcoin futures (BTC) are
live at CME. ·
Now you can hedge Bitcoin
exposure or harness its performance with a futures product developed by the
leading and largest derivatives marketplace: CME Group, where the world comes
to manage risk. How bitcoin futures
trading works (video)
Bitcoin basics : how
Bitcoin futures work (video) (optional)
Homework of
chapter 2 (due on 9/26) 1. Write down the definition of
M0, M1, M2 and M3. 2. From Fed St. Louis website,
find the charts of M1 money stock and M2 money stock. http://research.stlouisfed.org/fred2/categories/24 Compare the two charts and discuss the differences
between the two charts. 3. Imagine that you
deposited $5,000 in Bank A. Imagine that the fractional banking system is
fully functioning. After five cycles, what is the amount that has been
deposited and what is the total amount that has been lent out? 4. What is
bitcoin? In your view, could bitcoin become a major global currency? Could
governments ban or destroy bitcoin? 5. What are bitcoin futures? How can you use BTC to
improve your portfolio’s performance? |
Beyond
Bitcoin bubble – New York Times (FYI) https://www.nytimes.com/2018/01/16/magazine/beyond-the-bitcoin-bubble.html The sequence of words is meaningless: a random array strung
together by an algorithm let loose in an English dictionary. What makes them
valuable is that they’ve been generated exclusively for me, by a software
tool called MetaMask. In the lingo
of cryptography, they’re known as my seed phrase. They might read like an
incoherent stream of consciousness, but these words can be transformed into a
key that unlocks a digital bank account, or even an online identity. It just
takes a few more steps. On the screen, I’m
instructed to keep my seed phrase secure: Write it down, or keep it in a
secure place on your computer. I scribble the 12 words onto a notepad, click
a button and my seed phrase is transformed into a string of 64 seemingly
patternless characters: 1b0be2162cedb2744d016943bb14e71de6af95a63af3790d6b41b1e719dc5c66 This is what’s called a “private key” in the world of cryptography:
a way of proving identity, in the same, limited way that real-world keys
attest to your identity when you unlock your front door. My seed phrase will
generate that exact sequence of characters every time, but there’s no known
way to reverse-engineer the original phrase from the key, which is why it is
so important to keep the seed phrase in a safe location. That private key number is then run through two additional
transformations, creating a new string: 0x6c2ecd6388c550e8d99ada34a1cd55bedd052ad9 That string is my address on the Ethereum blockchain. Ethereum belongs to the same
family as the cryptocurrency Bitcoin, whose value has increased more than
1,000 percent in just the past year. Ethereum has its own currencies, most
notably Ether, but the platform has a wider scope than just money. You can
think of my Ethereum address as having elements of a bank account, an email
address and a Social Security number. For now, it exists only on my computer
as an inert string of nonsense, but the second I try to perform any kind of
transaction — say, contributing to a crowdfunding campaign or voting in an
online referendum — that address is broadcast out to an improvised worldwide
network of computers that tries to verify the transaction. The results of that
verification are then broadcast to the wider network again, where more
machines enter into a kind of competition to perform complex mathematical
calculations, the winner of which gets to record that transaction in the
single, canonical record of every transaction ever made in the history of
Ethereum. Because those transactions
are registered in a sequence of “blocks” of data, that record is called the
blockchain. The whole exchange takes no
more than a few minutes to complete. From my perspective, the experience
barely differs from the usual routines of online life. But on a technical
level, something miraculous is happening — something that would have been
unimaginable just a decade ago. I’ve
managed to complete a secure transaction without any of the traditional
institutions that we rely on to establish trust. No intermediary brokered
the deal; no social-media network captured the data from my transaction to
better target its advertising; no credit bureau tracked the activity to build
a portrait of my financial trustworthiness. And the platform that makes all this possible? No one owns it. There are no
venture investors backing Ethereum Inc., because there is no Ethereum Inc. As
an organizational form, Ethereum is far closer to a democracy than a private corporation.
No imperial chief executive calls the shots. You earn the privilege of
helping to steer Ethereum’s ship of state by joining the community and doing
the work. Like Bitcoin and most other blockchain platforms, Ethereum is more
a swarm than a formal entity. Its borders are porous; its hierarchy is
deliberately flattened. Oh, one other thing: Some
members of that swarm have already accumulated a paper net worth in the
billions from their labors, as the value of one “coin” of Ether rose from $8
on Jan. 1, 2017, to $843 exactly one year later. You may be inclined to
dismiss these transformations. After all, Bitcoin and Ether’s runaway
valuation looks like a case study in irrational exuberance. And why should
you care about an arcane technical breakthrough that right now doesn’t feel
all that different from signing in to a website to make a credit card
payment? ‘The Bitcoin bubble may
ultimately turn out to be a distraction from the true significance of the
blockchain.’ But that dismissal would be
shortsighted. If there’s one thing we’ve learned from the recent history of
the internet, it’s that seemingly esoteric decisions about software
architecture can unleash profound global forces once the technology moves
into wider circulation. If the email standards adopted in the 1970s had
included public-private key cryptography as a default setting, we might have
avoided the cataclysmic email hacks that have afflicted everyone from Sony to
John Podesta, and millions of ordinary consumers might be spared routinized
identity theft. If Tim Berners-Lee, the inventor of the World Wide Web, had
included a protocol for mapping our social identity in his original specs, we
might not have Facebook. The true believers behind
blockchain platforms like Ethereum argue that a network of distributed trust
is one of those advances in software architecture that will prove, in the
long run, to have historic significance. That promise has helped fuel the
huge jump in cryptocurrency valuations. But in a way, the Bitcoin bubble may
ultimately turn out to be a distraction from the true significance of the
blockchain. The real promise of these
new technologies, many of their evangelists believe, lies not in displacing
our currencies but in replacing much of what we now think of as the internet,
while at the same time returning the online world to a more decentralized and
egalitarian system. If you believe the evangelists, the blockchain is the
future. But it is also a way of getting back to the internet’s roots. Once the inspiration for utopian
dreams of infinite libraries and global connectivity, the internet has
seemingly become, over the past year, a universal scapegoat: the cause of
almost every social ill that confronts us. Russian trolls destroy the
democratic system with fake news on Facebook; hate speech flourishes on
Twitter and Reddit; the vast fortunes of the geek elite worsen income
equality. For many of us who participated in the early days of the web, the
last few years have felt almost postlapsarian. The web had promised a new
kind of egalitarian media, populated by small magazines, bloggers and
self-organizing encyclopedias; the information titans that dominated mass
culture in the 20th century would give way to a more decentralized system,
defined by collaborative networks, not hierarchies and broadcast channels.
The wider culture would come to mirror the peer-to-peer architecture of the
internet itself. The web in those days was hardly a utopia — there were
financial bubbles and spammers and a thousand other problems — but beneath
those flaws, we assumed, there was an underlying story of progress. Last year marked the point
at which that narrative finally collapsed. The existence of internet skeptics
is nothing new, of course; the difference now is that the critical voices increasingly
belong to former enthusiasts. “We have to fix the internet,” Walter Isaacson,
Steve Jobs’s biographer, wrote in an essay published a few weeks after Donald
Trump was elected president. “After 40 years, it has begun to corrode, both
itself and us.” The former Google strategist James Williams told The
Guardian: “The dynamics of the attention economy are structurally set up to
undermine the human will.” In a blog post, Brad Burnham, a managing partner
at Union Square Ventures, a top New York venture-capital firm, bemoaned the
collateral damage from the quasi monopolies of the digital age: “Publishers
find themselves becoming commodity content suppliers in a sea of
undifferentiated content in the Facebook news feed. Websites see their
fortunes upended by small changes in Google’s search algorithms. And
manufacturers watch helplessly as sales dwindle when Amazon decides to source
products directly in China and redirect demand to their own products.” (Full
disclosure: Burnham’s firm invested in a company I started in 2006; we have
had no financial relationship since it sold in 2011.) Even Berners-Lee, the
inventor of the web itself, wrote a blog post voicing his concerns that the
advertising-based model of social media and search engines creates a climate
where “misinformation, or ‘fake news,’ which is surprising, shocking or
designed to appeal to our biases, can spread like wildfire.” For most critics, the
solution to these immense structural issues has been to propose either a new
mindfulness about the dangers of these tools — turning off our smartphones,
keeping kids off social media — or the strong arm of regulation and
antitrust: making the tech giants subject to the same scrutiny as other
industries that are vital to the public interest, like the railroads or
telephone networks of an earlier age. Both those ideas are commendable: We
probably should develop a new set of habits governing how we interact with
social media, and it seems entirely sensible that companies as powerful as
Google and Facebook should face the same regulatory scrutiny as, say,
television networks. But those interventions are unlikely to fix the core
problems that the online world confronts. After all, it was not just the
antitrust division of the Department of Justice that challenged Microsoft’s
monopoly power in the 1990s; it was also the emergence of new software and
hardware — the web, open-source software and Apple products — that helped
undermine Microsoft’s dominant position. The blockchain evangelists behind platforms like Ethereum
believe that a comparable array of advances in software, cryptography and
distributed systems has the ability to tackle today’s digital problems: the
corrosive incentives of online advertising; the quasi monopolies of Facebook,
Google and Amazon; Russian misinformation campaigns. If they succeed, their
creations may challenge the hegemony of the tech giants far more effectively
than any antitrust regulation. They even claim to offer an alternative to the
winner-take-all model of capitalism than has driven wealth inequality to
heights not seen since the age of the robber barons. That remedy is not yet
visible in any product that would be intelligible to an ordinary tech
consumer. The only blockchain project that has crossed over into mainstream
recognition so far is Bitcoin, which is in the middle of a speculative bubble
that makes the 1990s internet I.P.O. frenzy look like a neighborhood garage
sale. And herein lies the cognitive dissonance that confronts anyone trying
to make sense of the blockchain: the potential power of this would-be
revolution is being actively undercut by the crowd it is attracting, a
veritable goon squad of charlatans, false prophets and mercenaries. Not for
the first time, technologists pursuing a vision of an open and decentralized
network have found themselves surrounded by a wave of opportunists looking to
make an overnight fortune. The question is whether, after the bubble has
burst, the very real promise of the blockchain can endure. To some students of modern
technological history, the internet’s fall from grace follows an inevitable
historical script. As Tim Wu argued in his 2010 book, “The Master Switch,”
all the major information technologies of the 20th century adhered to a
similar developmental pattern, starting out as the playthings of hobbyists
and researchers motivated by curiosity and community, and ending up in the
hands of multinational corporations fixated on maximizing shareholder value.
Wu calls this pattern the Cycle, and on the surface at least, the internet
has followed the Cycle with convincing fidelity. The internet began as a
hodgepodge of government-funded academic research projects and side-hustle
hobbies. But 20 years after the web first crested into the popular
imagination, it has produced in Google, Facebook and Amazon — and indirectly,
Apple — what may well be the most powerful and valuable corporations in the
history of capitalism. Blockchain advocates don’t
accept the inevitability of the Cycle. The roots of the internet were in fact
more radically open and decentralized than previous information technologies,
they argue, and had we managed to stay true to those roots, it could have
remained that way. The online world
would not be dominated by a handful of information-age titans; our news
platforms would be less vulnerable to manipulation and fraud; identity theft
would be far less common; advertising dollars would be distributed across a
wider range of media properties. To understand why, it helps
to think of the internet as two fundamentally different kinds of systems
stacked on top of each other, like layers in an archaeological dig. One layer
is composed of the software protocols that were developed in the 1970s and
1980s and hit critical mass, at least in terms of audience, in the 1990s. (A
protocol is the software version of a lingua franca, a way that multiple
computers agree to communicate with one another. There are protocols that
govern the flow of the internet’s raw data, and protocols for sending email
messages, and protocols that define the addresses of web pages.) And then
above them, a second layer of web-based services — Facebook, Google, Amazon,
Twitter — that largely came to power in the following decade. The first layer — call it
InternetOne — was founded on open protocols, which in turn were defined and
maintained by academic researchers and international-standards bodies, owned
by no one. In fact, that original openness continues to be all around us, in
ways we probably don’t appreciate enough. Email is still based on the open
protocols POP, SMTP and IMAP; websites are still served up using the open
protocol HTTP; bits are still circulated via the original open protocols of
the internet, TCP/IP. You don’t need to understand anything about how these
software conventions work on a technical level to enjoy their benefits. The
key characteristic they all share is that anyone can use them, free of
charge. You don’t need to pay a licensing fee to some corporation that owns
HTTP if you want to put up a web page; you don’t have to sell a part of your
identity to advertisers if you want to send an email using SMTP. Along with
Wikipedia, the open protocols of the internet constitute the most impressive
example of commons-based production in human history. To see how enormous but also
invisible the benefits of such protocols have been, imagine that one of those
key standards had not been developed: for instance, the open standard we use
for defining our geographic location, GPS. Originally developed by the United
States military, the Global Positioning System was first made available for
civilian use during the Reagan administration. For about a decade, it was
largely used by the aviation industry, until individual consumers began to
use it in car navigation systems. And now we have smartphones that can pick
up a signal from GPS satellites orbiting above us, and we use that
extraordinary power to do everything from locating nearby restaurants to
playing Pokémon Go to coordinating disaster-relief efforts. But what if the military had
kept GPS out of the public domain? Presumably, sometime in the 1990s, a
market signal would have gone out to the innovators of Silicon Valley and
other tech hubs, suggesting that consumers were interested in establishing
their exact geographic coordinates so that those locations could be projected
onto digital maps. There would have been a few years of furious competition
among rival companies, who would toss their own proprietary satellites into
orbit and advance their own unique protocols, but eventually the market would
have settled on one dominant model, given all the efficiencies that result
from a single, common way of verifying location. Call that imaginary firm
GeoBook. Initially, the embrace of GeoBook would have been a leap forward for
consumers and other companies trying to build location awareness into their
hardware and software. But slowly, a darker narrative would have emerged: a
single private corporation, tracking the movements of billions of people
around the planet, building an advertising behemoth based on our shifting
locations. Any start-up trying to build a geo-aware application would have
been vulnerable to the whims of mighty GeoBook. Appropriately angry polemics
would have been written denouncing the public menace of this Big Brother in
the sky. But none of that happened,
for a simple reason. Geolocation, like the location of web pages and email
addresses and domain names, is a problem we solved with an open protocol. And
because it’s a problem we don’t have, we rarely think about how beautifully
GPS does work and how many different applications have been built on its
foundation. The open, decentralized web
turns out to be alive and well on the InternetOne layer. But since we settled
on the World Wide Web in the mid-’90s, we’ve adopted very few new
open-standard protocols. The biggest problems that technologists tackled
after 1995 — many of which revolved around identity, community and payment
mechanisms — were left to the private sector to solve. This is what led, in
the early 2000s, to a powerful new layer of internet services, which we might
call InternetTwo. For all their brilliance,
the inventors of the open protocols that shaped the internet failed to
include some key elements that would later prove critical to the future of
online culture. Perhaps most important, they did not create a secure open
standard that established human identity on the network. Units of information
could be defined — pages, links, messages — but people did not
have their own protocol: no way to define and share your real name, your
location, your interests or (perhaps most crucial) your relationships to
other people online. This turns out to have been
a major oversight, because identity is the sort of problem that benefits from
one universally recognized solution. It’s what Vitalik Buterin, a founder of
Ethereum, describes as “base-layer” infrastructure: things like language,
roads and postal services, platforms where commerce and competition are
actually assisted by having an underlying layer in the public domain.
Offline, we don’t have an open market for physical passports or Social
Security numbers; we have a few reputable authorities — most of them backed
by the power of the state — that we use to confirm to others that we are who
we say we are. But online, the private sector swooped in to fill that vacuum,
and because identity had that characteristic of being a universal problem,
the market was heavily incentivized to settle on one common standard for defining
yourself and the people you know. The self-reinforcing
feedback loops that economists call “increasing returns” or “network effects”
kicked in, and after a period of experimentation in which we dabbled in
social-media start-ups like Myspace and Friendster, the market settled on
what is essentially a proprietary standard for establishing who you are and
whom you know. That standard is Facebook. With more than two billion users,
Facebook is far larger than the entire internet at the peak of the dot-com bubble
in the late 1990s. And that user growth has made it the world’s
sixth-most-valuable corporation, just 14 years after it was founded. Facebook
is the ultimate embodiment of the chasm that divides InternetOne and
InternetTwo economies. No private company owned the protocols that defined
email or GPS or the open web. But one single corporation owns the data that
define social identity for two billion people today — and one single person,
Mark Zuckerberg, holds the majority of the voting power in that corporation. If you see the rise of the
centralized web as an inevitable turn of the Cycle, and the open-protocol
idealism of the early web as a kind of adolescent false consciousness, then
there’s less reason to fret about all the ways we’ve abandoned the vision of
InternetOne. Either we’re living in a fallen state today and there’s no way
to get back to Eden, or Eden itself was a kind of fantasy that was always
going to be corrupted by concentrated power. In either case, there’s no point
in trying to restore the architecture of InternetOne; our only hope is to use
the power of the state to rein in these corporate giants, through regulation
and antitrust action. It’s a variation of the old Audre Lorde maxim: “The
master’s tools will never dismantle the master’s house.” You can’t fix the
problems technology has created for us by throwing more technological
solutions at it. You need forces outside the domain of software and servers
to break up cartels with this much power. But the thing about the
master’s house, in this analogy, is that it’s a duplex. The upper floor has
indeed been built with tools that cannot be used to dismantle it. But the
open protocols beneath them still have the potential to build something
better. One
of the most persuasive advocates of an open-protocol revival is Juan
Benet, a Mexican-born programmer now living on a suburban side street in Palo
Alto, Calif., in a three-bedroom rental that he shares with his girlfriend
and another programmer, plus a rotating cast of guests, some of whom belong
to Benet’s organization, Protocol Labs. On a warm day in September, Benet
greeted me at his door wearing a black Protocol Labs hoodie. The interior of
the space brought to mind the incubator/frat house of HBO’s “Silicon Valley,”
its living room commandeered by an array of black computer monitors. In the
entrance hallway, the words “Welcome to Rivendell” were scrawled out on a
whiteboard, a nod to the Elven city from “Lord of the Rings.” “We call this
house Rivendell,” Benet said sheepishly. “It’s not a very good Rivendell. It
doesn’t have enough books, or waterfalls, or elves.” Benet, who is 29, considers
himself a child of the first peer-to-peer revolution that briefly flourished
in the late 1990s and early 2000s, driven in large part by networks like BitTorrent
that distributed media files, often illegally. That initial flowering was in
many ways a logical outgrowth of the internet’s decentralized, open-protocol
roots. The web had shown that you could publish documents reliably in a
commons-based network. Services like BitTorrent or Skype took that logic to
the next level, allowing ordinary users to add new functionality to the
internet: creating a distributed library of (largely pirated) media, as with
BitTorrent, or helping people make phone calls over the internet, as with
Skype. ‘We’re not trying to replace
the U.S. government. It’s not meant to be a real currency; it’s meant to be a
pseudo-currency inside this world.’ Sitting in the living
room/office at Rivendell, Benet told me that he thinks of the early 2000s,
with the ascent of Skype and BitTorrent, as “the ‘summer’ of peer-to-peer” —
its salad days. “But then peer-to-peer hit a wall, because people started to
prefer centralized architectures,” he said. “And partly because the
peer-to-peer business models were piracy-driven.” A graduate of Stanford’s
computer-science program, Benet talks in a manner reminiscent of Elon Musk:
As he speaks, his eyes dart across an empty space above your head, almost as
though he’s reading an invisible teleprompter to find the words. He is
passionate about the technology Protocol Labs is developing, but also keen to
put it in a wider context. For Benet, the shift from distributed systems to
more centralized approaches set in motion changes that few could have predicted.
“The rules of the game, the rules that govern all of this technology, matter
a lot,” he said. “The structure of what we build now will paint a very
different picture of the way things will be five or 10 years in the future.”
He continued: “It was clear to me then that peer-to-peer was this
extraordinary thing. What was not clear to me then was how at risk it is. It
was not clear to me that you had to take up the baton, that it’s now your
turn to protect it.” Protocol Labs is Benet’s
attempt to take up that baton, and its first project is a radical overhaul of
the internet’s file system, including the basic scheme we use to address the
location of pages on the web. Benet calls his system IPFS, short for
InterPlanetary File System. The current protocol — HTTP — pulls down web
pages from a single location at a time and has no built-in mechanism for
archiving the online pages. IPFS allows users to download a page
simultaneously from multiple locations and includes what programmers call
“historic versioning,” so that past iterations do not vanish from the
historical record. To support the protocol, Benet is also creating a system
called Filecoin that will allow users to effectively rent out unused
hard-drive space. (Think of it as a sort of Airbnb for data.) “Right now
there are tons of hard drives around the planet that are doing nothing, or
close to nothing, to the point where their owners are just losing money,”
Benet said. “So you can bring online a massive amount of supply, which will
bring down the costs of storage.” But as its name suggests, Protocol Labs has
an ambition that extends beyond these projects; Benet’s larger mission is to
support many new open-source protocols in the years to come. Why did the internet follow
the path from open to closed? One part of the explanation lies in sins of
omission: By the time a new generation of coders began to tackle the problems
that InternetOne left unsolved, there were near-limitless sources of capital
to invest in those efforts, so long as the coders kept their systems closed.
The secret to the success of the open protocols of InternetOne is that they
were developed in an age when most people didn’t care about online networks,
so they were able to stealthily reach critical mass without having to contend
with wealthy conglomerates and venture capitalists. By the mid-2000s, though,
a promising new start-up like Facebook could attract millions of dollars in
financing even before it became a household brand. And that private-sector
money ensured that the company’s key software would remain closed, in order
to capture as much value as possible for shareholders. And yet — as the venture
capitalist Chris Dixon points out — there was another factor, too, one that
was more technical than financial in nature. “Let’s say you’re trying to
build an open Twitter,” Dixon explained while sitting in a conference room at
the New York offices of Andreessen Horowitz, where he is a general partner.
“I’m @cdixon at Twitter. Where do you store that? You need a database.” A
closed architecture like Facebook’s or Twitter’s puts all the information
about its users — their handles, their likes and photos, the map of
connections they have to other individuals on the network — into a private
database that is maintained by the company. Whenever you look at your
Facebook newsfeed, you are granted access to some infinitesimally small
section of that database, seeing only the information that is relevant to
you. Running Facebook’s database
is an unimaginably complex operation, relying on hundreds of thousands of
servers scattered around the world, overseen by some of the most brilliant
engineers on the planet. From Facebook’s point of view, they’re providing a
valuable service to humanity: creating a common social graph for almost
everyone on earth. The fact that they have to sell ads to pay the bills for
that service — and the fact that the scale of their network gives them
staggering power over the minds of two billion people around the world — is
an unfortunate, but inevitable, price to pay for a shared social graph. And
that trade-off did in fact make sense in the mid-2000s; creating a single
database capable of tracking the interactions of hundreds of millions of
people — much less two billion — was the kind of problem that could be
tackled only by a single organization. But as Benet and his fellow blockchain
evangelists are eager to prove, that might not be true anymore. So how can you get
meaningful adoption of base-layer protocols in an age when the big tech
companies have already attracted billions of users and collectively sit on
hundreds of billions of dollars in cash? If you happen to believe that the
internet, in its current incarnation, is causing significant and growing harm
to society, then this seemingly esoteric problem — the difficulty of getting
people to adopt new open-source technology standards — turns out to have
momentous consequences. If we can’t figure out a way to introduce new, rival
base-layer infrastructure, then we’re stuck with the internet we have today.
The best we can hope for is government interventions to scale back the power
of Facebook or Google, or some kind of consumer revolt that encourages that
marketplace to shift to less hegemonic online services, the digital
equivalent of forswearing big agriculture for local farmers’ markets. Neither
approach would upend the underlying dynamics of Internet Two. |
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Chapter 3 Financial Instruments, Financial
Markets, and Financial Institutions Part I: Examples and characteristics of financial
instruments Discussion: You have some extra bucks. What will you do with the
money? With extra bucks č Find a proper financial instruments č find a financial institution č trade in the market How does the Money Market
work? (video)
Part II: Order types
|
Company Name |
Proposed Symbol |
Exchange |
Price Range |
Shares |
Week Of |
DDOG |
Nasdaq |
$24.00 - $26.00 |
24,000,000 |
9/16/2019 |
|
XGN |
Nasdaq |
$14.00 - $16.00 |
3,333,334 |
9/16/2019 |
|
PING |
NYSE |
$14.00 - $16.00 |
12,500,000 |
9/16/2019 |
Next Week
• 3 Total
Company Name |
Proposed Symbol |
Exchange |
Price Range |
Shares |
Week Of |
EDR |
NYSE |
$30.00 - $32.00 |
19,354,839 |
9/23/2019 |
|
OPRT |
Nasdaq |
$15.00 - $17.00 |
6,250,000 |
9/23/2019 |
|
PTON |
Nasdaq |
$26.00 - $29.00 |
40,000,000 |
9/23/2019 |
In Class Exercise part II
Multiple Choices
1. The
market for equities is predominantly a:
a. primary market.
b. market dominated by individual investors.
c. secondary market.
d. market dominated by foreign investors.
2. Primary
markets:
a. involve the organized trading of outstanding
securities on exchanges.
b. involve the organized trading of outstanding
securities in the over-the-counter market.
c. involve the organized trading of outstanding
securities on exchanges and over-the-counter markets.
d. are where new issues (IPOs) are sold by
corporations to raise new capital.
By
The
Securities and Exchange Commission is looking to clear a path for small
investors to access the burgeoning market for private company stocks. The
effort could involve new rulemaking that would allow for the creation of a
hedge fund-like instrument that invests in pre-IPO shares structured for the
average retail investor, the Fox Business Network has learned.
The SEC
initiative is still in the discussion stages and its timing of any implementation
is unclear. But the talks follow recent remarks made by SEC Chairman Jay
Clayton, who said small investors should have access to buying pre-IPO shares
– a market that is open only to large institutional investors and accredited
individual investors who either have a net worth of $1 million or make
$200,000 annually.
The
market for buying and selling pre-IPO shares is indeed booming, which is why
Clayton and SEC commissioners have taken up the matter. They are trying to
determine if a vehicle could be created to open such securities to small
investors. Last year, companies in the private market raised roughly $3
trillion while public companies raised $1.8 trillion.
Market
participants point out the gains are often greater in the trading of pre-IPOs
shares than some recent prominent initial public offerings, such as
ride-share provider Uber, which has floundered in its public debut after
racking up huge gains when Uber private shares traded in the pre-IPO market.
"The
SEC is seriously considering approving a new investment vehicle for private
shares," John Coffee, a Columbia law school professor who specializes in
financial issues, said.
“The
mechanics are unclear but the SEC can either ask Congress for legislation or
adopt a rule that exempts its new vehicle from the Investment Company Act of
1940,” Coffee added.
An SEC
spokesman declined comment.
The SEC’s
talks center on passing a rule that would create a new investment vehicle
that mirrors a hedge fund. But unlike hedge funds, it would be open to
non-accredited investors, according to people with knowledge of the
discussions. Small investors would gain access to the private market by going
through this fund-like vehicle, which would be comprised of a diversified
portfolio of pre-IPO companies in order to reduce investment risk.
But not
all market participants believe the effort is a good idea. The SEC would
demand additional disclosures from the companies themselves, thus making the
companies less likely to issue private shares, much less public shares. The
reason many companies are opting to remain in the private market for years is
the less stringent disclosure requirement mandated by the SEC because
investors are considered more sophisticated than so-called mom-and-pop retail
purchasers of stock.
“Part of
why private companies can enjoy accelerated growth is that they are free from
the regulatory burden public companies face. In addition, they are more
efficient because their management teams are not beholden to quarterly
earnings and compensated based on a public share price,” said Omeed Malik,
the founder and CEO of Farvahar Partners, a broker-dealer specializing in the
private stock market.
“Allowing
Main Street to invest in privately traded companies sounds nice but the road
to hell is paved with good intentions,” Malik said in an interview on FBN’s
Cavuto Coast to Coast. “Allowing retailer investors to participate in private
placement is a noble sentiment … but there are significant ramifications,” he
said in a subsequent interview.
Because the
private markets have fewer regulations than public markets, some analysts
fear retail investors could be putting themselves at greater risk without
fully understanding the volatility of pre-IPO companies. While there may be
opportunities in private markets, investors are not insulated from losses
just because they get in on a company’s stock earlier.
Clayton
has made serving the needs of small investors a centerpiece of his agenda as
SEC chairman, and people close to the commission say he’s intent on opening
the private market to small investors as part of that effort.
In a
Sept. 9 speech at the Economic Club of New York meeting, Clayton said,
“Twenty-five years ago, the public markets dominated the private markets in
virtually every measure. Today, in many
measures, the private markets outpace the public markets, including in
aggregate size.”
For discussion:
1. Do you support this idea that the
pre-IPO shares should be available to all investors. Is that possible?
Homework ( DUE with first midterm
exam)
Check three stocks listed above in
the IPO table.
Follow these stocks and report their
performances one month after the IPO.
Summarize your findings.
(……continuing from the above)
The first hint of a meaningful
challenge to the closed-protocol era arrived in 2008, not long after
Zuckerberg opened the first international headquarters for his growing
company. A mysterious programmer (or group of programmers) going by the name
Satoshi Nakamoto circulated a paper on a cryptography mailing list. The paper
was called “Bitcoin: A Peer-to-Peer Electronic Cash System,” and in it,
Nakamoto outlined an ingenious system for a digital currency that did not
require a centralized trusted authority to verify transactions. At the time,
Facebook and Bitcoin seemed to belong to entirely different spheres — one was
a booming venture-backed social-media start-up that let you share birthday
greetings and connect with old friends, while the other was a byzantine
scheme for cryptographic currency from an obscure email list. But 10 years
later, the ideas that Nakamoto unleashed with that paper now pose the most
significant challenge to the hegemony of InternetTwo giants like Facebook.
The paradox about Bitcoin is that it may well turn out to be a
genuinely revolutionary breakthrough and at the same time a colossal failure
as a currency. As I write, Bitcoin has increased in value by nearly 100,000
percent over the past five years, making a fortune for its early investors
but also branding it as a spectacularly unstable payment mechanism. The
process for creating new Bitcoins has also turned out to be a staggering
energy drain.
History is replete with
stories of new technologies whose initial applications end up having little
to do with their eventual use. All the focus on Bitcoin as a payment system
may similarly prove to be a distraction, a technological red herring. Nakamoto pitched Bitcoin as a
“peer-to-peer electronic-cash system” in the initial manifesto, but at its
heart, the innovation he (or she or they) was proposing had a more general
structure, with two key features.
First, Bitcoin offered a kind of proof that you could create a
secure database — the blockchain — scattered across hundreds or thousands of
computers, with no single authority controlling and verifying the
authenticity of the data.
Second, Nakamoto designed Bitcoin so that the work of
maintaining that distributed ledger was itself rewarded with small,
increasingly scarce Bitcoin payments. If you dedicated half your
computer’s processing cycles to helping the Bitcoin network get its math
right — and thus fend off the hackers and scam artists — you received a small
sliver of the currency. Nakamoto designed the system so that Bitcoins would
grow increasingly difficult to earn over time, ensuring a certain amount of
scarcity in the system. If you helped Bitcoin keep that database secure in
the early days, you would earn more Bitcoin than later arrivals. This process
has come to be called “mining.”
For our purposes, forget
everything else about the Bitcoin frenzy, and just keep these two things in
mind: What Nakamoto ushered into the
world was a way of agreeing on the contents of a database without anyone
being “in charge” of the database, and a way of compensating people for
helping make that database more valuable, without those people being on an
official payroll or owning shares in a corporate entity. Together, those two
ideas solved the distributed-database problem and the funding problem.
Suddenly there was a way of supporting open protocols that wasn’t available
during the infancy of Facebook and Twitter.
These two features have now
been replicated in dozens of new systems inspired by Bitcoin. One of those
systems is Ethereum, proposed in a white paper by Vitalik Buterin when he was
just 19. Ethereum does have its
currencies, but at its heart Ethereum was designed less to facilitate
electronic payments than to allow people to run applications on top of the
Ethereum blockchain. There are currently hundreds of Ethereum apps in
development, ranging from prediction markets to Facebook clones to
crowdfunding services. Almost all of them are in pre-alpha stage, not ready
for consumer adoption. Despite the embryonic state of the applications, the
Ether currency has seen its own miniature version of the Bitcoin bubble, most
likely making Buterin an immense fortune.
These currencies can be used
in clever ways. Juan Benet’s Filecoin
system will rely on Ethereum technology and reward users and developers who
adopt its IPFS protocol or help maintain the shared database it requires.
Protocol Labs is creating its own
cryptocurrency, also called Filecoin, and has plans to sell some of those
coins on the open market in the coming months. (In the summer of 2017,
the company raised $135 million in the first 60 minutes of what Benet calls a
“presale” of the tokens to accredited investors.) Many cryptocurrencies are first made available to the public through
a process known as an initial coin offering, or I.C.O.
The I.C.O. abbreviation is a
deliberate echo of the initial public offering that so defined the first
internet bubble in the 1990s. But there is a crucial difference between the
two. Speculators can buy in during an
I.C.O., but they are not buying an ownership stake in a private company and
its proprietary software, the way they might in a traditional I.P.O.
Afterward, the coins will continue to be created in exchange for labor — in
the case of Filecoin, by anyone who helps maintain the Filecoin network.
Developers who help refine the software can earn the coins, as can ordinary
users who lend out spare hard-drive space to expand the network’s storage
capacity. The Filecoin is a way of signaling that someone, somewhere, has
added value to the network.
Advocates like Chris Dixon have started referring to the
compensation side of the equation in terms of “tokens,” not coins, to
emphasize that the technology here isn’t necessarily aiming to disrupt
existing currency systems. “I like the metaphor of a token because it
makes it very clear that it’s like an arcade,” he says. “You go to the
arcade, and in the arcade you can use these tokens. But we’re not trying to
replace the U.S. government. It’s not meant to be a real currency; it’s meant
to be a pseudo-currency inside this world.” Dan Finlay, a creator of
MetaMask, echoes Dixon’s argument. “To me, what’s interesting about this is
that we get to program new value systems,” he says. “They don’t have to
resemble money.”
Pseudo or not, the idea of
an I.C.O. has already inspired a host of shady offerings, some of them
endorsed by celebrities who would seem to be unlikely blockchain enthusiasts,
like DJ Khaled, Paris Hilton and Floyd Mayweather. In a blog post published
in October 2017, Fred Wilson, a founder of Union Square Ventures and an early
advocate of the blockchain revolution, thundered against the spread of
I.C.O.s. “I hate it,” Wilson wrote, adding that most I.C.O.s “are scams. And
the celebrities and others who promote them on their social-media channels in
an effort to enrich themselves are behaving badly and possibly violating
securities laws.” Arguably the most striking thing about the surge of
interest in I.C.O.s — and in existing currencies like Bitcoin or Ether — is
how much financial speculation has already gravitated to platforms that have
effectively zero adoption among ordinary consumers. At least during the
internet bubble of late 1990s, ordinary people were buying books on Amazon or
reading newspapers online; there was clear evidence that the web was going to
become a mainstream platform. Today, the hype cycles are so accelerated that
billions of dollars are chasing a technology that almost no one outside the
cryptocommunity understands, much less uses.
Let’s say, for the
sake of argument, that the hype is warranted, and blockchain platforms like
Ethereum become a fundamental part of our digital infrastructure. How would a
distributed ledger and a token economy somehow challenge one of the tech
giants? One of Fred Wilson’s partners at Union Square Ventures, Brad Burnham,
suggests a scenario revolving around another tech giant that has run afoul of
regulators and public opinion in the last year: Uber. “Uber is basically just
a coordination platform between drivers and passengers,” Burnham says. “Yes,
it was really innovative, and there were a bunch of things in the beginning
about reducing the anxiety of whether the driver was coming or not, and the
map — and a whole bunch of things that you should give them a lot of credit
for.” But when a new service like Uber starts to take off, there’s a strong
incentive for the marketplace to consolidate around a single leader. The fact
that more passengers are starting to use the Uber app attracts more drivers
to the service, which in turn attracts more passengers. People have their
credit cards stored with Uber; they have the app installed already; there are
far more Uber drivers on the road. And so the switching costs of trying out
some other rival service eventually become prohibitive, even if the chief
executive seems to be a jerk or if consumers would, in the abstract, prefer a
competitive marketplace with a dozen Ubers. “At some point, the innovation
around the coordination becomes less and less innovative,” Burnham says.
The blockchain world
proposes something different. Imagine some group like Protocol Labs decides
there’s a case to be made for adding another “basic layer” to the stack. Just
as GPS gave us a way of discovering and sharing our location, this new
protocol would define a simple request: I am here and would like to go there.
A distributed ledger might record all its users’ past trips, credit cards,
favorite locations — all the metadata that services like Uber or Amazon use
to encourage lock-in. Call it, for the sake of argument, the Transit
protocol. The standards for sending a Transit request out onto the internet
would be entirely open; anyone who wanted to build an app to respond to that
request would be free to do so. Cities could build Transit apps that allowed
taxi drivers to field requests. But so could bike-share collectives, or
rickshaw drivers. Developers could create shared marketplace apps where all
the potential vehicles using Transit could vie for your business. When you
walked out on the sidewalk and tried to get a ride, you wouldn’t have to
place your allegiance with a single provider before hailing. You would simply
announce that you were standing at 67th and Madison and needed to get to
Union Square. And then you’d get a flurry of competing offers. You could even
theoretically get an offer from the M.T.A., which could build a service to
remind Transit users that it might be much cheaper and faster just to jump on
the 6 train.
How would Transit reach
critical mass when Uber and Lyft already dominate the ride-sharing market?
This is where the tokens come in. Early adopters of Transit would be rewarded
with Transit tokens, which could themselves be used to purchase Transit
services or be traded on exchanges for traditional currency. As in the
Bitcoin model, tokens would be doled out less generously as Transit grew more
popular. In the early days, a developer who built an iPhone app that uses
Transit might see a windfall of tokens; Uber drivers who started using
Transit as a second option for finding passengers could collect tokens as a
reward for embracing the system; adventurous consumers would be rewarded with
tokens for using Transit in its early days, when there are fewer drivers
available compared with the existing proprietary networks like Uber or Lyft.
As Transit began to take
off, it would attract speculators, who would put a monetary price on the
token and drive even more interest in the protocol by inflating its value,
which in turn would attract more developers, drivers and customers. If the
whole system ends up working as its advocates believe, the result is a more
competitive but at the same time more equitable marketplace. Instead of all
the economic value being captured by the shareholders of one or two large
corporations that dominate the market, the economic value is distributed
across a much wider group: the early developers of Transit, the app creators
who make the protocol work in a consumer-friendly form, the early-adopter
drivers and passengers, the first wave of speculators. Token economies
introduce a strange new set of elements that do not fit the traditional
models: instead of creating value by owning something, as in the shareholder
equity model, people create value by improving the underlying protocol,
either by helping to maintain the ledger (as in Bitcoin mining), or by
writing apps atop it, or simply by using the service. The lines between
founders, investors and customers are far blurrier than in traditional
corporate models; all the incentives are explicitly designed to steer away
from winner-take-all outcomes. And yet at the same time, the whole system
depends on an initial speculative phase in which outsiders are betting on the
token to rise in value.
“You think about the ’90s
internet bubble and all the great infrastructure we got out of that,” Dixon
says. “You’re basically taking that effect and shrinking it down to the size
of an application.”
‘Bitcoin is now a nine-year-old multibillion-dollar bug bounty, and no
one’s hacked it. It feels like pretty good proof.’
Even decentralized cryptomovements have their key nodes. For Ethereum, one of those nodes
is the Brooklyn headquarters of an organization called ConsenSys, founded by
Joseph Lubin, an early Ethereum pioneer. In November, Amanda Gutterman, the
26-year-old chief marketing officer for ConsenSys, gave me a tour of the
space. In our first few minutes together, she offered the obligatory cup of
coffee, only to discover that the drip-coffee machine in the kitchen was bone
dry. “How can we fix the internet if we can’t even make coffee?” she said
with a laugh.
Planted in industrial
Bushwick, a stone’s throw from the pizza mecca Roberta’s, “headquarters”
seemed an unlikely word. The front door was festooned with graffiti and
stickers; inside, the stairwells of the space appeared to have been last
renovated during the Coolidge administration. Just about three years old, the
ConsenSys network now includes more than 550 employees in 28 countries, and
the operation has never raised a d0ime of venture capital. As an
organization, ConsenSys does not quite fit any of the usual categories: It is
technically a corporation, but it has elements that also resemble nonprofits
and workers’ collectives. The shared goal of ConsenSys members is
strengthening and expanding the Ethereum blockchain. They support developers
creating new apps and tools for the platform, one of which is MetaMask, the
software that generated my Ethereum address. But they also offer
consulting-style services for companies, nonprofits or governments looking
for ways to integrate Ethereum’s smart contracts into their own systems.
The true test of the blockchain will revolve — like so many of
the online crises of the past few years — around the problem of identity. Today your
digital identity is scattered across dozens, or even hundreds, of different
sites: Amazon has your credit-card information and your purchase history;
Facebook knows your friends and family; Equifax maintains your credit
history. When you use any of those services, you are effectively asking for
permission to borrow some of that information about yourself in order perform
a task: ordering a Christmas present for your uncle, checking Instagram to
see pictures from the office party last night. But all these different
fragments of your identity don’t belong to you; they belong to Facebook and
Amazon and Google, who are free to sell bits of that information about you to
advertisers without consulting you. You, of course, are free to delete those
accounts if you choose, and if you stop checking Facebook, Zuckerberg and the
Facebook shareholders will stop making money by renting out your attention to
their true customers. But your Facebook or Google identity isn’t portable. If
you want to join another promising social network that is maybe a little less
infected with Russian bots, you can’t extract your social network from
Twitter and deposit it in the new service. You have to build the network
again from scratch (and persuade all your friends to do the same).
The blockchain evangelists
think this entire approach is backward. You
should own your digital identity — which could include everything from your
date of birth to your friend networks to your purchasing history — and you
should be free to lend parts of that identity out to services as you see fit.
Given that identity was not baked into the original internet protocols, and
given the difficulty of managing a distributed database in the days before
Bitcoin, this form of “self-sovereign” identity — as the parlance has it —
was a practical impossibility. Now it is an attainable goal. A number of
blockchain-based services are trying to tackle this problem, including a new
identity system called uPort that has been spun out of ConsenSys and another
one called Blockstack that is currently based on the Bitcoin platform.
(Tim Berners-Lee is leading the development of a comparable system, called
Solid, that would also give users control over their own data.) These rival
protocols all have slightly different frameworks, but they all share a
general vision of how identity should work on a truly decentralized internet.
What would prevent a new
blockchain-based identity standard from following Tim Wu’s Cycle, the same
one that brought Facebook to such a dominant position? Perhaps nothing. But
imagine how that sequence would play out in practice. Someone creates a new
protocol to define your social network via Ethereum. It might be as simple as
a list of other Ethereum addresses; in other words, Here are the
public addresses of people I like and trust. That way of defining
your social network might well take off and ultimately supplant the closed
systems that define your network on Facebook. Perhaps someday, every single
person on the planet might use that standard to map their social connections,
just as every single person on the internet uses TCP/IP to share data. But
even if this new form of identity became ubiquitous, it wouldn’t present the
same opportunities for abuse and manipulation that you find in the closed
systems that have become de facto standards. I might allow a Facebook-style
service to use my social map to filter news or gossip or music for me, based
on the activity of my friends, but if that service annoyed me, I’d be free to
sample other alternatives without the switching costs. An open identity
standard would give ordinary people the opportunity to sell their attention
to the highest bidder, or choose to keep it out of the marketplace
altogether.
Gutterman suggests that the
same kind of system could be applied to even more critical forms of identity,
like health care data. Instead of storing, say, your genome on servers
belonging to a private corporation, the information would instead be stored
inside a personal data archive. “There may be many corporate entities that I
don’t want seeing that data, but maybe I’d like to donate that data to a
medical study,” she says. “I could use my blockchain-based self-sovereign ID
to [allow] one group to use it and not another. Or I could sell it over here
and give it away over there.”
The token architecture would
give a blockchain-based identity standard an additional edge over closed
standards like Facebook’s. As many critics have observed, ordinary users on
social-media platforms create almost all the content without compensation,
while the companies capture all the economic value from that content through
advertising sales. A token-based social network would at least give early
adopters a piece of the action, rewarding them for their labors in making the
new platform appealing. “If someone can really figure out a version of
Facebook that lets users own a piece of the network and get paid,” Dixon
says, “that could be pretty compelling.”
Would that information be
more secure in a distributed blockchain than behind the elaborate firewalls
of giant corporations like Google or Facebook? In this one respect, the
Bitcoin story is actually instructive: It may never be stable enough to
function as a currency, but it does offer convincing proof of just how secure
a distributed ledger can be. “Look at the market cap of Bitcoin or Ethereum:
$80 billion, $25 billion, whatever,” Dixon says. “That means if you
successfully attack that system, you could walk away with more than a billion
dollars. You know what a ‘bug bounty’ is? Someone says, ‘If you hack my
system, I’ll give you a million dollars.’ So Bitcoin is now a nine-year-old
multibillion-dollar bug bounty, and no one’s hacked it. It feels like pretty
good proof.”
Additional security would come from the decentralized nature
of these new identity protocols. In the identity system proposed by Blockstack,
the actual information about your identity — your social connections, your
purchasing history — could be stored anywhere online. The blockchain would
simply provide cryptographically secure keys to unlock that information and
share it with other trusted providers. A system with a centralized
repository with data for hundreds of millions of users — what security
experts call “honey pots” — is far more appealing to hackers. Which would you
rather do: steal a hundred million credit histories by hacking into a hundred
million separate personal computers and sniffing around until you found
the right data on each machine? Or just hack into one honey pot at Equifax
and walk away with the same amount of data in a matter of hours? As Gutterman
puts it, “It’s the difference between robbing a house versus robbing the
entire village.”
So much of the
blockchain’s architecture is shaped by predictions about how that
architecture might be abused once it finds a wider audience. That is part of
its charm and its power. The blockchain channels the energy of speculative
bubbles by allowing tokens to be shared widely among true supporters of the
platform. It safeguards against any individual or small group gaining control
of the entire database. Its cryptography is designed to protect against
surveillance states or identity thieves. In this, the blockchain displays a
familial resemblance to political constitutions: Its rules are designed with
one eye on how those rules might be exploited down the line.
Much has been made of the
anarcho-libertarian streak in Bitcoin and other nonfiat currencies; the
community is rife with words and phrases (“self-sovereign”) that sound as if
they could be slogans for some militia compound in Montana. And yet in its
potential to break up large concentrations of power and explore
less-proprietary models of ownership, the blockchain idea offers a
tantalizing possibility for those who would like to distribute wealth more
equitably and break up the cartels of the digital age.
The blockchain worldview can
also sound libertarian in the sense that it proposes nonstate solutions to
capitalist excesses like information monopolies. But to believe in the blockchain is not necessarily to oppose
regulation, if that regulation is designed with complementary aims. Brad
Burnham, for instance, suggests that regulators should insist that everyone
have “a right to a private data store,” where all the various facets of their
online identity would be maintained. But governments wouldn’t be required to
design those identity protocols. They would be developed on the blockchain,
open source. Ideologically speaking, that private data store would be a true
team effort: built as an intellectual commons, funded by token speculators,
supported by the regulatory state.
Like the original internet
itself, the blockchain is an idea with radical — almost communitarian —
possibilities that at the same time has attracted some of the most frivolous
and regressive appetites of capitalism. We spent our first years online in a
world defined by open protocols and intellectual commons; we spent the second
phase in a world increasingly dominated by closed architectures and
proprietary databases. We have learned enough from this history to support
the hypothesis that open works better than closed, at least where base-layer
issues are concerned. But we don’t have an easy route back to the
open-protocol era. Some messianic next-generation internet protocol is not
likely to emerge out of Department of Defense research, the way the
first-generation internet did nearly 50 years ago.
Yes, the blockchain may seem like the very worst of
speculative capitalism right now, and yes, it is demonically challenging to
understand. But the beautiful thing about open protocols is that they can be
steered in surprising new directions by the people who discover and champion
them in their infancy. Right now, the only real hope for a revival of
the open-protocol ethos lies in the blockchain. Whether it eventually lives
up to its egalitarian promise will in large part depend on the people who
embrace the platform, who take up the baton, as Juan Benet puts it, from
those early online pioneers. If you think the internet is not working in its
current incarnation, you can’t change the system through think-pieces and
F.C.C. regulations alone. You need new code.
Chapter 4: Future value, Present Value, and
Interest Rate
Example1: A 5 year, 5% coupon bond, currently provides
an annual return of 3%. Calculate the price of the bond.
Example 2: Your cousin is entering medical school
next fall and asks you for financial help. He needs $65,000 each year for the
first two years. After that, he is in residency for two years and will be
able to pay you back $10,000 each year. Then he graduates and becomes a fully
qualified doctor, and will be able to pay you $40,000 each year. He promises
to pay you $40,000 for 5 years after he graduates. Are you taking a financial
loss or gain by helping him out? Assume that the interest rate is 5% and that
there is no risk.
Example 3: You are awarded $500,000 in a lawsuit,
payable immediately. The defendant makes a counteroffer of $50,000 per year
for the first three years, starting at the end of the first year, followed by
$60,000 per year for the next 10 years. Should you accept the offer if the
discount rate is 12%? How about if the discount rate is 8%?
Example 4: John is 30 years old at the beginning of
the new millennium and is thinking about getting an MBA. John is currently
making $40,000 per year and expects the same for the remainder of his working
years (until age 65). I f he goes to a business school, he gives up his
income for two years and, in addition, pays $20,000 per year for tuition. In
return, John expects an increase in his salary after his MBA is completed.
Suppose that the post-graduation salary increases at a 5% per year and that
the discount rate is 8%. What is miminum expected starting salary
after graduation that makes going to a business school a positive-NPV
investment for John? For simplicity, assume that all cash flows occur at the
end of each year
Homework
(just write down the PV equations – Due with the first mid term exam):
1. The Thailand Co. is considering the purchase of
some new equipment. The quote consists of a quarterly payment of $4,740 for
10 years at 6.5 percent interest. What is the purchase price of the
equipment? ($138,617.88)
2. The condominium at the beach that you want to
buy costs $249,500. You plan to make a cash down payment of 20 percent and
finance the balance over 10 years at 6.75 percent. What will be the amount of
your monthly mortgage payment? ($2,291.89)
3. Today, you are purchasing a 15-year, 8 percent
annuity at a cost of $70,000. The annuity will pay annual payments. What is
the amount of each payment? ($8,178.07)
4. Shannon wants to have $10,000 in an investment
account three years from now. The account will pay 0.4 percent interest per
month. If Shannon saves money every month, starting one month from now, how
much will she have to save each month? ($258.81)
5. Trevor's Tires is offering a set of 4 premium
tires on sale for $450. The credit terms are 24 months at $20 per month. What
is the interest rate on this offer? (6.27 percent)
6. Top Quality Investments will pay you $2,000 a
year for 25 years in exchange for $19,000 today. What interest rate are you
earning on this annuity? (9.42 percent)
7. You have just won the lottery! You can receive
$10,000 a year for 8 years or $57,000 as a lump sum payment today. What is
the interest rate on the annuity? (8.22 percent)
Summary of math and excel equations
Math
Equations
FV = PV *(1+r)^n
PV = FV / ((1+r)^n)
N = ln(FV/PV) / ln(1+r)
Rate = (FV/PV)1/n -1
Annuity: N
= ln(FV/C*r+1)/(ln(1+r))
Or N = ln(1/(1-(PV/C)*r)))/
(ln(1+r))
EAR = (1+APR/m)^m-1
APR = (1+EAR)^(1/m)*m
NPV NFV calculator:
First mid-term study
guide (10/3 First Mid
Term, Close book close notes)
1. What are the six parts of the financial
markets
2. What are the five core principals of finance
3. Do you think that student loans will become a trigger for the next financial crisis? Please provide your explanation.
4. What is high frequency trading? pros and cons? What can SEC do to make high frequency trading less a threat to the financial market stability?
5. What is flash crash? Why do investors so worried about the occurrence of flash crash? How can high frequency trading trigger flash crash?
6. Why does flash crash occur more frequently in FX market than in the stock market?
7.
What is M0? M1? M2?
M3?
8.
What could happen if
we increase money supply?
9. Why are M1 much greater than M0 and M2 much greater than
M1?
10. “In a fractional
reserve banking system, banks create money when they make loans. Bank
reserves have a multiplier effect on the money supply.” Are the above
sentences right or wrong? Please explain.
11. Imagine that
you deposited $10,000 in Bank A. Imagine that the fractional banking system
is fully functioning. After five cycles, what is the amount that has been
deposited by the five customers? How much money has been lent out by the five
banks? Please fill up the blanks in the following table.
Iteration # |
Deposited |
= |
Reserves |
+ |
Available to Lend |
Bank |
Lends to |
||||||
1 customer |
10,000.00 |
= |
A |
|||
2 customer |
= |
B |
||||
3 customer |
= |
C |
||||
4 customer |
= |
D |
||||
5 customer |
E |
|||||
Summary |
||||||
Total deposited: |
----------- |
Total
lend out |
------------ |
|||
And the cycle
continues… |
||||||
12. What is bitcoin?
In your view, could bitcoin become a major global currency? Could governments
ban or destroy bitcoin?
13. What are
bitcoin futures? How can you use bitcoin futures to improve your portfolio’s
performance?
14. Bitcoin is used
more often by speculators to make quick and easy money, rather than an
investment for a long horizon. What is your opinion to bitcoin in terms of
the purposes of investing in bitcoin?
15. As an investor, besides market order, what other types of orders can use choose from? Show definitions and examples.
For
example, Wal-Mart stock is currently traded at 118$/share. You think it is
overpriced and want to buy it at a lower price, such as $110/share.
Which
order type shall you choose? Please explain with details.
Assume
that you could buy Wal-Mart stock at $110/share and want to hedge against
falling stock prices in the future. Which order type shall you choose? Please
explain with details.
16. What is short selling? Do you think that short Apple stock is a good idea? Why or why not?
17. What is IPO? SEO?
18. Please compare a firm going public vs. a firm going private. https://www.forbes.com/sites/connieguglielmo/2013/10/30/you-wont-have-michael-dell-to-kick-around-anymore/#5c98b47b2a9b. Why is Dell going back and forth between a public firm and a private one? https://www.cnet.com/news/dell-goes-public-after-five-years-as-private-company-report/
19. Compare primary market vs. secondary market.
20. Time value of money question, similar to homework questions. Just show math equations. No need of excel or a calculator.
Chapter 6 Bond Market
1. Cash flow of bonds
For example: a 3 year bond
10% coupon rate, draw its cash flow.
Introduction
to bond investing (video)
How
Bonds Work (video)
2. Risk of Bonds
Class discussion: Is bond
market risky?
Bond
risk (video)
Bond
risk – credit risk (video)
Bond
risk – interest rate risk (video)
Bond
risk – how to reduce your risk (video)
3. Choices of investment in bonds
FINRA – Bond market
information
http://finra-markets.morningstar.com/BondCenter/Default.jsp
Treasury Bond Auction and
Market information
http://www.treasurydirect.gov/
Treasury Bond
Corporate Bond
Municipal Bond
International Bond
Bond Mutual Fund
TIPs
Class discussion Topic I: As a college student, which type of
bonds shall you buy? Why?
Class
discussion Topics II
You can invest in junk
bonds. Shall you? Or shall you not?
What is a high yield bond (Video)
Definition: A high yield bond
– also known as a junk bond – is a debt security issued by companies or
private equity concerns, where the debt has lower than investment grade
ratings. It is a major component – along with leveraged loans – of the
leveraged finance market.(www.highyieldbond.com)
Everything You
Need to Know About Junk Bonds (video)
Updated Aug 17, 2019
For many investors, the term "junk bond" evokes thoughts of investment scams and high-flying financiers of the 1980s, such as Ivan Boesky and Michael Milken, who were known as "junk-bond kings." But don't let the term fool you—if you own a bond fund, these worthless-sounding investments may have already found their way into your portfolio. Here's what you need to know about junk bonds.
Junk Bonds
From a technical viewpoint, a junk bond is exactly the same as a regular bond. Junk bonds are an IOU from a corporation or organization that states the amount it will pay you back (principal), the date it will pay you back (maturity date), and the interest (coupon) it will pay you on the borrowed money.
Junk bonds differ because of their issuers' credit quality. All bonds are characterized according to this credit quality and therefore fall into one of two bond categories:
Investment
Grade – These bonds are issued by low- to medium-risk lenders.
A bond rating on investment-grade debt usually ranges from AAA to BBB.
Investment-grade bonds might not offer huge returns, but the risk of the
borrower defaulting on interest payments is much smaller.
Although junk bonds pay
high yields, they also carry a higher-than-average risk that the company
will default on the bond. Historically, average yields on junk bonds have
been 4% to 6% above those for comparable U.S. Treasuries.
Junk bonds can be broken down into two other
categories:
You need
to know a few things before you run out and tell your broker to buy
all the junk bonds he can find. The obvious caveat is that junk bonds are
high risk. With this bond type, you risk the chance that you will never get
your money back. Secondly, investing in junk bonds requires a high degree of
analytical skills, particularly knowledge of specialized credit. Short and
sweet, investing directly in junk is mainly for rich and motivated
individuals. This market is overwhelmingly dominated by institutional
investors.
This isn't
to say that junk-bond investing is strictly for the wealthy. For many
individual investors, using a high-yield bond fund makes a lot of
sense. Not only do these funds allow you to take advantage of professionals
who spend their entire day researching junk bonds, but these funds also lower
your risk by diversifying your investments across different asset types. One
important note: know how long you can commit your cash before you decide to
buy a junk fund. Many junk bond funds do not allow investors to cash out for
one to two years.
Also,
there comes a point in time when the rewards of junk bonds don't justify the
risks. Any individual investor can determine this by looking at
the yield spread between junk bonds and U.S. Treasuries. As we already
mentioned, the yield on junk is historically 4% to 6% above Treasuries. If
you notice the yield spread shrinking below 4%, then it probably isn't the
best time to invest in junk bonds. Another thing to look for is the default
rate on junk bonds. An easy way to track this is by checking the Moody's
website.
The final
warning is that junk bonds are not much different than equities in that they
follow boom and bust cycles. In the early 1990s, many bond funds earned
upwards of 30% annual returns, but a flood of defaults can cause these funds
to produce stunning negative returns.
Despite
their name, junk bonds can be valuable investments for informed investors,
but their potential high returns come with the potential for high risk.
Home Work
chapter 6 (due with the second mid term exam):
1. Draw cash
flow graph of a bond with 5 years left to maturity 5%
coupon rate.
2. Find
Wal-Mart bond in FINRA website. Pick one of the three bonds and answer the
following questions. ( http://finra-markets.morningstar.com/BondCenter/Default.jsp,
and search for Wal-Mart bond)
a. How to
calculate the price?
b. Why
Wal-Mart bond yield is lower than Microsoft’s?
c. What
does “callable” mean?
d. Who are
the three major rating agencies?
e. What is
the rating of War-Mart bond? Is it better than MSFT’s
or are they the same?
3. Explain
why Wal-Mart bond is more risky than the Treasury bond with the same condition.
4. As a bond
investor, do you plan to invest in junk bond? Why or why not?
5. Fed reduced interest rate. Do you think
that it is safer to invest in junk bond when interest rates are low? Or just
the opposite? Why or why not?
6. What is the take away of the following
article? Why does it happen?
Defaults
reach above 5%, from 1.3% bottom in November 2018
By JOYWILTERMUTH
Defaults on bonds issued by debt-laden U.S.
companies with speculative-grade ratings are on pace to reach a new high this
year for the post 2008 crisis era, according to Goldman Sachs analysts.
The bank has tracked more
than $36 billion of defaulted so-called “junk bonds” already in 2019, and there are likely to be more,
particularly in the energy sector, to eclipse the prior post crisis default
record of $43 billion in 2016, wrote Goldman analysts led by Lotfi Karoui in
a Thursday note to clients.
“Thus far, defaults have been highly concentrated among energy
issuers, a trend that reflects structural as opposed to cyclical challenges,” the Goldman analysts wrote. “The
lingering weakness in oil prices coupled with weak growth sentiment may push
issuers in other structurally-challenged sectors toward defaults.”
Oil field servicing company Weatherford International Ltd WFTIQ, -8.67%,
which filed for bankruptcy with $7.4 billion of high-yield debt, is the year’s second-largest default, after the massive default of
California’s Pacific Gas and Electric Company PCG, +5.80% on
$18.3 billion of debt in January, according to Moody’s
Investors Service.
In the case of Weatherford,
Moody’s said it expects to see bond recoveries of
35%-65% on roughly $5.85 billion of debt that the company hopes to slash through
its restructuring.
PG&E was considered an investment-grade credit, until it filed for bankruptcy following devastating
California wildfires in 2017 and 20180 left it facing billions in potential
liabilities.
This chart shows the dollar amount of defaulted U.S. high-yield bonds thus
far in 2019, which is approaching levels not seen since 2016, after Brent
crude oil prices plunged below $35 per barrel and put significant
pressure on the financial conditions of oil companies and exporters.
Goldman Sachs
Moody’s said this week
in a separate report that junk-bonds issued by companies in July came with
the worst protections yet for investors.
Check out: Junk bonds are getting worse and investors are starting
to take notice
At present, the three-month
trailing high-yield bond default rate is above 5% on an annualized basis, a
sharp jump from its 1.3% bottom in November 2018, according to Goldman
analysts.
By comparison, the default
rate traveled north of 14% for U.S. high-yield bonds in the aftermath of the
2007-2008 global financial crisis, according to Moody’s,
which said in July that its baseline forecast was for defaults to stay below
4% through July 2020.
Goldman analysts also don’t see defaults moving meaningfully higher from current
levels, absent a “full-blown recession,” which the bank’s U.S. economics
team doesn’t anticipate occurring in the near term.
Recession and trade war jitters rattled U.S. stocks this week,
although the major benchmarks managed to close higher on Friday, with the Dow
Jones Industrial Average DJIA, -0.36% adding
300 points, and the S&P 500 index SPX, -0.45% gaining
41 points and the Nasdaq Composite Index COMP, -0.33%
increasing by 308 points.
Investors have plenty of high-risk and so-called grey swan events to watch for, as the
third quarter draws closer.
In high-yield, a big focus
will be corporate earnings through year-end. Companies can end up in default
when earnings slump, making it harder for borrowers to keep up on debt
payments.
And with energy making up
14% of the closely-tracked Bloomberg Barclays U.S. high-yield bond Index,
Oxford Economics is keeping a close eye on the fortunes of energy companies.
“Our main source of worry is the fact that the improvement in
U.S. fundamentals since 2017 can be entirely attributed to the energy sector,” wrote Michiel Tukker, Oxford Economics’
global strategist in a note Friday.
“It is telling that oil hasn’t risen
despite OPEC cuts and tensions in the Gulf of Hormuz,”
Tukker added.
October Brent crude UK:BRNV19 finished
up 0.7% on Friday to $58.64 a barrel on ICE Futures Europe, but was still
sharply down from its two-year high of $86.29 on October 3, 2018, according
to FactSet data.
What’s
more, Tukker found that 18% of U.S. high-yield companies recently reported
negative hearings, the highest since the global financial crisis outside of
the oil price collapse in 2014 and 2015.
Tukker said that could drag
down the sector’s debt interest coverage ratios, a
measure of corporate earnings to interest expenses.
“With earnings outlook gloomy, we expect the ratio to fall
significantly going forward, bringing interest coverage ratios down rapidly.”
It’s extremely challenging to find
year-by-year returns for the high-yield bond market, and that's odd when you
think about it. This is an asset class with a great deal of money invested in
it. If you're interested in seeing how high-yield bonds have performed over
time, this table shows the return for the category each year from 1980
through 2013. It includes its performance relative to stocks as gauged by the
S&P 500 Index, and relative to investment-grade bonds as measured by
the Barclays Aggregate Bond Index.
High yield returns are
represented by the Salomon Smith Barney High Yield Composite Index from 1980 through
2002, and the Credit Suisse High Yield Index from 2003 onward.
Year |
HY Bonds |
Investment-Grade |
Stocks |
1980 |
-1.00% |
2.71% |
32.50% |
1981 |
7.56% |
6.26% |
-4.92% |
1982 |
32.45% |
32.65% |
21.55% |
1983 |
21.80% |
8.19% |
22.56% |
1984 |
8.50% |
15.15% |
6.27% |
1985 |
26.08% |
22.13% |
31.73% |
1986 |
16.50% |
15.30% |
18.67% |
1987 |
4.57% |
2.75% |
5.25% |
1988 |
15.25% |
7.89% |
16.61% |
1989 |
1.98 |
14.53% |
31.69% |
1990 |
-8.46% |
8.96% |
-3.11% |
1991 |
43.23% |
16.00% |
30.47% |
1992 |
18.29% |
7.40% |
7.62% |
1993 |
18.33% |
9.75% |
10.08% |
1994 |
-2.55% |
-2.92% |
1.32% |
1995 |
22.40% |
18.46% |
37.58% |
1996 |
11.24% |
3.64% |
22.96% |
1997 |
14.27% |
9.64% |
33.36% |
1998 |
4.04% |
8.70% |
28.58% |
1999 |
1.73% |
-0.82% |
21.04% |
2000 |
-5.68% |
11.63% |
-9.11% |
2001 |
5.44% |
8.43% |
-11.89% |
2002 |
-1.53% |
10.26% |
-22.10% |
2003 |
27.94% |
4.10% |
28.68% |
2004 |
11.95% |
4.34% |
10.88% |
2005 |
2.26% |
2.43% |
4.91% |
2006 |
11.92% |
4.33% |
15.79% |
2007 |
2.65% |
6.97% |
5.49% |
2008 |
-26.17% |
5.24% |
-37.00% |
2009 |
54.22% |
5.93% |
26.46% |
2010 |
14.42% |
6.54% |
15.06% |
2011 |
5.47% |
7.84% |
2.11% |
2012 |
14.72% |
4.22% |
16.00% |
2013 |
7.53% |
-2.02% |
32.39% |
Keep a few historical factors in perspective
when you're looking at these returns. First, there was a much higher
representation of “fallen angels”—former issues
that fell into below-investment-grade territory—in
the early days of the high-yield investment-grade market than
there is today. There was a corresponding lower representation of issues from
the type of smaller companies that make up the bulk of the market now.
Second, all the down years
for high yield were accompanied by the economic slowdowns in 1980, 1990,
1994, and 2000, or by financial crises in 2002 and 2008.
Third, yields were much
higher in the past than they are today. While absolute yields spent much of
the 2012–2013 period below 7.5 percent and they
reached as low as the 5.2 to 5.4 percent range in April and May 2013, these
levels would have been unheard of in prior years. The 1980–1990
period generally saw yields in the mid-teens. Even at the lows of the late
1990s, high-yield bonds still yielded 8 to 9 percent. During the 2004–2007 interval, yields hovered near the 7.5 to 8 percent
level, which were record lows at the time.
High-yield
bonds also paid a much higher yield than they do now.
The takeaway is twofold.
High-yield bonds had higher return potential due to the larger contribution
from yield to total
return, and there was more room for price appreciation. Remember
that bond prices and yields move in opposite directions. As a result, people
who invest in the asset class today shouldn’t expect
a repeat of the type of returns shown above. Still, these numbers show that
high-yield bonds have delivered very competitive
returns over time.
The Party’s Almost Over, Say
High-Yield Bond Investors
By
Erik Sherman, July
15, 2019
The high-yield party has been raging. But investors who stick
around may have one heck of a hangover.
In recent weeks, the difference in yields between high-grade
investment or government bonds and low-grade, high-yield corporate bonds
dropped to 375 basis points. Often called junk bonds, companies with low
credit ratings
issue high-yield bonds for access to capital, although at a higher interest
rate than companies with good credit.
But risk needs the right amount of reward. The shift in yields
meant only 0.375% in interest now separates the safest bond investments from
those issued by companies with poorer credit (and a higher risk of default).
Given the narrowing yield spread, several prominent portfolio managers have
decided it's time to count their winnings and bail on high-yield bonds.
"As a credit debt holder, you've got no upside, you only
have downside [at this point]," says Pilar Gomez-Bravo, director of
fixed income Europe for MFS Investment Management. Even if technical signals
seem to indicate a rally, "at some stage you want to be prudent in your
risk taking with levels you're getting paid for. You enjoy the party, the
rally, the momentum, but you have to be diligent." Back in 2016, 30% of
the portfolio she oversees was high-yield. Now that's down to 10%.
"There is an expectation that the economy is slowing in the
United States" and around the globe, said Troy Snider, investment
adviser and principal at Bartlett Wealth Management. The possibility of a
rate cut in the Fed's July meeting is seen as proof and the Fed funds futures
are showing a 100% expectation of a cut then, according to a Fortune review
of data from Bloomberg. That means investors think the Fed will respond to
what it sees as a slowing economy by dropping rates in a stimulus attempt.
A slowing economy tends to be disproportionately hard on
high-yield bonds. The amount of interest companies have to pay for new bonds,
be it the first issuance or to roll over and pay off old bonds, shoots up.
Now there's more money to be made by investors in buying a newly issued bond
rather than purchasing an existing one from a current holder. Investors who
already hold bonds can find themselves unable to offload existing holdings,
as the market chases more profitable assets.
"You kind of think about it as a hill," said Jeff
Garden, chief investment officer of Lido Advisors. "On the way up, when
rates are low, it's great because [the low rates are] stimulating the economy
and promoting growth. Things are looking up. The cost of business is
cheap." But once at the top, things again go downhill, with a slowing
economy and increasing rates. That worries investors—who doesn't like the
good times to continue?—and they now assume that additional rate cuts are
more signs of a slowdown.
This has left high-yield bonds are in an agitated state. In May,
$7 billion was pulled out of high-risk bonds, which shouldn't matter in a
trillion-dollar or larger market, according to Karissa McDonough, fixed
income strategist at People's United Advisors. A trading day that saw $10
billion shifts would be considered normal, she said.
But investors still reacted strongly. As a result, the interest
spread between high-yield bonds and time-matched Treasurys went up by 100
basis points, or 1 percentage point, within six weeks. "The spread
reflects the extra yield that investors demand for a high yield bond instead
of an asset like a Treasury bond," she said.
Then in June, Powel signaled the Fed's dovish position toward
rates and another $7 billion came back into that market. Within a few weeks,
the spread dropped again by 70 basis points. "The idea that some small
amount flowing [into or out of] the market could move it to that degree tells
you is this asset class is very, very sensitive to liquidity and fund flows
and investor sentiment," McDonough said.
The potential for rapid and nervous reaction now creates a risk
in the higher-yield and junk bond markets. The companies issuing the bonds
typically expect to roll them over, taking on new bond issuance and investors
to pay off the earlier batch. "If the market pulls back and capital is
not as easily accessible to these companies, it's difficult to roll
over," McDonough said.
That could drive up default rates, which hurt the overall
results in any portfolio, because the greater the number of defaults the
lower the average returns. At the same time, there is the dichotomy between
the bond markets and equities, which are high on assumptions of Fed rescue
with rate drops.
"Something is about to break [in the economy] and that's
why the Fed is cutting rates," Gomez-Bravo said. "When you take
that in the context of the credit market, you have to overlay [whether you
are] getting paid for default risk, for downgrade risk."
"Our fixed income holdings have almost exclusively been
high-yield for the better part of a decade," said Patrick McDowell, a
portfolio manager at Arbor Wealth Management. "We’ve done well with the
strategy relative to other types of fixed income. But we are dramatically
slowing our purchases."
Or, as Garden put it, "At this point in the year, when I
look at the numbers, I see no reason to hold onto them. I've had a very, very
healthy return, one that I don't expect to continue for the next six to 12
months. I don't expect the magnitude and trajectory of returns that I've seen
over the past few months to continue, so why bother?"
Some managers say that dumping all high-yield bonds may not be
necessary, but investors have to pick and choose carefully and not depend on
a high-yield bond ETF, an investment fund type focused on high-yield bonds
and often popular with investors who want better performance than available
in government bonds. "It's time to be very selective," Gomez-Bravo
said. "If you're going to have high yield, choose the idiosyncratic risk
that you like."
And don't forget to have aspirin at hand the next morning. Just
in case.
Chapter
7 Rating, Term structure
Part I: Credit
Rating Agency
Chapter 7 Rating Agency, Interest rate risk, yield
curve (PPT)
The Big Short - Standard
and Poors scene --- This is how they worked
1.
Conflict of interest?
2.
Who is doing the right thing, the lady representing the rating
agency, or the Investment Banker?
Three Major Rating
Agencies
University:
Bond rating (video)
1. Who are they?
2. Are they private firms or government agencies?
3. How do they rank?
4. Do we need rating agencies and critiques.
Category |
Definition |
AAA |
An obligation rated 'AAA' has
the highest rating assigned by Standard & Poor's. The obligor's capacity
to meet its financial commitment on the obligation is extremely strong. |
AA |
An obligation rated 'AA' differs
from the highest-rated obligations only to a small degree. The obligor's
capacity to meet its financial commitment on the obligation is very strong. |
A |
An obligation rated 'A' is
somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than obligations in higher-rated
categories. However, the obligor's capacity to meet its financial commitment
on the obligation is still strong. |
BBB |
An obligation rated 'BBB'
exhibits adequate protection parameters. However, adverse economic
conditions or changing circumstances are more likely to lead to a weakened
capacity of the obligor to meet its financial commitment on the obligation. |
Obligations rated 'BB', 'B',
'CCC', 'CC', and 'C' are regarded as having significant speculative
characteristics. 'BB' indicates the least degree of speculation and 'C' the
highest. While such obligations will likely have some quality and
protective characteristics, these may be outweighed by large uncertainties
or major exposures to adverse conditions. |
|
Sovereigns Rating (http://countryeconomy.com/ratings/)
– The lowest and the highest – Most recent
Country |
S&P |
Moody's |
Fitch |
AAA |
Aa1 |
AA+ |
|
N/A |
Aa1 |
|
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
AAA |
Aaa |
AAA |
|
B- |
Caa1 |
|
|
B- |
Caa1 |
B- |
|
B |
Caa2 |
B |
|
B- |
Caa2 |
|
|
|
Caa2 |
|
|
B- |
Caa3 |
CCC |
|
B- |
Caa3 |
CCC |
|
CCC |
Caa3 |
CC |
|
CCC |
Caa3 |
CCC |
Class discussion Topics
·
How much do you trust those rating agencies?
·
Are those rating agencies private or public
firms?
·
What factors should be considered when a
rating agency is evaluating a debt?
How credit agencies work(video)
Rating Conflicts (video) https://www.youtube.com/watch?v=-C5JW4I3nfU
FYI: The functions of rating agencies
Part II: Z Scores
calculating Z scores is as
follows:
Z = α +
where a is a constant, Ri the
ratios, βi the relative weighting applied to ratio Ri and n the number
of ratios used.
The Altman Z-score is the output of a credit-strength
test that helps gauge the likelihood of bankruptcy for a publicly traded
manufacturing company. The Z-score is based on five key financial
ratios that can be found and calculated from a company's
annual 10-K
report. The calculation used to determine the Altman Z-score is as
follows:
where: Zeta(ζ)=The Altman Z-score
A=Working capital/total assets
B=Retained earnings/total assets
C=Earnings before interest and taxes (EBIT)/totalassets
D=Market value of equity/book value of total liabilities
E=Sales/total assets
Typically,
a score below 1.8 indicates that a company is likely heading for or is under
the weight of bankruptcy. Conversely, companies that score above 3 are less
likely to experience bankruptcy.
Homework of chapter 7 part I: (Due with the second mid term exam)
1.
Why does Moody downgrade Ford’s bond to Junk bond? Do you support the
decisions of the other two rating agencies giving an investment grade bond
rating to Ford’s bond?
2.
“As of March 31, Argentina had
$33.7 billion in foreign-currency debt payments due by year-end”If Argentina could
not pay off debt, what will happen? Can Argentina peso crisis happen again? https://en.wikipedia.org/wiki/1998%E2%80%932002_Argentine_great_depression
3.
What is Z score? Find the Z scores of Wal-Mart, Apple, and Delta
Airline and draw a conclusion. For
example, you can find Delta’s z score at https://www.gurufocus.com/term/zscore/DAL/Altman-Z-Score/Delta-Air-Lines-Inc
CCC |
An obligation rated 'CCC' is
currently vulnerable to nonpayment, and is dependent upon favorable business,
financial, and economic conditions for the obligor to meet its financial
commitment on the obligation. In the event of adverse business, financial,
or economic conditions, the obligor is not likely to have the capacity to
meet its financial commitment on the obligation. |
Moody's cuts Ford credit rating to 'junk' status
Ian
Thibodeau, The Detroit News
Published
7:32 p.m. ET Sept. 9, 2019 | Updated 7:36 p.m. ET Sept. 9, 2019
Moody's
Investors Service downgraded Ford Motor Co.'s credit rating to
"junk" status Monday, a move that could make it more expensive
for the automaker to borrow as it undertakes a sweeping global
restructuring amid slowing global sales and a rapidly changing industry.
The ratings agency believes
the automaker's years-long restructuring under CEO Jim Hackett will
be too costly to generate much return for shareholders. Monday's downgrade to Ba1 — the highest non-investment
grade rating — comes as Ford and Hackett have said repeatedly over the last
year that 2019 would deliver the results promised, including improved profit
margins around the world.
Last August, Moody's
had downgraded Ford to its lowest investment grade, Baa3. In May, Moody's upgraded Fiat Chrysler Automobiles NV to
the same Ba1 status, an improvement for the automaker driven by strong
SUV and truck sales in North America. And the agency last November labeled
General Motors Co.'s U.S. restructuring "credit positive."
The Ford "downgrade is
an unfortunate inevitability of where we are in the cycle for the auto
industry," said David Kudla, CEO of
Grand Blanc-based Mainstay Capital Management LLC. "They have this
massive restructuring underway and all the auto companies are trying to
figure out how to deal with autos 2.0."
In
a note, Moody's Senior Vice President Bruce Clark wrote that Ford's
financial performance has lagged during "a period in which global
automotive conditions have been fairly healthy. Ford now faces the challenge
of addressing these operational problems as demand in major markets is
softening."
He
added: "The company does have a sound balance sheet and liquidity
position from which to operate."
Ford
and Hackett are in the early stages of a $25 billion global cost-cutting plan
expected to cost the company some $11 billion over the next several years.
The automaker is already incurring some of those charges. The automaker's
second-quarter earnings slid 86% on restructuring charges. Ford also adjusted
its full-year fiscal outlook, which disappointed investors.
Ford shares fell 3.6% in
aftermarket trading Monday on news of the downgrade, erasing Monday's gains. The stock had closed up 2.14% before the
downgrade was announced.
The Moody's downgrade essentially
would make it more expensive for Ford to borrow money. Those buying Ford stock would incur more risk, and there
would be fewer available buyers for junk-status bonds.
"Ford
remains very confident in our plan and progress," Ford spokesman T.R.
Reid said in a statement. "Our underlying business is strong, our
balance sheet is solid and we have plenty of liquidity to invest in our
compelling strategy for the future."
Clark
wrote that the problems Ford is addressing around the world will take years
to bear fruit. The automaker has operational inefficiencies in key markets
like North America and China, Moody's said. Earnings have have fallen in
China, and the automaker has an old lineup there.
Two other major credit rating
agencies — Fitch Ratings and S&P Global Ratings — give a BBB
grade to Ford, which is two steps above junk status. Both give a negative outlook to the company.
Ford lost
less money in the second quarter than it had a year ago, but officials have
said the automaker is taking hits as it readies its Chinese lineup for
new SUVs and electric vehicles. Its sales in China fell 27% through the first
six months of 2019 after Ford spent most of 2018 restructuring its leadership
in China and adapting its plan for the future. The automaker plans to roll
out 30 new Ford and Lincoln vehicles there in three years, among other
things.
"We
are making significant progress on a comprehensive global redesign
— reinvigorating our product lineup and aggressively restructuring our
businesses around the world," Reid said. "As Moody’s notes, we are
already addressing two of its primary concerns: operating inefficiency
and our China business. The agency also calls out our
'sound' balance sheet and liquidity position, and expects our global
redesign and new products to contribute to improvement in earnings, margins
and cash generation."
Meantime,
Clark said Ford's global restructuring could last until at least
2023. Further, Ford is trying to improve global operations while also
spending billions on electrification and autonomous driving. The ratings agency notes Ford has $23.2
billion of cash, which exceeds its debt. The automaker could be upgraded if
Ford moves its North American automotive profit margin above 9% for a
sustained period (it was 7.1% in the second quarter), and full
automotive margins climb about 7% (it was 3.8% in the second quarter, among
other things.
"An upgrade of Ford during the near term
is unlikely," Clark wrote.
Kudla said it could take a year or
more for the ratings change.
The last time Moody's downgraded Ford was in August 2018. For a while, the
junk status will negatively impact Ford's ability to borrow, its lending arm
and other financial aspects of the business.
"They're
undertaking a lot right now in a softening auto market," Kudla said.
"These companies are still like turning around a battleship."
Updated
on August 16, 2019, 6:06 PM EDT
Fitch Ratings cut Argentina’s long-term issuer
rating by three notches to CCC from B, putting the South American nation
on par with Zambia and the Republic of Congo. S&P lowered the country’s
sovereign rating to B- from B and slapped a negative outlook on it. The move
caps a traumatic week for Argentina that saw the peso fall to a record, the
benchmark equity gauge suffer one of the worst daily routs in
70 years and the yield on the nation’s century bonds spike to an all-time
high. S&P cited Argentina’s “vulnerable financial profile” and the slump
in asset prices following the primary.
“Uncertainty
continues on the private sector’s predisposition to roll over government debt
and hold pesos while depreciation stresses the government’s high financing needs,”
S&P analyst Lisa Schineller wrote in a statement accompanying the downgrade.
As of March 31, Argentina had $33.7 billion in
foreign-currency debt payments due by year-end, the vast majority
in short-term Treasury bills, or Letes, according to the latest debt report by
the Finance Ministry.
Fitch’s said the deterioration in the macroeconomic environment
“increases the likelihood of a sovereign default or restructuring of some
kind.”
Argentine bonds
had started to recover from the worst of this week’s rout. The average spread
on sovereign bonds tightened 80 basis points today, after earlier narrowing
128 bps, according to a JPMorgan index.
Opposition
candidate Alberto Fernandez trounced President Mauricio Macri in the primary,
giving him a seemingly unassailable lead ahead of October’s presidential election.
Investors fear that victory for Fernandez will mark a return to the populist
policies of the past and a likely default.
Moody’s Investors
Service already rates the nation’s notes at five levels below investment grade.
Fearful Argentines Pull Dollars
From Banks After Election Shock
This week’s
slump in assets resulted in large losses for
some of the world’s biggest money managers, who piled into Argentine assets
in a search for yield.
It may already
be too late for Argentina to avoid a default, according to Siobhan Morden, a
New York-based strategist at Amherst Pierpont Securities. She said the
weakening peso will push debt ratios even higher.
Fitch said
it expects Argentina’s federal government debt to climb to around 95% of gross
domestic product this year, without even factoring in the risk of a further
slide in the currency. Meantime, South America’s second-largest economy will
probably contract 2.5% by year-end, Martinez said.
Financing pressures could intensify in 2020 when the sovereign
will need to turn to the market to finance a fiscal deficit and some $20
billion in debt maturities as the nation’s disbursements from the
International Monetary Fund run dry, according to Fitch.
“Both roll-over
and fresh financing could be difficult if local and external borrowing
conditions do not improve markedly from current stressed levels,” Martinez
said.
— With assistance by Aline Oyamada, and Justin
Villamil
(Updates with downgrade by S&P Global.)
Part III: Yield curve (or Term structure)
·
What is yield curve?
( http://www.yieldcurve.com/MktYCgraph.htm)
Market watch on Wall Street Journal has daily yield curve and
interest rate information.
http://www.marketwatch.com/tools/pftools/
Draw today’s yield curve
yourself in class (5 extra points) |
|||||||||||
·
Why do we need yield
curve?
·
What can yield curve
tell us?
Daily Treasury Yield
Curve Rates
(https://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yieldYear&year=2017)
Date |
1 Mo |
3 Mo |
6 Mo |
1 Yr |
2 Yr |
3 Yr |
5 Yr |
7 Yr |
10 Yr |
20 Yr |
30 Yr |
||||||||||||
01/03/17 |
0.52 |
0.53 |
0.65 |
0.89 |
1.22 |
1.50 |
1.94 |
2.26 |
2.45 |
2.78 |
3.04 |
||||||||||||
01/04/17 |
0.49 |
0.53 |
0.63 |
0.87 |
1.24 |
1.50 |
1.94 |
2.26 |
2.46 |
2.78 |
3.05 |
||||||||||||
01/05/17 |
0.51 |
0.52 |
0.62 |
0.83 |
1.17 |
1.43 |
1.86 |
2.18 |
2.37 |
2.69 |
2.96 |
||||||||||||
01/06/17 |
0.50 |
0.53 |
0.61 |
0.85 |
1.22 |
1.50 |
1.92 |
2.23 |
2.42 |
2.73 |
3.00 |
||||||||||||
01/09/17 |
0.50 |
0.50 |
0.60 |
0.82 |
1.21 |
1.47 |
1.89 |
2.18 |
2.38 |
2.69 |
2.97 |
||||||||||||
01/10/17 |
0.51 |
0.52 |
0.60 |
0.82 |
1.19 |
1.47 |
1.89 |
2.18 |
2.38 |
2.69 |
2.97 |
||||||||||||
01/11/17 |
0.51 |
0.52 |
0.60 |
0.82 |
1.20 |
1.47 |
1.89 |
2.18 |
2.38 |
2.68 |
2.96 |
||||||||||||
01/12/17 |
0.52 |
0.52 |
0.59 |
0.81 |
1.18 |
1.45 |
1.87 |
2.17 |
2.36 |
2.68 |
3.01 |
||||||||||||
01/13/17 |
0.52 |
0.53 |
0.61 |
0.82 |
1.21 |
1.48 |
1.90 |
2.20 |
2.40 |
2.71 |
2.99 |
||||||||||||
01/17/17 |
0.52 |
0.55 |
0.62 |
0.80 |
1.17 |
1.42 |
1.84 |
2.14 |
2.33 |
2.66 |
2.93 |
||||||||||||
01/18/17 |
0.48 |
0.53 |
0.63 |
0.82 |
1.23 |
1.51 |
1.93 |
2.24 |
2.42 |
2.74 |
3.00 |
||||||||||||
……… |
|
|
|
|
|
|
|
|
|
|
|
||||||||||||
10/12/17 |
0.99 |
1.09 |
1.27 |
1.41 |
1.51 |
1.66 |
1.95 |
2.16 |
2.33 |
2.62 |
2.86 |
||||||||||||
10/13/17 |
0.97 |
1.09 |
1.26 |
1.39 |
1.51 |
1.64 |
1.91 |
2.12 |
2.28 |
2.58 |
2.81 |
||||||||||||
10/16/17 |
0.97 |
1.10 |
1.24 |
1.42 |
1.54 |
1.68 |
1.95 |
2.15 |
2.30 |
2.58 |
2.82 |
||||||||||||
10/17/17 |
0.99 |
1.09 |
1.25 |
1.41 |
1.54 |
1.69 |
1.97 |
2.15 |
2.30 |
2.58 |
2.80 |
||||||||||||
10/18/17 |
0.99 |
1.09 |
1.24 |
1.42 |
1.59 |
1.70 |
1.99 |
2.19 |
2.34 |
2.62 |
2.85 |
||||||||||||
10/19/17 |
0.99 |
1.10 |
1.25 |
1.41 |
1.58 |
1.69 |
1.98 |
2.18 |
2.33 |
2.60 |
2.83 |
||||||||||||
10/20/17 |
0.99 |
1.11 |
1.27 |
1.43 |
1.60 |
1.72 |
2.03 |
2.24 |
2.39 |
2.67 |
2.89 |
||||||||||||
10/23/17 |
1.00 |
1.09 |
1.25 |
1.42 |
1.58 |
1.70 |
2.01 |
2.22 |
2.38 |
2.66 |
2.89 |
||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
For discussion:
Why do the rates change daily?
Can the 30y yield < 3m T-Bill rate?
So the yield curve is not that flatten anymore. So we do not need to
worry for recession anymore? Right?
Summary of Yield Curve
Shapes and Explanations
Normal Yield Curve
When bond investors expect the economy to hum along at normal rates of growth
without significant changes in inflation rates or available capital, the
yield curve slopes gently upward. In the absence of economic disruptions,
investors who risk their money for longer periods expect to get a bigger
reward — in the form of higher interest — than those who risk their money for
shorter time periods. Thus, as maturities lengthen, interest rates get
progressively higher and the curve goes up.
Steep Curve – Economy is improving
Typically the yield on 30-year Treasury bonds is three percentage points above
the yield on three-month Treasury bills. When it gets wider than that — and
the slope of the yield curve increases sharply — long-term bond holders are
sending a message that they think the economy will improve quickly in the
future.
Inverted Curve – Recession is coming
At first glance an inverted yield curve seems like a paradox. Why would
long-term investors settle for lower yields while short-term investors take
so much less risk? The answer is that long-term investors will settle for
lower yields now if they think rates — and the economy — are going even lower
in the future. They're betting that this is their last chance to lock in
rates before the bottom falls out.
Flat or Humped Curve
To
become inverted, the yield curve must pass through a period where
long-term yields are the same as short-term rates. When that happens the
shape will appear to be flat or, more commonly, a little raised in the
middle.
Unfortunately, not all
flat or humped curves turn into fully inverted curves. Otherwise we'd all get
rich plunking our savings down on 30-year bonds the second we saw their
yields start falling toward short-term levels.
On the other hand, you
shouldn't discount a flat or humped curve just because it doesn't guarantee a
coming recession. The odds are still pretty good that economic slowdown and
lower interest rates will follow a period of flattening yields.
***** Inverted Yield
Curve*****
For discussion:
·
What is the shape the most recent yield curve?
·
What does it indicate or imply?
·
Do you believe it?
·
What can we do to prevent any possible losses
in the future?
·
……
YieldCurve.com |
Yield Curve figures updated weekly since October 2003 |
|||||
UK Gilt |
6 Month |
1 Year |
2 Year |
5 Year |
10 Year |
30 Year |
October 14, 2019 |
0.74 |
0.66 |
0.53 |
0.48 |
0.69 |
1.16 |
October 7, 2019 |
0.74 |
0.46 |
0.35 |
0.26 |
0.45 |
0.95 |
US Treasury |
3 Month |
6 Month |
2 Year |
5 Year |
10 Year |
30 Year |
October 14, 2019 |
1.69 |
1.68 |
1.60 |
1.56 |
1.73 |
2.20 |
October 7, 2019 |
1.70 |
1.65 |
1.41 |
1.35 |
1.53 |
2.01 |
Fed’s
Bullard says ignoring the Treasury yield curve has burned him in the past
Published: Oct 15, 2019 8:35 a.m. ET
By
There are a lot of valid reasons why the inversion of the U.S. Treasury yield curve — that is, the yield
of short-term bonds being higher than that of longer-term securities —
isn’t a sign of economic worries.
But count James Bullard, president of the St. Louis Federal
Reserve, as not one to ignore the yield curve’s predictive powers.
Elga Bartsch, head of macro research at BlackRock, asked
Bullard whether in an era of rapidly falling natural interest rate estimates
and a global savings glut, the yield curve still carries the same
significance.
Bullard, at a conference on monetary and financial policy in
London, replied that he was burned twice as a Fed staffer in the 2000s on
trying to dismiss the predictive powers of the yield curve. He recalled a
speech in 2006 from then Fed Chairman Ben Bernanke who also minimized the
curve’s predictive powers.
“The idea has always been to downplay this issue,” Bullard
said. “If you want to ignore the signal, you should say, okay, but I’m
ignoring it with open eyes.”
The yield on the
10-year TMUBMUSD10Y, -1.05% is
currently a bit higher than the 2-year TMUBMUSD02Y, +0.01% , at
1.73% versus 1.59%. Earlier in the year, the 2-year yield was higher than the
10-year.
Bullard, who wanted a half percentage point rate cut in
September, continued to press the case for easier policy.
“Insurance rate cuts may help re-center inflation and
inflation expectations at the 2% target sooner than otherwise,” he said.
The Fed is meeting at the end of October to determine whether
it will make its third quarter-point rate cut in succession this year.
Asked by MarketWatch, he declined to quantify a probability of
recession and acknowledged that most estimates of them are based off the
yield curve.
He also said uncertainty about international trade policies is
likely to linger for longer than markets anticipate.
“We’ve opened a Pandora’s box,” he said. “If you study the
history of trade negotiations, they’re very long and very involved over a
very long period of time.”
5 things investors need to know about an inverted
yield curve
Published: Aug 28, 2019 9:43 a.m. ET
By
DEPUTY MARKETS EDITOR
SUNNYOH
The 10-year yield fell below the 2-year
yield for the first time since June 2007
The main measure of the yield curve briefly deepened its
inversion on Tuesday — with the yield on the 10-year Treasury note extending
its drop below the yield on the 2-year note — underlining investor worries
over a potential recession.
But while inversions are
seen as a reliable indicator of an economic downturn, investors may be
pushing the panic button prematurely. Here’s a look at what happened and what
it might mean for financial markets.
What’s the
yield curve?
The yield curve is a line plotting out yields across
maturities. Typically, it slopes upward, with investors demanding more
compensation to hold a note or bond for a longer period given the risk of
inflation and other uncertainties.
An inverted curve can be a source of concern for a variety of
reasons: short-term rates could be running high because overly tight monetary
policy is slowing the economy, or it could be that investor worries about
future economic growth are stoking demand for safe, long-term Treasurys,
pushing down long-term rates, note economists at the San
Francisco Fed, who have led research into the relationship between the curve
and the economy.
They noted in an August 2018
research paper that, historically, the causation “may
have well gone both ways” and that “great caution is therefore warranted in
interpreting the predictive evidence.”
What just
happened?
The yield curve has been flattening for some time. A global
bond rally in the wake of rising trade tensions pulled down yields for
long-term bonds. The 10-year Treasury note yield TMUBMUSD10Y, -1.05% fell as low as 1.453% on
Wednesday, trading around 4 basis points below the yield on the 2-year note
peerTMUBMUSD02Y, -0.25%.
The inversion on this widely-watched measure of the yield curve’s
slope had already taken place two weeks ago, when signs of economic weakness
across the globe drew investors into haven
See: 2-year/10-year Treasury yield curve inverts,
triggering bond-market recession indicator
Why does it
matter?
The 2-year/10-year version
of the yield curve has preceded each of the past seven recessions, including
the most recent slowdown between 2007 and 2009.
Other yield curve measures
have already inverted, including the widely-watched 3-month/10-year spread
used by the Federal Reserve to gauge recession probabilities.
Is recession
imminent?
A recession isn’t a
certainty. Some economists have argued that the aftermath of quantitative
easing measures that saw global central banks snap up government bonds and
drive down longer term yields may have robbed inversions of their reliability
as a predictor. According to this school of thought, negative bond yields in
Europe and Japan have forced yield-starved investors to the U.S.,
artificially depressing long-term Treasury yields.
Read: Fed not on red alert after yield-curve inversion
Some Fed policy
makers, including New York Fed President
John Williams, have also periodically questioned the
overwhelming importance placed by market participants on the yield curve,
seeing it as only one measure among many that could point to economic
distress.
Others say an inversion of
the yield curve reflects when the bond-market is expecting the U.S. central
bank to set off on an extended easing cycle. This pent-up anticipation drives
long-term bond yields below their short-term peers. But if the Fed cuts rates
in a speedy fashion and successfully prevents an economic downturn, the yield
curve’s inversion this time around may turn out to be a false positive.
Take note: Wall Street bets on a 50-basis-point Fed cut jump as
yield curve inverts, stocks sink
And even if the yield curve
does point to a future recession, investors might not want to panic
immediately. From 1956, past recessions have started on average around 15 months
after an inversion of the 2-year/10-year spread occurred, according to Bank
of America Merrill Lynch.
Are market
worries overdone?
Some investors argued that
until other recession indicators, such as the unemployment rate, start
blinking red, it’s probably premature to press the panic button.
“It’s a recession indicator
among many others, though the yield curve may be flashing red, others are
not,” said Adrian Helfert, director of multi-asset portfolios at Westwood
Holdings Group, in an interview with MarketWatch.
Homework
chapter 7 part II (due with the second mid-term exam):
1.
Based on “The market finally has its version.
No what?”, please answer the following questions.
·
What does inverted yield curve
usually indicate to the market? Why?
·
What are the causes of
the current inverted yield curve this time?
·
What is the advice of the
author based on this article?
2.
Write a
summary about the inverted yield curve learned from the three articles.
The
Market Finally Has Its Inversion. Now What?
The latest move in the bond market is unlike anything investors
have seen, and not in a good way.
By John Authers
August 15, 2019, 12:01 AM EDT
We have inversion.
The most widely
watched part of the U.S. Treasury market’s yield curve has finally inverted.
In early Wednesday trading, yields on 10-year notes briefly fell below those
on two-year notes for the first time since 2007. Most of the human
population will not care about this event. So two questions need answering:
Should we care? And, if so, why should we care?
Historically, yield curve
inversions have been reliable early indicators of a recession. This is particularly
true of the spread between the 3-month bill rates and 10-year Treasury yields,
in which all persistent
inversions since 1960 have been followed by a recession:
An examination by Duke
University professor Cam Harvey found that on average stocks underperform Treasury bills from the moment of
inversion. Stocks often continue to rise after the yield curve first
inverts, as stockbrokers have been keenly pointing out in the last 24 hours,
but on average the moment of a yield curve inversion is a bad time to buy
stocks. But we only have a sample
of seven recessions to study, and the circumstances in all those
inversions were slightly different. What was different about this one?
What is most notable this time is the drop in
longer-dated bond yields, says
Jim Bianco of Bianco Research. The 30-year Treasury yield hit an
all-time low on Wednesday, and he finds that its recent decline is
shocking in historic terms. (And note that a 10-day trading span takes us
back exactly to the moment when President Donald Trump tweeted
about new tariffs on China, escalating the trade war):
This is the 7th time in 35 years that 30-year
yields have declined by such a large degree over a 10-day span.
·
Oct 1987 – The week after stock market crash
·
Jun 1989 – The week the Fed started easing (recession 13 months
later)
·
Feb 2000 – Tech bubble (Mar 2000)
·
Nov 2001 – In recession
·
Dec 2008 – The depths of the Great Recession
·
Aug 2011 – The week after the U.S. lost its AAA rating and a 20%
correction in the S&P 500
·
Aug 2019 – ???
All these instances occurred in the middle of
great stress. The exception was Feb 2000, but the stress started a month
later when the tech bubble peaked.
So this was a major and extreme event. The inversion only happened briefly amid thin
volume before most American traders were at their desks, which
is another reason that is being given to ignore the event, but it
is plain in any sensible context that this was a very major market
event. If the market is any use in helping us make predictions, it is
certainly trying to tell us something.
The sharp drop in the 30-year yield brings us to
another reason that is being cited to treat this inversion differently from
its predecessors. This was, in the obscene-sounding vocabulary of the bond
market, a “bull flattener.” Rest assured that no bulls were flattened by
the bond market Wednesday. Instead,
this means that this inversion came as a result of long-dated yields coming
down (a bullish event if you own bonds when this happens), rather than
because short-dated yields went up, which would be a “bear flattener.” As
this chart shows, bear flatteners are more common. The explanation for
this is that recessions usually come as the Federal Reserve raises short-term
rates. This time, the Fed stopped tightening eight months ago, and rates
have been heading down all year.
So if anything, this inversion does look different from
its predecessors, but scarier.
Next, rates on their
own are less significant than real rates, or those after inflation. Inflation
expectations have tumbled in recent weeks, but not as fast as yields. As a
result, real yields on 10-year
Treasuries have dropped to zero for the first time since before
election day in 2016:
Declines in real
yields show specific anxiety about future growth among investors. And the
last few months have seen a remarkable and coordinated drop in real
yields around the world. This chart from Bank of New York Mellon
illustrates this well:
With the exception of
Japan, marooned with low growth expectations for a generation, the tumble in
real rates over the last three months has been severe.
Then we move to
another problem with the other precedents, which is that they all,
without exception, happened with rates at higher levels. There is no
precedent for yields this low, and therefore there is no precedent for an
inversion at such low rates. This is a caveat that has hung over the
financial world for a decade. Many things look alarming and unsustainable,
but we simply have no experience to say whether they can be sustained with
rates this low.
The Federal Reserve Bank of New York has long published
an indicator of the probability of a recession within the next 12 months,
which is derived solely from the Treasury curve. The latest reading, from before the hectic
trading of the last two weeks, showed a
recession looking ever more likely. Indeed, if a recession is avoided,
this will be the highest probability the indicator has signaled without a
subsequent recession in more than 50 years:
So the Fed itself has
found that the yield curve works better than any other single leading
indicator from the real economy as a warning that a recession is coming. The New York Fed provides a good summary of
the evidence for this here.
And yet Janet Yellen, who stood down as chair of the Fed last year, said Wednesday
that this yield curve inversion may not be as good a recession indicator as
others. She said this on Fox Business
Network:
“Historically, it has been a pretty good
signal of recession, and I think that’s when markets pay attention to it, but
I would really urge that on this occasion it may be a less good signal. The
reason for that is there are a number of factors other than market
expectations about the future path of interest rates that are pushing down
long-term yields.”
It is true that much
of the buying is for reasons other than expectations about the future path of
interest rates. Falling yields make it
harder for pension funds to guarantee an income. Many around the world are
now obligated by regulators to buy bonds to be sure that they can meet their
liabilities, which helps to create a vicious circle. Lower yields mean that the funds need to buy more bonds, which pushes
down yields further, meaning that they need to buy still more bonds to
generate the same interest income. Further,
much of the current buying is part of a straight “carry trade,” as investors desperately
try to find a positive yield somewhere.
But there are limits to how far this argument can go. The last
inversion more than a decade ago took place against the background of what
the then Fed chairman Alan Greenspan called a “conundrum,” which was that
the Fed was raising short-term rates but long-term bonds yields fell
nonetheless. The most popular explanation was that this was due to a “savings
glut” outside the U.S. as countries led by China parked resources in
Treasuries and kept their yields down. That yield curve inversion was
followed by a big recession. The conundrum did not make it any less valid as
a recession indicator.
Yellen’s arguments
take us to the broader point that the financial economy – which has
featured rising asset prices for a decade – seems thoroughly
divorced from the real economy, which features large numbers of disgruntled
people who are not earning as much as they used to do. This is true as far as
it goes, but ignores the concept coined by George Soros of reflexivity. By
this, he meant that markets do not merely attempt to reflect economic
reality, but they also can affect that economic reality. If bond yields fall
sharply, then financial conditions are eased, for example. Markets can force
central banks’ hands.
And, unfortunately, an
inverted yield curve has real world effects however it came to be
inverted. Banks make their money by
borrowing for the short-term from depositors and lending at higher rates for
the longer term. When those rates invert (or merely flatten), it becomes far
harder for them to make profits. They
have less incentive to lend, and they have less capital with which to
withstand any risks. The inverted
yield curve has quite rationally spurred a tumble for bank stocks in the U.S.
and particularly in the euro zone. Banks are arguably less important to the
U.S. economy than they were a generation ago; they are still central to the
European economy, and further problems for European banks will create
problems for the U.S.
That leads to yet another argument to ignore this
latest yield curve inversion: that the pressure on the U.S. market at this
point is largely from beyond American shores. Europe is in the midst of a
deflation scare, and investors there are rushing to get yield wherever they can
– which means buying Treasuries. There are no good precedents for international
economic conditions bringing the U.S. into recession (give or take the oil embargoes of the
1970s).
Again, this makes
sense but only to a point. Post-globalization, it is far harder for the U.S.
to ignore events elsewhere in the world. The dollar is a critical point of
pressure. If its economy remains strong, its currency will be bid up and
that will dent American companies’ profits and render American exporters less
competitive. And at present, the differential between the yields available in
the U.S. and Europe is so wide that it puts huge upward pressure on the
dollar, something that Trump wants to avoid. This chart shows the spread
of U.S. over German 10-year yields over the last 10 years. Even after the dramatic drop in
Treasury yields of the last few days, it shows that there is still strong
upward pressure on the dollar:
This pressure is not
going to go away because German growth is terrible. The latest numbers,
which certainly contributed to the carnage in the Treasury market on
Wednesday, show that annual GDP growth had dropped to zero. The gap between
the growth of the two economies is widening. And Germany is a big exporter,
which stands to be hurt more than the U.S. by any fallout from a U.S.-China
trade war, so the prospects are for further upward pressure on the dollar:
So it would be unwise
to assume that the U.S. can ignore these events just because they are
generated outside the country. Unless it wishes to withdraw from the global
economy (which would be a bad idea), it is exposed to the global
economy. Further, there is the issue that the U.S. has benefited in recent
years from that exposure. China was critical in allowing the rest of the
world to escape from the recession that followed the Global Financial Crisis.
The huge stimulus it announced in late 2008, in the form of extra loans,
fired up the global economy. A the beginning of this year, investors’ working
assumption that another big stimulus was on the way from China, to avert the
risk of slowing. But the data that came out just before the bond market
swoon showed almost the opposite. If we look at a 12-month average (to avoid
the distorting effects caused by China’s shutdown for the lunar new year), we
see that new loan growth is actually slowing. This is nothing at all like the
huge stimulus of 2009:
This leaves one final objection, which is that
bond markets can get it wrong. This is true. I myself argued in this space only a few days ago that bonds
were in a classic investment bubble. But, unfortunately, the real and
financial economies cannot ignore each other. Overshooting in the bond market
has real effects on the real economy, which are likely to be negative.
Does all of this prove
that a recession is inevitable? No, nothing can do that. But it would be wise
to take this yield curve inversion seriously, and act on the assumption that the
chances of a recession have greatly increased. We should care about the inversion,
and we should care because it will affect the world we live in.
Silver lining for real
estate developers.
Few benefit from these
events, but real estate stocks are an exception. Oddly, real estate stocks
have performed very poorly since a real estate developer reached the White
House. But real estate investment trusts do pay out a regular
dividend from rents, and this makes them very popular when rates are
falling. Meanwhile banks are hammered by the flattening yield curve. And so, for the first time in the Trump
presidency, REITs are outperforming banks:
Please mark your calendar
10/17
1:30pm – 2:30pm, A Field Trip to Federal Reserve Regional
office at Jacksonville
Dress code: Business casual
Address: 800 Water Street
On Thursday, October 17, 2019 at 1:30 p.m, the tour will last for approximately an hour and a half. We are
located in downtown Jacksonville directly adjacent to the Prime Osborn
Convention Center.
Part of the tour experience is to expose our guests to the Jacksonville
Branch’s conservative banking environment. Please be aware that our
staff members adhere to a business casual dress requirement. The
business casual dress code (No Jeans, No Shorts, No flip flops) should be followed by all persons entering the building,
including members of tour groups.
Due to security enhancements, parking spaces will be limited
in the Branch’s parking lot. Upon arrival, your vehicle(s) will be
inspected by a Law Enforcement Officer, and you will be directed to the main
entrance of the Bank. NO weapons or cameras are allowed
on the premises (cellular phones must stay in the meeting room while
on tour) and proper identification is required. (For student tour
groups, only the lead chaperone will be required to show identification).
We do require all guests to pass through a metal detector, and all purses or
bags will pass through an x-ray machine.
Guests who have a working knowledge about money and the Federal
Reserve tend to be engaged and interested in the tour experience. Prior
to the tour, your group may be interested in watching the introduction to the
Federal Reserve found in Chapter 1 of the video The Federal Reserve and You. You may
also visitwww.federalreserveeducation.org for additional information about the Fed.
Chapter 5
Diversification – Part I Diversification
“Members of a Yale class entering their
prime giving years had decided to set up a private fund, manage the money
themselves, and give it to the University 25 years later. The worrisome part
for Yale was that it would have no control over the fund, which was going to
be invested in high-risk securities. What if all the money was blown by these
“amateurs"? And what if the scheme siphoned off other potential
donations?
Happily, everything turned out for the
best. Despite Yale’s initial efforts to discourage the Class of 1954 from its
plan, the class persisted. And last October, its leaders announced that their
original collective investment of $380,000 had grown to $70 million, earning
unalloyed gratitude from the University and the right to name two new Science
Hill buildings after their class.” ----- What is your opinion? Apple is one
of the stocks in their portfolio. So shall you pick stocks individually or
buy S&P500?
Shall you diversify or not? Let’s
compare AAPL with S&P500.
Stock returns from 1995-2015 - Apple and
S&P 500
Regress Apple’s Return on S&P500’s
Apple and S&P500’s Stand Deviation
Comparison
Questions for class discussion:
· Which one is better, the S&P500 or
Apple? In the past? About the future?
· Which one is riskier and which one’s
return is higher?
· Are you tempted to invest in APPLE or
SP500?
· How to find the next Apple?
· How much is the weight of Apple in
S&P500? For example, you have a total of $1,000 to invest in SP500, how
much you have invested in apple?
· How are the weights in the following
table calculated?
# |
Company |
Symbol |
Weight |
Price |
Chg |
% Chg |
1 |
4.235785 |
137.93 |
1.56 |
(1.14%) |
||
2 |
4.094413 |
244.00 |
4.04 |
(1.68%) |
||
3 |
2.973346 |
1,767.01 |
1.28 |
(0.07%) |
||
4 |
1.829871 |
186.50 |
4.16 |
(2.28%) |
||
5 |
1.662298 |
211.19 |
0.57 |
(0.27%) |
||
6 |
1.583532 |
125.19 |
0.40 |
(0.32%) |
||
7 |
1.509621 |
1,260.50 |
17.70 |
(1.42%) |
||
8 |
1.493949 |
1,259.00 |
17.80 |
(1.43%) |
||
9 |
1.354298 |
129.76 |
0.56 |
(0.43%) |
||
10 |
1.221317 |
172.87 |
2.01 |
(1.18%) |
||
11 |
1.194555 |
123.11 |
0.93 |
(0.76%) |
||
12 |
1.165838 |
69.75 |
0.66 |
(0.96%) |
||
13 |
1.119744 |
37.80 |
-0.37 |
(-0.97%) |
||
14 |
1.041670 |
31.42 |
0.22 |
(0.71%) |
||
15 |
1.038824 |
234.96 |
-2.24 |
(-0.94%) |
||
16 |
1.007168 |
60.90 |
0.13 |
(0.21%) |
||
17 |
0.981596 |
263.40 |
2.14 |
(0.82%) |
||
18 |
0.940563 |
130.87 |
-1.53 |
(-1.16%) |
||
19 |
0.925780 |
248.50 |
-0.98 |
(-0.39%) |
||
20 |
0.925690 |
51.98 |
-0.03 |
(-0.06%) |
https://www.slickcharts.com/sp500
Ticker |
Company Name |
6/30/2019 |
12/31/2018 |
12/31/2017 |
12/31/2016 |
12/31/2015 |
12/31/2014 |
MSFT |
Microsoft Corp. |
4.20% |
3.73% |
2.89% |
2.51% |
2.48% |
2.10% |
AAPL |
Apple Inc. |
3.54% |
3.38% |
3.81% |
3.21% |
3.28% |
3.55% |
AMZN |
Amazon.com Inc. |
3.20% |
2.93% |
2.05% |
1.54% |
1.45% |
0.65% |
FB |
Facebook Inc. |
1.90% |
1.50% |
1.85% |
1.40% |
1.33% |
0.72% |
BRK.B |
Berkshire Hathaway Inc |
1.69% |
1.89% |
1.67% |
1.61% |
1.38% |
1.51% |
JNJ |
Johnson & Johnson |
1.51% |
1.65% |
1.65% |
1.63% |
1.59% |
1.61% |
GOOG |
Alphabet Inc. Class C |
1.36% |
1.52% |
1.39% |
1.19% |
1.26% |
0.85% |
GOOGL |
Alphabet Inc. Class A |
1.33% |
1.49% |
1.38% |
1.22% |
1.27% |
0.84% |
XOM |
Exxon Mobil Corp. |
1.33% |
1.37% |
1.55% |
1.94% |
1.81% |
2.16% |
JPM |
JPMorgan Chase & Co. |
1.48% |
1.54% |
1.63% |
1.60% |
1.36% |
1.29% |
V |
Visa Inc. |
1.23% |
1.10% |
0.91% |
0.76% |
0.84% |
0.56% |
PG |
Procter & Gamble Co |
1.13% |
1.09% |
1.03% |
1.17% |
1.21% |
1.36% |
BAC |
Bank of America Corp. |
1.05% |
1.07% |
1.26% |
1.16% |
0.98% |
1.04% |
VZ |
Verizon Communications Inc |
0.97% |
1.11% |
0.95% |
1.13% |
1.05% |
1.07% |
INTC |
Intel Corp. |
0.88% |
1.02% |
0.95% |
0.89% |
0.91% |
0.95% |
CSCO |
Cisco Systems Inc |
0.96% |
0.93% |
0.83% |
0.79% |
0.77% |
0.78% |
UNH |
UnitedHealth Group Inc |
0.95% |
1.14% |
0.94% |
0.79% |
0.63% |
0.53% |
PFE |
Pfizer Inc. |
0.98% |
1.20% |
0.95% |
1.02% |
1.11% |
1.08% |
CVX |
Chevron Corp. |
0.97% |
0.99% |
1.04% |
1.15% |
0.95% |
1.17% |
T |
AT&T Inc. |
1.00% |
0.99% |
1.05% |
1.36% |
1.18% |
0.96% |
HD |
Home Depot Inc |
0.94% |
0.92% |
0.97% |
0.85% |
0.94% |
0.76% |
MRK |
Merck & Co Inc |
0.88% |
0.95% |
0.67% |
0.84% |
0.82% |
0.89% |
MA |
Mastercard Inc. |
0.97% |
0.82% |
0.62% |
0.51% |
0.54% |
0.45% |
BA |
Boeing Co. |
0.78% |
0.81% |
0.72% |
0.46% |
0.51% |
0.48% |
WFC |
Wells Fargo & Co |
0.78% |
0.93% |
1.18% |
1.29% |
1.41% |
1.43% |
http://siblisresearch.com/data/weights-sp-500-companies/
How to Calculate the Weights of Stocks
The weights of your stocks can play a big role in your
investment strategy. Here's how to calculate them.
Calculating the weights of stocks you own can be useful to your
investment strategy. For example, if your investment goal is to allocate no
more than 15% of your portfolio to any single stock, determining the weights
of the stocks in your portfolio can tell you whether or not you need to make
any changes. Here's how to calculate the weights of stocks, what this
information means to you, and an example of how you can use this.
Calculating the weights of
stocks
Basically, to determine the weights of each of your stocks,
you'll need two pieces of information. First, you'll need the cash values of
each of the individual stocks you want to find the weight of.
You'll also need your total portfolio value. If you want to
determine the weights of your stock portfolio, simply add up the cash value
of all of your stock positions. If you want to calculate the weights of your
stocks as a portion of your entire portfolio, take your entire account's
value – including stocks, bonds, cash, and any other investments.
The calculation is simple enough. Simply divide each of your
stock position's cash value by your total portfolio value, and then multiply
by 100 to convert to a percentage.
What the weights tell you
These weights tell you how dependent your portfolio's
performance is on each of your individual stocks. For example, your
portfolio's day-to-day fluctuations will depend much more on a stock that
makes up 20% of the total than one that only makes up 5%.
So, when your heavily weighted
stocks do well, your portfolio can go up quickly. For example, if a stock
with a 20% weight in a $50,000 portfolio doubles, it would mean a $10,000
gain. On the other hand, if a stock only makes up 2% of your portfolio, your
gain would only be $1,000, even though the stock itself was a home run.
Conversely, heavily weighted
stocks can drag your portfolio down during tough times, while lower-weighted
stocks will have a smaller effect.
Examining your portfolio: An
example
Let's say that you own the following stock investments: $2,000
of Microsoft, $3,000 of Wal-Mart, $2,500 of Wells
Fargo, and $4,000 of Johnson & Johnson. A quick
calculation shows that your total portfolio value is $11,500, and using the
formula mentioned earlier, you can calculate the weights of each of your four
stocks:
Stock |
Cash Value |
Weight |
Microsoft |
$2,000 |
17.4% |
Wal-Mart |
$3,000 |
26.1% |
Wells
Fargo |
$2,500 |
21.7% |
Johnson
& Johnson |
$4,000 |
34.8% |
In this example, Johnson & Johnson carries twice the weight
of Microsoft; therefore, a big move in J&J will have double the effect on
your overall portfolio than the same move in Microsoft would.
S&P 500 winners
and losers in 2018
Here are the 10 S&P 500 stocks that have performed the
best during 2018 through Dec. 4:
Company |
Ticker |
Industry |
Total return - 2018 through Dec.4 |
Total return - Sept. 28 through Dec. 4 |
Total Return - 2017 |
Advanced Micro Devices Inc. |
Semiconductors |
105% |
-32% |
-9% |
|
TripAdvisor Inc. |
Other Consumer Services |
83% |
24% |
-26% |
|
Advance Auto Parts Inc. |
Specialty Stores |
79% |
6% |
-41% |
|
Abiomed Inc. |
Medical Specialties |
75% |
-27% |
66% |
|
Fortinet Inc. |
Computer Communications |
68% |
-20% |
45% |
|
HCA Healthcare Inc. |
Hospital/Nursing Management |
64% |
2% |
19% |
|
Chipotle Mexican Grill Inc. |
Restaurants |
62% |
3% |
-23% |
|
Under Armour Inc. Class A |
Apparel/Footwear |
62% |
10% |
-50% |
|
Illumina Inc. |
Biotechnology |
53% |
-9% |
71% |
|
McCormick & Co. Inc. |
Food: Specialty/Candy |
51% |
15% |
11% |
|
Source: FactSet |
Here are this year’s 10 worst-performing S&P 500 stocks:
Company |
Ticker |
Industry |
Total return - 2018 through Dec.4 |
Total return - Sept. 28 through Dec. 4 |
Total Return - 2017 |
Coty Inc. Class A |
Household/Personal Care |
-59% |
-36% |
12% |
|
General Electric Co. |
Industrial Conglomerates |
-57% |
-36% |
-43% |
|
Mohawk Industries Inc. |
Home Furnishings |
-56% |
-31% |
38% |
|
Affiliated Managers Group Inc. |
Investment Managers |
-48% |
-23% |
42% |
|
Newfield Exploration Co. |
Oil & Gas Production |
-45% |
-40% |
-22% |
|
Western Digital Corporation |
Computer Peripherals |
-45% |
-26% |
20% |
|
Invesco Ltd. |
Investment Managers |
-44% |
-13% |
25% |
|
Dentsply Sirona Inc. |
Medical Specialties |
-44% |
-2% |
15% |
|
L Brands Inc. |
Apparel/Footwear Retail |
-41% |
11% |
-4% |
|
PG&E Corporation |
Electric Utilities |
-40% |
-42% |
-25% |
|
Source: FactSet |
HW chapter 5 -1 (Due with the second
mid-term exam)
1
Calculate the monthly stock return and risk of Apple and
SP500 in the past five years. And draw a conclusion regarding the tradeoff
between risk and return.
Steps:
From finance.yahoo.com, collect stock prices of the above firms,
in the past five years
Steps:
· Goto finance.yahoo.com, search for the
companies (Apple and S&P500, repectively)
· Click on “Historical prices” in the left
column on the top and choose monthly stock prices.
· Change the starting date and ending date to
“Oct 25th, 2014” and “Oct 25th, 2019”, respectively.
· Download it to Excel
· Delete all inputs, except “adj close” –
this is the closing price adjusted for dividend.
Evaluate the performance of each stock:
· Calculate the monthly stock returns.
· Calculate the average return
· Calculate standard deviation as a proxy for risk
Please use the
following excel file as reference.
2. Calculate the most
recent weight of Apple in SP500. Also calculate the weight of GOOGLE,
Amazon, Netflix.
Hint: please
use $25,951,050.9million for SP500 value. The website for this
information is here: http://siblisresearch.com/data/total-market-cap-sp-500.
3. Compare the above top
10 best and worst stocks and give it a try to summarizes about
the similarities among stocks in each group, such as location, industry
sector, etc. if you can find any.
Want to improve your personal finances? Start by taking this quiz
to get an idea of your investment risk tolerance – one of the fundamental
issues to consider when planning your investment strategy, either alone or in
consultation with a financial services professional. Investment risk tolerant test
Discussion: Based on your risk tolerant score,
which of the follow shall you choose? Why?
Example: Optimally diversified portfolio
1.
3.
For class discussion:
1. What
is value stock? Example?
2. What
is small cap value? Example?
3. What
is large value? Example?
4. Shall
we consider bond for diversification purpose?
5. Shall
we include international stocks to establish a diversified portfolio?
6. What
benefits can be gained from diversification with bond and international
stocks?
Mutual fund
vs. ETF
What is ETF? (Video)
Mutual Funds vs. ETFs -
Which Is Right for You? (Video)
For
discussion:
What one of the above funds is the most favorite one to
you? Why?
1.
How to tell the risk
level based on standard deviation shown in step 1?
2.
What is the difference
between rewarded risk and unrewarded risk? Example?
3.
Write down the CAPM
model.
4.
Among the four models
shown in step 3, which one is the best?
For class discussion:
What is ETF?
What is the pro and cons to invest in ETF?
Examples of ETF?
Examples
of ETF: Powershares (QQQ) – NASDAQ 100 Index (Large-cap
growth stocks)
For class discussion:
When we compare QQQ with S&P500,
which one is better in terms of performance in the past ten years?
Which one is riskier? Why?
QQQ is rebalanced quarterly and reconstituted annually
Average Volume:
36.1 million
Expenses: 0.20%
12-Month Yield:
1.00%
Sector
Weightings (top 5):
Information
Technology 54.47%; Healthcare 14.62%; Consumer Cyclical: 13.26%; Consumer
Defensive: 6.89%; Communication Services: 6.62%
Market-Cap
Allocations:
Large-cap
growth: 62.86%; large-cap blend: 20.53%; large-cap value: 7.38%; mid-cap growth:
4.57%; mid-cap blend: 2.98%; mid-cap value: 1.69%
Top 5 Holdings:
Apple
Inc. (AAPL):
14.53%
Microsoft
Corp. (MSFT):
6.79%
Google
Inc. (GOOG):
3.80%
Facebook Inc. (FB): 3.73%
Amazon.com,
Inc. (AMZN):
3.73%
Performance:
1-Year:
21.63%
3-Year:
17.10%
5-Year:
18.29%
10-Year:
12.07%
15-Year:
-0.19%
Dividend yield
0.74% dividend on yearly basis
Alpha, often considered the active
return on an investment, gauges the performance of an investment against
a market index used as a benchmark, since they are often considered to
represent the market’s movement as a whole. The excess returns of a fund relative to the return of a
benchmark index is the fund's alpha.
Alpha is most often used for mutual
funds and other similar investment types. It is often represented as a
single number (like 3 or -5), but this refers to a percentage measuring how
the portfolio or fund performed compared to the benchmark index (i.e. 3%
better or 5% worse).
Alpha is often used with beta, which measures
volatility or risk, and is also often referred to as “excess return” or
“abnormal rate of return”. (Investorpedia)
HW
chapter 5 -2 (Due with the
second mid-term exam)
Work on
this investment risk
tolerance test and report your score. Make a self-evaluation about
yourself in terms of your risk tolerance level. Based on your risk level, set
up a investment strategy! Please provide a rationale.
What Apple’s Stock Split Means for You
· By STEVEN RUSSOLILLO
WHAT IF APPLE NEVER SPLIT ITS STOCK? Apple has now split its
stock four times throughout its history. It previously conducted 2-for-1
splits on three separate occasions: February 2005, June 2000 and June 1987.
According to some back-of-the-envelop math by S&P’s Howard Silverblatt, if Apple never split its stock, you’d have
eight shares for each original one prior to the most recent split. So
Friday’s $645.57 closing level would translate to $5164.56 unadjusted for
splits.
No Here are five things you need to know about Apple’s
stock split.
WHO DOES THE STOCK SPLIT IMPACT? Investors who owned Apple
shares as of June 2 qualify for the stock split, meaning they get six
additional shares for every share held. So if an investor held one Apple share,
that person would now hold a total of seven shares. Apple also previously
paid a dividend of $3.29, which now translates into a new quarterly dividend
of $0.47 per share.
WHY IS APPLE DOING THIS? The iPhone and iPad maker says it is trying to attract a
wider audience. “We’re taking this action to make Apple stock more accessible
to a larger number of investors,” Apple CEO Tim Cook said in
April. But the comment also marked an about-face from two years earlier. At
Apple’s shareholder meeting in February 2012, Mr. Cook said he didn’t see the
point of splitting his company’s stock, noting such a move does “nothing” for
shareholders.
WILL APPLE GET ADDED TO THE DOW? It’s unclear at the moment,
although a smaller stock price certainly makes Apple a more attractive
candidate to get added to blue-chip Dow. Apple, the bigge, your screens aren’t lying to you. Shares of
Apple Inc. now trade under $100, a development that hasn’t happened in years.
Apple’s unorthodox 7-for-1 stock split, announced at the end of April,
has finally arrived. The stock started trading on a split-adjusted basis
Monday morning, and recently rose 1% to $93.14.
In a stock split, a company increases the number of shares
outstanding while lowering the price accordingly. Splits don’t change
anything fundamentally about a company or its valuation, but they tend to
make a company’s stock more attractive to mom-and-pop investors. Apple shares
rallied 23% from late April, when the company announced the split in
conjunction with a strong quarterly report, through Friday.
A poll conducted by our colleagues at MarketWatch found 50% of respondents said they would
buy Apple shares after the split. Some 31% said they already owned the stock
and 19% said they wouldn’t buy it. The survey received more than 20,000
responses.
st U.S. company by market capitalization,
has never been part of the historic 30-stock index, a factor that many
observers attributed to its high stock price. The Dow is a price-weighted
measure, meaning the bigger the stock price, the larger the sway for a
particular component. That is different from indexes such as the S&P 500,
which are weighted by market caps (each company’s stock price multiplied by
shares outstanding).
WILL APPLE KEEP RALLYING? Since the financial crisis, companies
that have split their stocks have struggled in the short term and
outperformed the broad market over a longer time horizon. Since 2010, 57
companies in the S&P 500 have split their shares. Those stocks have
averaged a 0.2% gain the day they started trading on a split-adjusted basis,
according to New York research firm Strategas Research Partners. A month later, they have risen just
0.5%. But longer term, the average gains are more pronounced. Since 2010,
these stocks have averaged a 5.4% increase three months after a split and a
28% surge one year later, Strategas says.
WHAT IF APPLE NEVER SPLIT ITS STOCK? Apple has now split its
stock four times throughout its history. It previously conducted 2-for-1
splits on three separate occasions: February 2005, June 2000 and June 1987.
According to some back-of-the-envelop math by S&P’s Howard Silverblatt, if Apple never split its stock, you’d have
eight shares for each original one prior to the most recent split. So
Friday’s $645.57 closing level would translate to $5164.56 unadjusted for
splits.
For class discussion:
Why Apple needs to do
so? Is that necessary? Why Google does not follow Apple and make its stock
price cheaper and affordable?
Mutual Funds, ETFs
Nab $20.77 Billion for Week Ended Oct. 18, Biggest Since June
Oct. 25, 2017, at 5:27 p.m.
NEW YORK (Reuters) - Total estimated inflows to long-term
mutual funds and exchange-traded funds (ETFs) were $20.77 billion for the
week ended Oct. 18, the biggest attraction of cash since mid-June, as
investors put money to work at the start of the fourth quarter against the
backdrop of rising global equity markets, the Investment Company Institute
reported Wednesday.
Estimated mutual fund inflows were $3.91 billion while estimated
net issuance for ETFs was $16.86 billion. Equity funds had estimated inflows
of $12.61 billion for the week, compared to estimated inflows of $3.41
billion in the previous week.
Domestic equity funds had estimated inflows of $6.97 billion,
and world equity funds had estimated inflows of $5.64 billion. Jim Paulsen,
chief investment strategist at The Leuthold Group, said investors
face a difficult asset allocation decision as 2017 comes to a close.
"Should you stay invested for further gains in the stock
market yet this year, or should you begin to get more defensive considering
economic surprise momentum is likely to fade early next year?" Paulsen
asked. "Our best guess is the stock market will trend higher through
year-end but may struggle during the first half of next year."
So far this year, the Standard & Poor 500 Index has posted
returns of over 14 percent while the Hang Seng Indexes Co has
posted returns of 28.65 percent.
The ferocious appetite for income has also pushed investors
into bond funds despite falling yield levels.
Bond funds had estimated inflows of $9.31 billion for the
week, compared to estimated inflows of $9.14 billion during the previous
week. Taxable bond funds saw estimated inflows of $8.38 billion, and
municipal bond funds had estimated inflows of $931 million.
Commodity funds, which are ETFs that invest primarily in
commodities, currencies, and futures, had estimated outflows of $428 million
for the week, compared to estimated inflows of $265 million in the previous
week.
For discussion: People
are no aware of the market turmoil. Can you believe it? Are we all rational
investors?
The
big mistake mutual-fund investors make
Published: Apr 21, 2017 4:04 a.m. ET
11By PAULA. MERRIMAN
You have probably
heard about what's known as the DALBAR effect. It's the fact that, as a
group, mutual-fund investors underperform the funds in which they invest.
Quick background:
The reason for this effect, amply documented over nearly a quarter-century by
a Boston research firm, is investors' behavior.
In short, mutual
fund shareholders tend to buy and sell based on their emotional reactions to
bull markets and bear markets, real or expected. Their timing is usually
wrong, and in the end they would have done better by buying and holding.
OK, here's the bad
news: If you're average, chances are you will underperform the funds that you
own.
But here's the good
news: I've discovered a group of investors who are apparently doing just the
opposite: They are outperforming the funds they own.
To understand how
that's possible, you'll need to bear with me as I walk through some steps. For
your patience, you will be rewarded at the end with my suggestion for how you
too may be able to perform what seems to be a minor financial miracle.
I first discovered
this anomaly while I was comparing target-date retirement funds offered by
Fidelity and Vanguard.
What I found is more
than just coincidence: It appears in the latest 10-year performance results
in four pairs of retirement funds — those with target dates of 2020, 2030,
2040 and 2050.
Let's take the
Vanguard and Fidelity 2020 funds as examples. The numbers are clear on two
points.
· The Vanguard fund has higher returns.
· While investors in the Fidelity fund
(consistent with the DALBAR effect noted above), achieved lower returns than
those of the fund itself, investors in Vanguard's 2020 fund achieved higher
results than the fund.
Here are the
numbers:
For the 10 years
ended March 31, 2017, the Fidelity 2020 Freedom Fund
FFFDX compounded at 4.47%, while investor returns (provided by
Morningstar Inc.) were only 3.13%. The Vanguard Target Retirement 2020 Fund
VTWNX compounded at 5.23%, and investor returns were 6.53%.
How is it possible
to have such a large additional return?
The Vanguard fund
return is based on the assumption of a lump-sum initial investment made at
the end of March 2007 with no further additions or withdrawals other than
reinvestment of dividends.
The investor return
tracks the dollars that investors as a group actually invested, and when they
invested them. (I'll come back to that point in a moment.)
Here are the
comparable results for three other pairs of target-date funds.
2030: Fidelity
FFFEX grew at 4.66%; investor returns were only 3.53%. Vanguard
VTHRX grew at 5.31%; investor returns were 7.58%.
2040: Fidelity FFFFX
grew at 4.78%; investor returns were only 4.17%.
Vanguard VFORX, -0.40%
grew at 5.69%; investor returns were 8.49%.
2050: Fidelity FFFHX, -0.41%
grew at 4.61%; investor returns were 6.92%. (No, that's not a typo; stay
tuned.) Vanguard VFIFX, -0.39%
grew at 5.71%; investor returns were 8.70%.
In every case, the
Vanguard funds achieved higher performance. That's not hard to explain:
Fidelity's funds charge higher expenses, hold more cash, use active
management and have much higher turnover.
But those things
don't explain how investors in five of these eight funds did the seemingly
impossible: outperformed the funds in which they invested.
I think the answer
is to be found in investor behavior.
Target-date fund shareholders
are typically setting money aside methodically for their eventual retirement
through regular withdrawals from their paychecks.
You probably know
the name for this practice: dollar-cost averaging (DCA), investing the same
amount every month or every pay period.
DCA lets investors
take advantage of the rise and fall of stock prices by automatically buying
more shares when prices are low and fewer shares when prices are high. The
result: The average price paid per share is lower than the average of all the
prices at which those shares were bought.
I think this
explains the higher investor returns in five of these eight funds.
Two questions
remain:
· Why did Vanguard investors outperform while
those in three of the four Fidelity funds lagged?
· Why did investors in Fidelity's 2050 fund do
better than investors in the other three Fidelity funds under study?
Though I can't back
up my answers with numbers, I'll take a stab at answering these questions.
Both answers, I believe, come down once again to investors' collective
behavior.
To answer the first
question, I think Vanguard simply attracts a different sort of investor than
Fidelity.
· Vanguard marketing emphasizes the firm's low
costs, its index funds, the higher quality of its stocks and bonds and its
buy-and-hold culture. Vanguard urges investors to accept the returns of the
market.
· Fidelity's marketing focuses on active
managers who pick stocks, backed up by impressive stock analysts. Fidelity
urges investors to seek higher performance.
OK, but so why did
investors in Fidelity's 2050 fund outperform the fund itself, while those in
the 2020, 2030 and 2040 funds underperformed?
Here I have to
speculate. I'm guessing that investors with an eye on a 2050-ish retirement
are younger and often have less money with which they want to try to beat the
odds.
For this reason, I
suspect that such investors are less likely to try to second-guess the
market's ups and downs and more likely to simply trust their funds.
I promised a
suggestion for how you might be able to outperform a fund you're invested in.
My best suggestion
is to use dollar-cost averaging. This will keep your average cost-per-share
down. And it will keep you investing regularly. Both are extremely good
habits.
However, at the risk
of throwing cold water on a good idea, I have to point out that DCA makes a
positive difference only over extended periods, and only during periods when
the market ends up higher than it started. (The reason for this is simple:
Even if you buy at below-average prices, if your investment loses money over
the long run, it loses money. Sorry about that.)
The latest 10-year
period (like most 10-year periods) was a positive one for stock investors.
The most recent eight years were especially strong, with the S&P 500
index SPX, -0.47% appreciating
by more than 300% (including reinvestment of dividends).
Although things
won't always be that good, the market historically goes up about two-thirds
of the time and down only one-third.
So if you take a
long-term perspective, keep your expectations realistic and adopt excellent
investing habits, I think there's a good chance you, like many of Vanguard's
target-date investors, will be able to do the seemingly impossible.
For discussion:
What is suggested by
the author? Do you agree?
Index funds are more popular
than ever—here’s why they’re a smart investment
Published
Thu, Sep 19 201911:40 AM EDT
Alicia Adamczyk@ALICIAADAMCZYK
U.S. stock index funds are more popular than actively managed
funds for the first time ever, according to investment research firm Morningstar. As of August 31, these index funds held
$4.27 trillion in assets, compared to $4.25 trillion in active funds.
Index funds were created by Jack Bogle almost 45 years ago as a way for everyday investors to
compete with the pros. They’re designed to be simple, all-in-one investments:
Rather than picking stocks you or your fund manager thinks will out-perform
the market, you own all of the stocks in a certain market index, like the
S&P 500 or the Dow Jones Industrial Average.
The thinking isn’t that you’ll beat the market, but rather
that you’ll keep up with it. And considering that the stock market has historically increased in
value over time, that pays off for
retirement investors.
Index funds have turned out to be a huge win for retirement
savers and other non-finance professionals for many reasons. First, because
you’re not paying someone to pick stocks for you anymore, index funds tend to
be less expensive for investors than actively managed funds: The average
expense ratio of passive funds was 0.15% in 2018, compared to
0.67% for active funds, Morningstar reported. The original index fund,the Vanguard 500, has an expense ratio of just 0.04%.
Index funds also typically make trades less often than active
funds, which leads to fewer fees and lower taxes.
Consistently buy an S&P 500 low-cost
index fund. I think it’s the thing that makes the most sense practically all
of the time.
Warren Buffett
CEO
OF BERKSHIRE HATHAWAY
“Costs really matter in investments,” investing icon Warren
Buffett told CNBC in 2017. “If returns are going to be seven or 8%
and you’re paying 1% for fees, that makes an enormous difference in how much
money you’re going to have in retirement.”
Second, index funds tend to perform better over the long term
than actively managed funds, making them ideal for people investing for
retirement. It’s incredibly hard for a person to pick stocks that will beat
the market and even harder to do so consistently over decades.
In fact, the majority of large-cap funds have under-performed the S&P
500 for nine years running. “While a fund manager may outperform for a year or two, the
outperformance does not persist,” CNBC reported. “After 10 years, 85% of
large-cap funds underperformed the S&P 500, and after 15 years, nearly
92% are trailing the index.” Large-cap funds are made up of the publicly
traded companies with the biggest market capitalizations.
Where active funds theoretically have a leg up is during
periods of market volatility. The theory is that the managers will be able to
shield their investors from some of the market’s deviations. But that wasn’t
the case in 2018, for example, when managers still under-performed indexes,
despite a rocky fourth quarter.
For the everyday investor looking to build wealth long term,
that all adds up to make low-cost index funds a go-to investment.
“Consistently buy an S&P 500 low-cost index fund,” Buffett said. “I think it’s the thing that makes the most sense
practically all of the time.”
Bitcoin
had a wild weekend, briefly topping $10,000, after China’s Xi sang
blockchain’s praises
PUBLISHED MON, OCT 28 20195:42 AM EDTUPDATED MON, OCT 28
20199:49 AM EDT
Bitcoin’s price rose sharply over the weekend,
recovering from a plunge just days earlier, after Chinese President Xi
Jingping gave a speech embracing blockchain technology and calling on
his country to advance development in the field.
The value of the world’s best-known cryptocurrency jumped as
high as $10,332 on Saturday, according to data from industry website
CoinDesk. The price has since eased to around $9,370 as of Monday morning, up
about 1% on the day.
The virtual currency’s jump came as China’s leader sang the
praises of blockchain, the technology that underpins cryptocurrencies like
bitcoin. According to state media, Xi said Friday that China has a strong foundation and should
look to take a leading position in the sector.
He reportedly said China should “seize the opportunity” offered
by blockchain, adding the technology could benefit a range of industries
including finance, education and health care. A blockchain is a digital
ledger that maintains a record of transactions or other data across a network
of computers.
Beijing has taken a tough stance on cryptocurrencies, banning a fundraising exercise known
as an initial coin offering and forcing local trading platforms to shut down
in 2017.
China’s central bank, the People’s Bank of China (PBOC), has
been working on its own digital currency. It has accelerated its development
in recent months as Facebook and a handful of other companies look to
shake up the global financial services industry with a cryptocurrency called
libra.
The PBOC set up a research team back in 2014 to explore the use
of virtual currencies to reduce the costs involved in circulating traditional
paper-based money. A senior official at the bank said last month that the
planned digital token would bear some similarities to libra.
Libra has come under intense scrutiny from regulators around the
world, who worry Facebook’s proposed digital asset would disrupt the
financial system and could be open to risks like money laundering and
terrorist financing.
Lawmakers last week grilled Facebook CEO Mark Zuckerberg over the project. Zuckerberg at one point said the social
network would not take part in launching libra “until U.S. regulators
approve.”
Though Facebook has led the initiative so far, the tech giant
has been trying to keep a distance between it and the Switzerland-based Libra Association that oversees the
currency’s development. The consortium lost key initial supporters
including Mastercard and Visa earlier this month, leaving it
with just 21 founding members.
Bitcoin has been on the rise this year and is currently up
nearly 150% year-to-date. That marks a significant turnaround from last year,
when the digital coin tanked to as low as $3,122 after hitting an all-time
high of close to $20,000 in December 2017.
Analysts had attributed some of the cryptocurrency’s 2019 gains to headlines around companies like Facebook, Fidelity and New York Stock Exchange owner International Exchange getting involved in the space, the logic being that it brings some much-needed legitimacy to an industry that has in the past been clouded by major cyber attacks and scams.
Chapter 8 Stock Market
Part I: Stock
Market Popular Websites
Stock screening tools
Reuters stock screener
to help select stocks
http://stockscreener.us.reuters.com/Stock/US/
FINVIZ.com
http://finviz.com/screener.ashx
WSJ stock screen
http://online.wsj.com/public/quotes/stock_screener.html
Simply the Web's Best
Financial Charts
How to pick stocks
Capital Asset Pricing Model (CAPM)Explained
https://www.youtube.com/watch?v=JApBhv3VLTo
Fama French 3 Factor Model Explained
https://www.youtube.com/watch?v=zWrO3snZjuA
Ranking stocks using PEG ratio
https://www.youtube.com/watch?v=bekW_hTehNU
Class discussion topics and homework
(Are the following statements right or wrong? Why?, due with the second
mid-term exam)
1:
My investment in company A is a sure thing.
2: I
would never buy stocks now because the market is doing terribly.
3: I
just hired a great new broker, and I am sure to beat the market.
4:
My investments are well diversified because I own a mutual fund that
tracks the S&P 500.
5: I
made $1,000 in the stock market today.
6: GM’s earning report is better than expected. But GM stock
price went down instead of going up after the earning news was released. How
come?
7: Paypal’s price has gone up so much in the past
several months. I should invest in Paypal now.
Part II: Behavior
Finance
Behavior Finance Introduction PPT
Vanguard Behavior Finance Lecture PPT -
FYI
Behavior Finance Class Notes - FYI
0:18 Anchoring Bias 1:22 Availability Bias 2:22 Bandwagon Effect 3:09 Choice Supportive Bias 3:50 Confirmation Bias 4:30 Ostrich Bias 5:20 Outcome Bias 6:12 Overconfidence 6:52 Placebo Effect 7:44 Survivorship Bias 8:32 Selective Perception 9:08 Blindspot Bias
Homework: (due with the second mid-term
exam)
·
Among the 12 biases explained in the above video, pick three
biases that have the biggest impact on you, and explain what they are using
examples.
·
Explain with examples of the following concepts:
gambler’ fallacy, mental accounting, disposition effect?
For class discussion:
What is gambler’s fallacy? Is that common?
For class discussion:
What is mental accounting? Is that common?
For class discussion:
What is disposition effect? Is that
common?
(video, FYI, a class taught by Dr. Shiller at Yale, the Noble winner)
Chapter 9 Options and Futures
Class discussion topics:
· Apple price will go up because of the
holiday shopping season. Google price could fall based on some news you just
heard. Anticipating large changes in stock prices of Apple and Google, how
shall you act?
· You just bought GM stocks. You worried
for GM price might fall. What can you do to ease your mind?
Options are derivative
contracts that give the holder the right, but not the obligation, to buy or
sell the underlying instrument at a
specified price on or before a specified future date. Although the holder
(also called the buyer) of the option is not obligated to exercise the
option, the option writer (known as the seller) has an obligation to buy
or sell the underlying instrument if the option is exercised.
Depending on the strategy, option trading can provide a variety of benefits
including the security of limited risk and the advantage of leverage. Options
can protect or enhance an investor’s
portfolio in rising, falling and neutral markets. Regardless of the
reasons for trading options or the strategy employed, it is important to
understand the factors that determine the value of an option. This tutorial
will explore the factors that influence option pricing, as well as several
popular option pricing models that are used to determine the theoretical
value of options. (www.investopedia.com)
CBOE
free option calculator (great
tool to calculate option prices)
Call
and Put price of AAPL on Google Finance
Call
and Put price of AAPL on Nasdaq
Call Options & Put Options
Explained Simply In 8 Minutes
Part II: Futures
Futures
market explained (video)
Discussion Topics:
·
Future
market
F = forward rate
S = spot rate
r1 = simple interest rate of the term
currency
r2 = simple interest rate of the base
currency
Example
of Future market
· http://www.cmegroup.com/trading/agricultural/dairy/cheese.html
·
Market data is delayed by at
least 10 minutes.
·
All market data contained within the CME Group website should be considered
as a reference only and should not be used as validation against, nor as a
complement to, real-time market data feeds. Settlement prices on instruments
without open interest or volume are provided for web users only and are not
published on Market Data Platform (MDP). These prices are not based on market
activity.
Month |
Options |
Charts |
Last |
Change |
Prior Settle |
Open |
High |
Low |
Volume |
Hi / Low Limit |
Updated |
||
NOV 2019 |
2.135 |
-0.004 |
2.139 |
2.132 |
2.135 |
2.132 |
2 |
2.162 / 2.012 |
20:34:22 CT |
||||
DEC 2019 |
- |
- |
2.081 |
- |
- |
- |
0 |
2.156 / 2.006 |
20:34:22 CT |
||||
JAN 2020 |
- |
- |
1.905 |
- |
- |
- |
0 |
1.980 / 1.830 |
20:34:22 CT |
||||
FEB 2020 |
- |
- |
1.803 |
- |
- |
- |
0 |
1.878 / 1.728 |
20:34:22 CT |
||||
MAR 2020 |
- |
- |
1.775 |
- |
- |
- |
0 |
1.850 / 1.700 |
20:34:22 CT |
||||
APR 2020 |
- |
- |
1.776 |
- |
- |
- |
0 |
1.851 / 1.701 |
20:34:22 CT |
||||
MAY 2020 |
- |
- |
1.785 |
- |
- |
- |
0 |
1.860 / 1.710 |
20:34:22 CT |
||||
JUN 2020 |
- |
- |
1.794 |
- |
- |
- |
0 |
1.869 / 1.719 |
20:34:22 CT |
||||
JUL 2020 |
- |
- |
1.808 |
- |
- |
- |
0 |
1.883 / 1.733 |
20:34:22 CT |
||||
AUG 2020 |
- |
- |
1.815 |
- |
- |
- |
0 |
1.890 / 1.740 |
20:34:22 CT |
||||
SEP 2020 |
- |
- |
1.821 |
- |
- |
- |
0 |
1.896 / 1.746 |
20:34:22 CT |
||||
OCT 2020 |
1.802 |
-0.004 |
1.806 |
1.802 |
1.802 |
1.802 |
1 |
1.881 / 1.731 |
20:34:22 CT |
||||
NOV 2020 |
- |
- |
1.783 |
- |
- |
- |
0 |
1.858 / 1.708 |
20:34:22 CT |
||||
DEC 2020 |
- |
- |
1.759 |
- |
- |
- |
0 |
1.834 / 1.684 |
20:34:22 CT |
||||
JAN 2021 |
- |
- |
1.710 |
- |
- |
- |
0 |
1.785 / 1.635 |
20:34:22 CT |
||||
FEB 2021 |
- |
- |
1.680 |
- |
- |
- |
0 |
1.755 / 1.605 |
20:34:22 CT |
||||
MAR 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
20:34:22 CT |
||||
APR 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
20:34:22 CT |
||||
MAY 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
20:34:22 CT |
||||
JUN 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
20:34:22 CT |
||||
JUL 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
20:34:22 CT |
||||
AUG 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
17:58:13 CT |
||||
SEP 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
17:58:26 CT |
||||
OCT 2021 |
- |
- |
1.675 |
- |
- |
- |
0 |
1.750 / 1.600 |
17:58:39 CT |
||||
NOV 2021 |
- |
- |
- |
- |
- |
- |
0 |
No Limit / No
Limit |
- |
·
o Home
Work
Please refer the articles
on the right and answer the following questions.
1. Why
is there a futures market for Cheese and butter?
2. Who are the buyers and sellers
of the futures contract?
3. Why is the futures market for
cheese and butter getting more popular?
4. Why is there a futures market
for bitcoin?
Bullish
option strategies example on optionhouse
Bearish
option strategies example on optionhouse
Options Trading:
Understanding Option Prices
What is margin call
https://www.youtube.com/watch?v=PVvsCAWtFF8
https://www.youtube.com/watch?v=pfMmNJFerJg
https://www.youtube.com/watch?v=unM_0Vh00K4
Foreign Exchange Market
https://www.youtube.com/watch?v=-qvrRRTBYAk
https://www.youtube.com/watch?v=PKnUmbL9IVY
Bullish
option strategies example onoptionhouse
Bearish
option strategies example onoptionhouse
Why
Cheese Options and Butter Futures Are More Popular Than Ever
By Shruti Singh and Lydia Mulvany
October 26, 2017, 2:09 PM EDT
More traders than ever are trying to get their
hands on cheese and butter contracts traded in Chicago.
Open interest, or outstanding contracts, for
cash-settled cheese options climbed to a record 41,832 on Wednesday, Chris
Grams, a spokesman for the CME Group Inc., said in an email Thursday. The
measure for cash-settled butter options and futures also rose to an all-time
high at 15,206.
More farmers, big food companies and
speculators are joining the market as demand for dairy products grows, said
Eric Meyer, president of HighGround Dairy
in Chicago. Record open interest for options indicates “participants
are more savvy” about hedging risk, he said.
Software innovations are also making hedging
more user-friendly, said Brian Rice, founder and principal of risk management
firm Rice Dairy.
“The holdouts continue to break down,” Rice
said. “The pool keeps growing.”
Tue
Oct 31 2017
CHICAGO, Oct. 31, 2017 /PRNewswire/
-- CME Group, the world's leading
and most diverse derivatives marketplace, today announced it intends to launch bitcoin futures in the fourth quarter of 2017,
pending all relevant regulatory review periods.
The new contract
will be cash-settled, based on the CME CF BitcoinReference Rate (BRR) which serves as a
once-a-day reference rate of the U.S. dollar price of bitcoin. Bitcoin futures
will be listed on and subject to the rules of CME.
"Given
increasing client interest in the evolving cryptocurrencymarkets,
we have decided to introduce a bitcoin futures
contract," said Terry Duffy, CME Group Chairman and Chief
Executive Officer. "As the world's largest regulated FX
marketplace, CME Group is the natural home for this new vehicle that will
provide investors with transparency, price discovery and risk transfer
capabilities."
Since November 2016,
CME Group and Crypto Facilities Ltd. have
calculated and published the BRR, which aggregates the trade flow of
major bitcoin spot exchanges during a
calculation window into the U.S. Dollar price of one bitcoin as
of 4:00 p.m. London time. The
BRR is designed around the IOSCO Principles for Financial Benchmarks. Bitstamp, GDAX, itBit and
Kraken are the constituent exchanges that currently contribute the pricing
data for calculating the BRR.
"We are
excited to work with CME Group on this product and see the BRR used as the
settlement mechanism of this important product," said Dr.Timo Schlaefer, CEO of Crypto Facilities. "The BRR
has proven to reliably and transparently reflect global bitcoin-dollar trading and has become the price reference
of choice for financial institutions, trading firms and data providers
worldwide."
CME Group and
Crypto Facilities Ltd. also publish the CME CF Bitcoin Real Time Index (BRTI) to
provide price transparency to the spot bitcoin market.
The BRTI combines global demand to buy and sell bitcoin into
a consolidated order book and reflects the fair, instantaneous U.S. dollar price
of bitcoin in a spot price. The BRTI is
published in real time and is suitable for marking portfolios, executing
intra-day bitcoin transactions and risk
management.
Cryptocurrency market capitalization has grown in recent years to $172 billion,
with bitcoin representing more than 54
percent of that total, or $94 billion. The bitcoin spot market has also grown to trade roughly $1.5 billion in
notional value each day.
For more
information on this product, please visit cmegroup.com/bitcoinfutures.
As the world's
leading and most diverse derivatives marketplace, CME Group (www.cmegroup.com) is where the world comes to manage
risk. Through its exchanges, CME Group offers the widest range of
global benchmark products across all major asset classes, including futures
and options based on interest rates, equity index, , foreign exchange
energy.
, agriculture
products and metals. CME Group provides electronic trading
globally on its CME Globex platform. The
company also offers clearing and settlement services across asset classes for
exchange-traded and over-the-counter derivatives through CME clearning. CME Group's products and services ensure
that businesses around the world can effectively manage risk and achieve
growth.
Second Mid-term exam 11/19/2019
Second
Mid Term Exam Study Guide
1. Draw cash flow graph of a bond with 6 years left to maturity, 6% coupon rate.
2. Fed reduced interest rate. Do you think that it is safer to invest in junk bond when interest rates are low? Or just the opposite? Why or why not?
3.Why does Moody downgrade Ford’s bond to Junk bond? Do you support the decisions of the other two rating agencies giving an investment grade bond rating to Ford’s bond? (based on “Moody's cuts Ford credit rating to 'junk' status”. What are the differences between investment grade bond and junk bond?
3. Write
down the names of the three credit rating agencies. How much do you trust those rating
agencies? Are those rating agencies private or public firms?
4. How
are the credit ratings assigned?
5. What is yield
curve? How can a yield curve become inverted? What does an inverted yield
curve tell us?
6. Date 1 Mo 3 Mo 6 Mo 1 Yr 2
Yr 3 Yr 5 Yr 7 Yr 10 Yr 20
Yr 30 Yr
01/03/17 0.52 0.53 0.65 0.89 1.22 1.50 1.94 2.26 2.45 2.78 3.04
Use the above information and draw the yield curve on
“1/3/17” . |
7.
What do the above graphs tell us from the perspective of
diversification?
8.
What is S&P500 index? What is QQQ? What are the advantages
to invest in the ETFs such as S&P500 and QQQ?
9. Components of
the S&P 500
# |
Company |
Symbol |
Weight |
Price |
Chg |
% Chg |
1 |
4.235785 |
137.93 |
1.56 |
(1.14%) |
||
2 |
4.094413 |
244.00 |
4.04 |
(1.68%) |
||
3 |
2.973346 |
1,767.01 |
1.28 |
(0.07%) |
||
4 |
1.829871 |
186.50 |
4.16 |
(2.28%) |
||
5 |
1.662298 |
211.19 |
0.57 |
(0.27%) |
Based on the above table, explain how to calculate the weight of
each company.
Why the weight of Microsoft is higher than that of Apple? Note
that the stock price of Apple is much higher than that of Microsoft.
10.
Explain
what does the above graph tell us? Please be specific and detailed.
11.
What is value stock? Example?
12. What is small cap
value? Example?
13. What is large value? Example?
14. What is ETF? What are the differences between ETF and
mutual fund.
15. How can we
evaluate the performance of a mutual fund?
16. What is CAPM? What is the risk factor in CAPM?
17. My investment in company A is a sure thing. T/F? Why?
18.
I would never buy
stocks now because the market is doing terribly. T/F? Why?
19.
I just hired a great
new broker, and I am sure to beat the market. T/F? Why?
20.
My investments are
well diversified because I own a mutual fund that tracks the S&P 500.
T/F? Why?
21.
I made $1,000 in the
stock market today. T/F? Why?
22.
GM’s earning report
is better than expected. But GM stock price went down instead of going up
after the earning news was released. How come? T/F? Why?
23.
Paypal’s price has
gone up so much in the past several months. I should invest in Paypal
now. T/F? Why?
24. Use an example to explain what is over confidence bias
25. Use an example to explain what is mental accounting
26. Use an example to explain what is gambler’s fallacy
27. Use an example to explain what is disposition effect
28. Use an example to explain what is bandwagon effect?
29. Use an example to explain what is anchoring bias?
30. What is call option?
31. What is put option?
32. What is a futures contract?
Chapter 11 - 14: Commercial Banking and Investment
Banking
PPT2 Commercial banking II (Balance sheet)
Wells Fargo’s Balance
Sheet http://www.nasdaq.com/symbol/wfc/financials?query=balance-sheet
Period
Ending: |
Trend |
12/31/2017 |
12/31/2016 |
12/31/2015 |
12/31/2014 |
|||||||||||||||||||||||||||||
Current
Assets |
||||||||||||||||||||||||||||||||||
Cash
and Cash Equivalents |
|
$804,721,000 |
$769,111,000 |
$701,611,000 |
$669,180,000 |
|||||||||||||||||||||||||||||
Short-Term
Investments |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Net
Receivables |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Inventory |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Other
Current Assets |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Total
Current Assets |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Long-Term
Assets |
||||||||||||||||||||||||||||||||||
Long-Term
Investments |
|
$1,500,546,000 |
$1,492,375,000 |
$1,367,337,000 |
$1,274,408,000 |
|||||||||||||||||||||||||||||
Fixed
Assets |
|
$8,847,000 |
$8,333,000 |
$8,704,000 |
$8,743,000 |
|||||||||||||||||||||||||||||
Goodwill |
|
$26,587,000 |
$26,693,000 |
$25,529,000 |
$25,705,000 |
|||||||||||||||||||||||||||||
Intangible
Assets |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Other
Assets |
|
$119,805,000 |
$115,947,000 |
$96,821,000 |
$100,299,000 |
|||||||||||||||||||||||||||||
Deferred
Asset Charges |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Total
Assets |
|
$1,951,757,000 |
$1,930,115,000 |
$1,787,632,000 |
$1,687,155,000 |
|||||||||||||||||||||||||||||
Current
Liabilities |
||||||||||||||||||||||||||||||||||
Accounts
Payable |
|
$70,615,000 |
$57,189,000 |
$59,445,000 |
$86,122,000 |
|||||||||||||||||||||||||||||
Short-Term
Debt / Current Portion of Long-Term Debt |
|
$103,256,000 |
$96,781,000 |
$97,528,000 |
$63,518,000 |
|||||||||||||||||||||||||||||
Other
Current Liabilities |
|
$1,335,991,000 |
$1,306,079,000 |
$1,223,312,000 |
$1,168,310,000 |
|||||||||||||||||||||||||||||
Total
Current Liabilities |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Long-Term
Debt |
|
$8,796,000 |
$14,492,000 |
$13,920,000 |
$0 |
|||||||||||||||||||||||||||||
Other
Liabilities |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Deferred
Liability Charges |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Misc.
Stocks |
|
$0 |
$0 |
$0 |
$0 |
|||||||||||||||||||||||||||||
Minority
Interest |
|
$1,143,000 |
$916,000 |
$893,000 |
$868,000 |
|||||||||||||||||||||||||||||
Total
Liabilities |
|
$1,744,821,000 |
$1,730,534,000 |
$1,594,634,000 |
$1,502,761,000 |
|||||||||||||||||||||||||||||
Stock
Holders Equity |
||||||||||||||||||||||||||||||||||
Common
Stocks |
|
$9,136,000 |
$9,136,000 |
$9,136,000 |
$9,136,000 |
|||||||||||||||||||||||||||||
Capital
Surplus |
|
$60,893,000 |
$60,234,000 |
$60,714,000 |
$60,537,000 |
|||||||||||||||||||||||||||||
Retained
Earnings |
|
$145,263,000 |
$133,075,000 |
$120,866,000 |
$107,040,000 |
|||||||||||||||||||||||||||||
Treasury
Stock |
|
($29,892,000) |
($22,713,000) |
($18,867,000) |
($13,690,000) |
|||||||||||||||||||||||||||||
Other
Equity |
|
($3,822,000) |
($4,702,000) |
($1,065,000) |
$2,158,000 |
|||||||||||||||||||||||||||||
Total
Equity |
|
$206,936,000 |
$199,581,000 |
$192,998,000 |
$184,394,000 |
|||||||||||||||||||||||||||||
Total
Liabilities & Equity |
|
$1,951,757,000 |
$1,930,115,000 |
$1,787,632,000 |
$1,687,155,000 |
Topics for class discussion
1. Anything wrong of the above balance sheet
of Wells Fargo? Where do the loans and deposits go?
Finance
& Accounting Facts : Understanding Bank Financial Statements (VIDEO)
FRM:
Bank Balance Sheet & Leverage Ratio (VIDEO)
2. Why do we need banks?
3. What is bank run? It is rare.
Why?
4. Why are banks reluctant to
lend out to small business, but offer loans to
homebuyers?
For example, the bank has
one million dollars that can be lent out. Shall the bank lend it out to a
small business owner or to a house buyer?
Use the following information
to make your judgment.
– Risk level
of Example
0% US
gov bond
20% Muni
issued by city, state, and Fannie and Freddie
50% Mortgage
100% Anything
else such as loans to business
Basel III requires 7% of
capital based on the risk weighted assets (RWA).
5. Too big to fail. What
is too big to fail (Bloomberg university) video
Warren
Buffett on Too Big to Fail (video)
How can you tell that
banks are getting bigger and bigger? Who need big banks? --- for class
discussion
6. The scope of investment banks
· Market Making
· Merger and Acquisition Advisory
· Prop trading
· IPO and SEO underwriter
· Structured financial products
7. How
can you draw your own conclusions from the following table.
|
EPS |
Expected |
Profit |
Revenue |
|
Trading Revenue |
NII |
|||
|
|
EPS |
ROE |
Net Int. Income |
||||||
|
|
|
3Q 2016 |
3Q 2015 |
3Q 2016 |
3Q 2015 |
|
3Q 2016 |
3Q 2015 |
|
J.P. Morgan |
$1.58 |
$1.39 |
$6.3B |
$6.8B |
$24.7B |
$22.8B |
10% |
$5.7B |
$4.3B |
$11.6B |
Citigroup |
$1.24 |
$1.16 |
$3.8B |
$4.3B |
$17.8B |
$18.7B |
7% |
$4.1B |
$3.6B |
$11.5B |
Wells Fargo |
$1.03 |
$1.01 |
$5.6B |
$5.8B |
$22.3B |
$21.9B |
12% |
$0.4B |
0.0B |
$12.0B |
Bank of America |
$0.41 |
$0.34 |
$5.0B |
$4.6B |
$21.6B |
$21.0B |
7% |
$3.7B |
$3.1B |
$10.2B |
Goldman Sachs |
$4.88 |
$3.82 |
$2.1B |
$1.4B |
$8.2B |
$6.9B |
11% |
$3.7B |
$3.2B |
$0.6B |
Morgan Stanley |
$0.81 |
$0.63 |
$1.6B |
$1.0B |
$8.9B |
$7.8B |
9% |
$3.2B |
$2.7B |
$1.0B |
http://graphics.wsj.com/bank-earnings/
Homework
(Due with final)
Question 1: the bank has one million dollars
that can be lent out. Shall the bank lend it out to a small business owner or
to a house buyer? (refer to Power Point Slides)
Use the following information to
make your judgment.
– Risk level
of Example
0% US
gov bond
20% Muni
issued by city, state, and Fannie and Freddie
50% Mortgage
100% Anything
else such as loans to business
Basel III requires 7% of capital
based on the risk weighted assets (RWA).
Question
2: Read the two
articles (available ŕ>>>>>>)
regarding banks after financial crisis and explain why US banks are in much
better shape than European banks.
Question 3: Pick a commercial bank in US and an
investment bank. Compare the two companies in terms of firm assets, liability
and equity, scope of business, ROE, in 2019. Draw conclusions based on your observation.
Question
4: what is bank run? Shall we worry about the occurrence of bank run? Why or why not?
Question 5: What is too big to fail? How can a
bank become so big? Can a big bank fail? Why or why not?
https://www.youtube.com/watch?v=Ssa5WNnbGsw&feature=relmfu
https://www.youtube.com/watch?v=bhBQizelZP8&list=ULbhBQizelZP8
First
handout article:
A decade after the crisis, how are the
world’s banks doing?
Though
the effects of the financial crisis in 2007-08 are still reverberating, banks
are learning to live with their new environment, writes Patrick Lane. But are
they really safer now?
May 6th 2017, Economist Special Edition
THE ELECTION OF Donald Trump as America’s
45th president dismayed most of New York; Mr Trump’s home city had voted
overwhelmingly for another local candidate, Hillary Clinton. But Wall Street
cheered. Between polling day on November 8th and March 1st, the S&P 500
sub-index of American banks’ share prices soared by 34%; finance was the
fastest-rising sector in a fast-rising market. At the time of the election
just two of the six biggest banks, JPMorgan Chase and Wells Fargo, could
boast market capitalisations that exceeded the net book value of their
assets. Now all but Bank of America and Citigroup are in that happy position.
Banks’ shares were already on the up,
largely because markets expected the Federal Reserve to raise interest rates
after a long pause. It obliged in December and March, with three more rises
expected this year. That should enable banks to widen the margin between
their borrowing and lending rates from 60-year lows. Mr Trump’s victory added
an extra boost by promising to lift America’s economic growth rate. He wants
to cut taxes on companies, which would fatten banks’ profits directly as well
as benefiting their customers. He has also pledged to loosen bank regulation,
the industry’s biggest gripe, declaring on the campaign trail that he would
“do a big number” on the Dodd-Frank Wall Street Reform and Consumer
Protection Act, which overhauled financial regulation after the crisis.
So have the banks at last put the crisis
behind them? This special report will argue that many of them are in much
better shape than they were a decade ago, but the gains are not evenly spread
and have further to go. That is particularly true in Europe, where the banks’
recovery has been distinctly patchy. The STOXX Europe 600 index of bank share
prices is still down by two-thirds from the peak it reached ten years ago
this month. European lenders’ returns on equity average just 5.8%.
America’s banks are significantly stronger.
In investment banking, they are beating European rivals hollow. They are no
longer having to fork out billions in legal bills for the sins of the past,
and they are at last making a better return for their shareholders. Mike
Mayo, an independent bank analyst, expects their return on tangible equity
soon to exceed their cost of capital (which he, like most banks, puts at 10%)
for the first time since the crisis.
But financial crises cast long shadows, and
even in America banks are not back in full sun yet. Despite the initial Trump
rally, the S&P 500 banks index is still about 30% below the peak it
reached in February 2007 (see chart). Debates about revising America’s
post-crisis regulation are only just beginning. And the biggest question of
all has not gone away: are banks—and taxpayers—now safe enough?
Plenty of Americans, including many who
voted for Mr Trump, are still suspicious of big banks. The crisis left a good
number of them (though few bankers) conspicuously poorer, and resentment
easily bubbles up again. Last September Wells Fargo, which had breezed
through the crisis, admitted that over the past five years it opened more
than 2m ghost deposit and credit-card accounts for customers who had not
asked for them. The gain to Wells was tiny, and the fine of $185m was
relatively modest. But the scandal cost John Stumpf, the chief executive, and
some senior staff their jobs, as well as $180m in forfeited pay and shares.
Wells has been fighting a public-relations battle ever since, and mostly
losing.
This report will take stock of the banking
industry, chiefly in America and Europe, a decade after the precipitous fall
from grace of banks on both sides of the Atlantic (see article). The
origins of the crisis lay in global macroeconomic imbalances as well as in
failures of the financial system’s management and supervision: a surfeit of
savings in China and other surplus economies was financing an American
borrowing and property binge. American and European banks, economies and
taxpayers bore the brunt.
Banks in other parts of the world, by and
large, fared far better. In Australia and Canada, returns on equity stayed in
double figures throughout. It helped that Australia has just four big banks
and Canada five, which all but rules out domestic takeovers and keeps margins
high. As commodity prices have sagged recently, so has profitability in both
countries, but last year Australia’s lenders returned 13.7% on equity and
Canada’s 14.1%, results that banks elsewhere can only envy.
Japan’s biggest banks, which had been reckless
adventurers in the heady 1980s and 1990s, did not remain wholly unscathed.
Mizuho suffered most, writing down about Ą700bn ($6.8bn). The Japanese were
able to pick through Western debris for acquisitions to supplement meagre
returns at home. Some chose more wisely than others: MUFG’s stake in Morgan
Stanley was a bargain, whereas Nomura’s purchase of Lehman Brothers’ European
business proved a burden. Chinese lenders were mostly bystanders at the time,
remaining focused on their domestic market.
The seven consequences of apocalypse
Ask bankers what has changed most in their
industry in the past decade, and top of their list will be regulation. A
light touch has been replaced by close oversight, including “stress tests” of
banks’ ability to withstand crises, which some see as the biggest change in
the banking landscape. Before the crisis, says the chief financial officer of
an international bank, his firm (and others like it) carried out internal
stress tests, for which it collected a few thousand data points. When his
bank’s main supervisor started conducting tests after the crisis, the number
of data points leapt to the hundreds of thousands. It is now in the low
millions, and still rising. The number of people working directly on
“controls” at JPMorgan Chase, America’s biggest bank, jumped from 24,000 in
2011 (the year after the Dodd-Frank act, the biggest reform to financial
regulation since the 1930s) to 43,000 in 2015. That works out at one employee
in six.
The second big change is far more demanding
capital requirements, together with new rules for leverage and liquidity.
Bankers and supervisors agree that the crisis exposed banks’ equity cushions
as dangerously thin. For too many, leverage was the path first to profit and
then to ruin. Revised international rules, known as Basel 3 (still a work in
progress), have forced banks to bulk up, adding equity and convertible debt
to their balance-sheets. The idea is that a big bank should be able to absorb
the worst conceivable blow without taking down other institutions or needing
to be rescued. Between 2011 and mid-2016 the world’s 30 “globally
systemically important” banks boosted their common equity by around €1trn
($1.3trn), mostly through retained earnings, says the Bank for International
Settlements in Basel.
Third, returns on equity have been lower
than before the crisis. In part, that is a natural consequence of a bigger
equity base. But the fallout from the crisis has also squeezed returns in another
way. Central banks first pushed interest rates to ultra-low levels and then
followed up with enormous purchases of government bonds and other assets.
This was partly intended to help banks, by making funding cheaper and
boosting economies. But low rates and flat yield curves compress interest
margins and hence profits.
Balance-sheets have been stuffed with cash,
deposited at central banks and earning next to nothing. According to Oliver
Wyman, a consulting firm, the share of cash in American banks’ balance-sheets
jumped from 3% before the crisis to a peak of 20% in 2014. As the world
economy is at last reviving after several false starts, earnings may pick up
in Europe as well as in America.
Sweat your assets
Fourth, sluggish revenues, combined with the
competing demands of supervisors and shareholders, have forced banks to screw
down their costs and to think much harder about how best to use scarce
resources. “If I’m going to get a good return on a high amount of capital,
I’d better focus on what I’m good at,” says Jim Cowles, Citigroup’s boss in
Europe, the Middle East and Africa. Citi, which under Sandy Weill in the late
1990s had become a sprawling financial supermarket, selling everything from
investment-banking services to insurance, has retreated to become chiefly a
corporate and investment bank, much as it had been in the 1970s and 1980s.
Its bosses emphasise its “network”, a presence in nearly 100 countries that
multinationals’ treasurers can count on. It once also had retail banks in 50
countries, many of them second-string. That total is now down to 19.
Such retreat from marginal businesses has
also meant fewer jobs and lower bonuses, even if bankers’ pay is still the
envy of most. That has brought about a fifth change: banks have become less attractive
employers for high-powered graduates. “The brightest people no longer want to
go to banks but to Citadel [a hedge-fund firm],” laments a senior banker.
Some millennials, he adds, are drawn to technology companies instead. Others
“don’t want to deal with business at all”. That is because of a sixth change:
the financial sector’s reputation was trashed by the crisis. One scandal
followed another as the story of the go-go years unfolded: providing
mortgages to people who could not afford them; mis-selling securities built
upon such loans; selling expensive and often useless payment-protection
insurance; fixing Libor, a key interest rate; rigging the foreign-exchange
market; and much more.
Seventh and last, financial technology is
becoming ever more important. That may be better news for banks than it
sounds, despite the creakiness of some of their computer systems. Plenty of
financial startups are trying to muscle in on their business, but in a highly
regulated industry heavyweight incumbents are harder to usurp than
booksellers or taxi drivers. As a result, there is a good chance of banks and
technology companies forming mutually beneficial partnerships to improve
services to their customers rather than fighting each other.
Spriha Srivastava | @spriha May 2017 Published 4:49 AM ET Wed, 12
July 2017
Global investors seem to be getting bullish on banks
Stateside, but the European banking system is still falling behind.
Plagued by a number of factors such as an ultra-loose monetary
policy environment, high levels of non-performing loans, uncertainty caused by
the U.K.'s vote to exit the European Union and massive fines, the European
banking industry has a long way to go in order to catch up with its American
counterparts.
Recently, for the first time since the financial crisis, the
U.S. Federal Reserve did not object to any of the capital plans of 34 banks
it reviewed in the second part of the annual stress tests implemented in the
wake of the crisis. U.S. banking stocks rose sharply after the Fed announced
its review. The impact was seen in Europe as well where bank stocks rose more
than a percent following the optimism of their peers Stateside.
"The big U.S. banks will get bigger," David Coker,
lecturer in accounting, finance and governance at Westminster Business
School, told CNBC via email.
Coker, who is also a former vice president of global risk
management at Deutsche Bank, added that share prices of American banks were
already surging in expectation, and the combination of share repurchases and
dividend hikes will make future capital raises much easier.
Big banks like JPMorgan and Citigroup announced their largest
ever stock repurchase program of $19.4 billion and $15.6 billion
respectively. Buybacks occur when firms purchase their own shares, reducing
the proportion in the hands of investors. Like dividend payments, buybacks
offer a way to return cash to shareholders, and usually, see a company's
stock push higher as shares get scarcer. Citigroup also doubled its dividends
while Bank of America and Morgan Stanley hiked their quarterly dividends to
12 cents a share and 25 cents a share, respectively.
"Profitable banking is all about economies of scale; as
the U.S. banks get bigger, costs will continue to tumble and a virtuous cycle
realized," Coker said.
Coker thinks that driven by Brexit uncertainty and a need to
maintain continental access, we will see more American banks going on a
"shopping spree."
"Again, in mergers and acquisitions (M&A), size
matters. To get an idea of just how large American banks are, a single U.S.
bank such as JP Morgan is larger than the combined capitalization of banks in
Spain, Germany, France and Italy."
European banks are constantly shrinking in size. Blame it on
the financial crisis, the low-interest rate environment or the massive fines
that these banks have had to incur, but the sector is gradually starting to
lose its charm.
Globally, banks have paid about $321 billion in fines since
the 2008 financial crisis as regulators have stepped up scrutiny, according
to a note by the Boston Consulting Group. North American banks accounted for
nearly 63 percent of the total fines as U.S. regulators have been more
effective in imposing penalties and recovering fines from the banks compared
to their counterparts in Europe and Asia. But the gradual rate hike path from
the U.S. Federal Reserve has eased the pressure on the profitability of
American banks. Rising rates are good for banks since they are able to lend
out money to investors at a profitable rate of interest. Lower interest rates
restrict the bank's ability to make profits thus adding pressure on margins.
In the last year, lenders like RBS, Credit Suisse, Deutsche
Bank and BNP have announced their plans to close operations that they see as
less profitable. Banks across Europe have also seen mergers and
consolidation, especially in Spain and Italy in order to save banks from
going bankrupt, which could lead to a bigger systemic risk across the region.
"Consolidation in Spain and Italy represents a risk to the
acquiring banks, and was driven by necessity," Colin McLean, managing
director at SVM Asset Management, told CNBC via email.
"I expect more bail-ins to resolve problems. Only good
targets for acquiring banks are those with significant deposit bases and
limited legacy and nonperforming loan (NPL) problems. Some form of EU
Troubled Asset Relief Program (TARP) is still possible for banks on the
periphery with impaired loans, if the European banking association can
persuade Germany of it."
A bail-in is rescuing a financial institution that is ailing
and on the brink of a crisis. It generally happens before bankruptcy such as
in the case of Banco Popular in Spain. This, however, is different from a
bailout where external parties such as a state government may rush to rescue
a financial institution using taxpayers money. A bail-in is seen as an
alternative to a bailout - the use of state funds to help out an ailing bank.
A bail-in is the rescue of a financial institution by making its creditors
and depositors take a loss on their holdings.
The last few months have seen a number of European banks and
governments take on a different approach in order to avert yet another
banking crisis. Recently, Spanish lender Santander agreed to buy domestic
rival Banco Popular for a symbolic price of one euro after the European
Central Bank declared the latter was "failing or likely to fail."
"The significant deterioration of the liquidity situation
of the bank in recent days led to a determination that the entity would have,
in the near future, been unable to pay its debts or other liabilities as they
fell due," announced the ECB in a statement last month.
Following on from this, the Italian government decided to wind
down two failed regional banks last month in a deal that could cost the state
up to 17 billion euros ($19 billion), leaving the lenders' good assets in the
hand's the nation's biggest retail bank, Intesa Sanpaolo.
The government is set to pay 5.2 billion euros to Intesa, and
give it guarantees of up 12 billion euros, so that it will take over the
remains of Popolare di Vicenza and Veneto Banca, which collapsed after years
of mismanagement and poor lending.
Just a week after that, the Italian government swooped in to
save another bank. Finance Minister Pier Carlo Padoan announced earlier last
week that the government had received approval from the European Commission
to pump 5.4 billion euros into Banca Monte deiPaschi di Siena (BMPS) in
exchange for the lender undertaking a major restructuring overhaul.
While these developments in the last few months have led to a
rally among European stocks, it has also highlighted the trend of
consolidation and mergers that the European banking space is moving towards.
"This is clearly necessary, but only if the sector also
downsizes to an appropriate level," University of Westminster's Coker
told CNBC.
"Europeans are notoriously overbanked on many levels.
Consolidation is meaningless if economies of scale aren't pursued. While
there has been downsizing post crisis, more must be done. At the same time we
need to see European SMEs (small to medium-sized businesses) pursuing market
driven sources of capital rather than relying solely upon bank finance. Both
will drive borrowing costs down," he added.
While the European banking sector is plagued with uncertainty,
a number of analysts think that there is no way out unless the banks start to
clear out their non-performing loans. The biggest problem of non-performing
loans in Europe can be seen in Italian banks with loans estimated to total
around 360 billion euros ($401 billion).
Coker explained that presently the Italian NPLs roughly triple
the EU average.
"The fundamental problem seems to be the courts – a
bankruptcy can take almost eight years to clear, and we have seen some cases
drag on for decades. This helps nobody. Many NPLs are routinely carried at 30
percent or so of face value, however investors are willing to pay perhaps 10
percent. While we are seeing some entities enter into deals with third
parties (e.g., UniCredits' $20 billion bad loan sale to Pimco), perhaps half
of all NPLs are unsecured."
He further explained that a recovery is uncertain so banks are
sometimes loathed to realize losses. "The Italian government has to take
a hard line, and make balance sheet cleansing a priority," he offered.
But with the Italian government taking on a strong fast-track
approach to solving the banking crisis, there seems to be some hope for the
European banking sector in general. The latest move towards consolidation and
mergers have also helped offset factors such as low interest rates and
massive fines. The road however is still tough ahead.
"Things won't get better until European banks
substantially clear NPLs and begin to aggressively cut costs," Coker
said.
He further explained that the most challenging bit is that
cost cutting isn't proceeding at an acceptable pace, and there are
divergences between hard and soft data even as central banks globally are
shifting to policy stances of less, not more, accommodation.
"Of course a steeping yield curve favors banks, however,
the impact of the first interest rate hikes in almost a decade can't be
forecast with certainty."
Despite the looming NPL crisis, some analysts remain hopeful.
"There should be some improvement over the next year as Europe's
recovery gathers steam. But NPL problems in the periphery and the ailing
mutual need to be addressed," SVM's McLean said.
Federal Reserve and Monetary Policy
Part I - Fed Introduction
For discussion:
3.
What is FOMC? How many members? How
many time does FOMC meet? What is determined at FOMC meeting?
4.
What is reserve bank? For our area,
where is the reserve bank located?
5.
What is board of governor? How many
members? Who is the chair?
For discussion:
1.
How to conduct monetary policy?
2.
What is the role of Fed?
3.
What is the role of New York Fed?
The FOMC holds eight regularly scheduled
meetings during the year and other meetings as needed. Links to policy
statements and minutes are in the calendars below. The minutes of regularly
scheduled meetings are released three weeks after the date of the policy
decision.
Federal open market
committee meeting calendars, minutes and statement (2013-2018)
January
29-30
Statement:
PDF | HTML
Longer-Run Goals and Policy Strategy
Statement Regarding Monetary Policy Implementation
and Balance Sheet Normalization
Minutes:
PDF | HTML
(Released February 20, 2019)
March
19-20*
Statement:
PDF | HTML
Implementation Note
Press Conference
Projection
Materials
PDF | HTML
Balance Sheet Normalization Principles and Plans
Minutes:
PDF | HTML
(Released April 10, 2019)
April/May
30-1
Statement:
PDF | HTML
Implementation Note
Minutes:
PDF | HTML
(Released May 22, 2019)
June
18-19*
Statement:
PDF | HTML
Implementation Note
Press Conference
Projection
Materials
PDF | HTML
Minutes:
PDF | HTML
(Released July 10, 2019)
July
30-31
Statement:
PDF | HTML
Implementation Note
Minutes:
PDF | HTML
(Released August 21, 2019)
September
17-18*
Statement:
PDF | HTML
Implementation Note
Press Conference
Projection
Materials
PDF | HTML
Minutes:
PDF | HTML
(Released October 09, 2019)
October
4 (unscheduled)
Statement:
PDF | HTML (Released October 11, 2019)
Minutes: See
end of minutes of October 29-30 meeting
October
29-30
Statement:
PDF | HTML
Implementation Note
Minutes:
PDF | HTML
(Released November 20, 2019)
December
10-11*
* Meeting associated with a Summary of Economic Projections.
FEDERAL RESERVE statistical release
H.4.1
Factors Affecting Reserve Balances of Depository Institutions
and Condition Statement of Federal Reserve Banks |
November 29, 2019 |
https://www.federalreserve.gov/releases/h41/current/h41.htm#h41tab9
For class discussion: The security
holding has increased in the following balance sheet. Why? Does it has an
impact on interest rate?
Consolidated Statement
of Condition of All Federal Reserve Banks
Millions of dollars
Assets, liabilities, and
capital |
Eliminations from
consolidation |
Wednesday |
Change since |
|
Wednesday |
Wednesday |
|||
Nov 20, 2019 |
Nov 28, 2018 |
|||
Assets |
||||
Gold certificate account |
11,037 |
0 |
0 |
|
Special drawing rights
certificate account |
5,200 |
0 |
0 |
|
Coin |
1,621 |
- 37 |
- 70 |
|
Securities,
unamortized premiums and discounts, repurchase agreements, and loans |
3,994,379 |
+ 22,072 |
- 42,909 |
|
Securities held outright1 |
3,674,569 |
+ 14,665 |
- 234,425 |
|
U.S. Treasury securities |
2,248,498 |
+ 28,137 |
- 4,619 |
|
Bills2 |
106,516 |
+ 22,503 |
+ 106,516 |
|
Notes and bonds, nominal2 |
1,992,602 |
+ 5,603 |
- 122,782 |
|
Notes and bonds,
inflation-indexed2 |
124,372 |
0 |
+ 8,793 |
|
Inflation compensation3 |
25,008 |
+ 31 |
+ 2,854 |
|
Federal agency debt
securities2 |
2,347 |
0 |
- 62 |
|
Mortgage-backed securities4 |
1,423,724 |
- 13,473 |
- 229,744 |
|
Unamortized premiums on
securities held outright5 |
125,635 |
- 575 |
- 16,086 |
|
Unamortized discounts on
securities held outright5 |
-13,108 |
- 115 |
+ 404 |
|
Repurchase agreements6 |
207,243 |
+ 8,084 |
+ 207,243 |
|
Loans |
40 |
+ 14 |
- 44 |
|
Net portfolio holdings of
Maiden Lane LLC7 |
0 |
0 |
- 7 |
|
Items in process of
collection |
(0) |
83 |
+ 26 |
+ 1 |
Bank premises |
2,205 |
+ 12 |
+ 5 |
|
Central bank liquidity
swaps8 |
47 |
- 1 |
- 21 |
|
Foreign currency
denominated assets9 |
20,493 |
- 114 |
+ 10 |
|
Other assets10 |
17,809 |
+ 668 |
- 1,305 |
|
Total assets |
(0) |
4,052,875 |
+ 22,626 |
- 44,295 |
Note: Components may not sum to totals because of rounding.
Footnotes appear at the end of the table.
4. Consolidated
Statement of Condition of All Federal Reserve Banks (continued)
Millions of dollars
Assets, liabilities, and
capital |
Eliminations from
consolidation |
Wednesday |
Change since |
|
Wednesday |
Wednesday |
|||
Nov 20, 2019 |
Nov 28, 2018 |
|||
Liabilities |
||||
Federal Reserve notes, net
of F.R. Bank holdings |
1,744,018 |
+ 6,345 |
+ 85,513 |
|
Reverse repurchase
agreements11 |
281,921 |
- 18,993 |
+ 54,606 |
|
Deposits |
(0) |
1,981,509 |
+ 35,136 |
- 185,525 |
Term deposits held by
depository institutions |
0 |
0 |
0 |
|
Other deposits held by
depository institutions |
1,559,719 |
+ 29,561 |
- 198,962 |
|
U.S. Treasury, General
Account |
358,896 |
+ 1,345 |
+ 26,560 |
|
Foreign official |
5,181 |
- 2 |
- 76 |
|
Other12 |
(0) |
57,712 |
+ 4,231 |
- 13,047 |
Deferred availability cash
items |
(0) |
904 |
+ 776 |
+ 437 |
Other liabilities and
accrued dividends13 |
5,623 |
- 638 |
+ 903 |
|
Total liabilities |
(0) |
4,013,975 |
+ 22,626 |
- 44,066 |
Capital accounts |
||||
Capital paid in |
32,075 |
0 |
- 229 |
|
Surplus |
6,825 |
0 |
0 |
|
Other capital accounts |
0 |
0 |
0 |
|
Total capital |
38,900 |
0 |
- 229 |
Part II: Monetary Policy
The Fed Explains Monetary
Policy (video)
The Tools of Monetary
Policy (video)
Discussion:
Which side are you on?
For class discussion:
1. Three approaches to conduct Monetary policy.
2. What
is easing (expansionary) monetary (policy? What
is contractionary monetary policy?
3. Draw
supply and demand curve to show the results when Fed purchases (sells)
Treasury securities.
4. Compare
fed fund rate with discount rate. Which
rate is targeted by Fed to implement monetary policy?
6. What
is open market operation? Segment 406: Open Market
Operations(video of Philadelphia Fed)
Prime rate, federal funds rate,
COFI UPDATED: 11/26/2019 |
|||
THIS WEEK |
MONTH AGO |
YEAR AGO |
|
Fed Funds Rate (Current target
rate 1.50-1.75) |
1.75 |
2.00 |
2.25 |
What
it means: The interest rate
at which banks and other depository institutions lend money to each other,
usually on an overnight basis. The law requires banks to keep a certain
percentage of their customer's money on reserve, where the banks earn no
interest on it. Consequently, banks try to stay as close to the reserve limit
as possible without going under it, lending money back and forth to maintain
the proper level.
How
it's used: Like the federal
discount rate, the federal funds rate is used to control the supply of available
funds and hence, inflation and other interest rates. Raising the rate makes
it more expensive to borrow. That lowers the supply of available money, which
increases the short-term interest rates and helps keep inflation in check.
Lowering the rate has the opposite effect, bringing short-term interest rates
down.
Interest on Required
Reserve Balances and Excess Balances
http://www.federalreserve.gov/monetarypolicy/reqresbalances.htm
The
Federal Reserve Banks pay interest on required reserve balances and on excess
reserve balances. The Board of Governors has prescribed rules governing the
payment of interest by Federal Reserve Banks in Regulation D (Reserve
Requirements of Depository Institutions, 12 CFR Part 204).
The Financial Services
Regulatory Relief Act of 2006 authorized the Federal Reserve
Banks to pay interest on balances held by or on behalf of depository
institutions at Reserve Banks, subject to regulations of the Board of
Governors, effective October 1, 2011. The effective date of this authority
was advanced to October 1, 2008, by the Emergency Economic Stabilization
Act of 2008.
The interest rate on required reserves (IORR rate) is
determined by the Board and is intended to eliminate effectively the implicit
tax that reserve requirements used to impose on depository institutions. The
interest rate on excess reserves (IOER rate) is also determined by the Board
and gives the Federal Reserve an additional tool for the conduct of monetary
policy. According to the Policy Normalization Principles and
Plans adopted by the Federal Open Market Committee (FOMC), during
monetary policy normalization, the Federal Reserve intends to move the
federal funds rate into the target range set by the FOMC primarily by
adjusting the IOER rate. For the current setting of the IOER rate.
The Board will continue to evaluate the appropriate settings
of the interest rates on reserve balances in light of evolving market
conditions and will make adjustments as needed.
The interest rates on reserve balances that are set forth in
the table below are determined by the Board and officially announced in the
most recent implementation note. The table is generally updated each business
day at 4:30 p.m., Eastern Time, with the next business day's rates. This
table will not be published on federal holidays.
Interest Rates on Reserve
Balances for December 3, 2019 |
Rates |
Effective |
Rate on Required Reserves (IORR rate) |
1.55 |
10/31/2019 |
Rate on Excess Reserves (IOER rate) |
1.55 |
10/31/2019 |
What is discount rate?
http://www.frbdiscountwindow.org/currentdiscountrates.cfm?hdrID=20&dtlID= (Discount
window borrowing rate)
Current
Discount Rates
District |
Primary Credit Rate |
Secondary Credit Rate |
Effective Date |
Boston |
2.75% |
3.25% |
09-27-2018 |
New
York |
2.75% |
3.25% |
09-27-2018 |
Philadelphia |
2.75% |
3.25% |
09-27-2018 |
Cleveland |
2.75% |
3.25% |
09-27-2018 |
Richmond |
2.75% |
3.25% |
09-27-2018 |
Atlanta |
2.75% |
3.25% |
09-27-2018 |
Chicago |
2.75% |
3.25% |
09-27-2018 |
St.
Louis |
2.75% |
3.25% |
09-27-2018 |
Minneapolis |
2.75% |
3.25% |
09-27-2018 |
Kansas
City |
2.75% |
3.25% |
09-27-2018 |
Dallas |
2.75% |
3.25% |
09-27-2018 |
San
Francisco |
2.75% |
3.25% |
09-27-2018 |
Current Discount Rates |
|||
District |
Primary Credit Rate |
Secondary Credit Rate |
Effective Date |
Boston |
1.00% |
1.50% |
12-17-2015 |
New York |
1.00% |
1.50% |
12-17-2015 |
Philadelphia |
1.00% |
1.50% |
12-17-2015 |
Cleveland |
1.00% |
1.50% |
12-17-2015 |
Richmond |
1.00% |
1.50% |
12-17-2015 |
Atlanta |
1.00% |
1.50% |
12-17-2015 |
Chicago |
1.00% |
1.50% |
12-17-2015 |
St. Louis |
1.00% |
1.50% |
12-17-2015 |
Minneapolis |
1.00% |
1.50% |
12-17-2015 |
Kansas City |
1.00% |
1.50% |
12-17-2015 |
Dallas |
1.00% |
1.50% |
12-17-2015 |
San Francisco |
1.00% |
1.50% |
12-17-2015 |
Discount Rates Before 12/17/2015 |
|||
District |
Primary Credit Rate |
Secondary Credit Rate |
Effective Date |
Boston |
0.75% |
1.25% |
02-19-2010 |
New York |
0.75% |
1.25% |
02-19-2010 |
Philadelphia |
0.75% |
1.25% |
02-19-2010 |
Cleveland |
0.75% |
1.25% |
02-19-2010 |
Richmond |
0.75% |
1.25% |
02-19-2010 |
Atlanta |
0.75% |
1.25% |
02-19-2010 |
Chicago |
0.75% |
1.25% |
02-19-2010 |
St. Louis |
0.75% |
1.25% |
02-19-2010 |
Minneapolis |
0.75% |
1.25% |
02-19-2010 |
Kansas City |
0.75% |
1.25% |
02-19-2010 |
Dallas |
0.75% |
1.25% |
02-19-2010 |
San Francisco |
0.75% |
1.25% |
02-19-2010 |
No Homework assignment. Please find time to work on
term project which is due on the final date.
http://www.federalreserve.gov/releases/h41/20071129/
Fed
Balance Sheet as of Nov 29th, 2007
(At
that time, Fed assets = 882,848)
http://www.federalreserve.gov/releases/h41/20081128/
Fed
Balance Sheet as of Nov 28th, 2008
http://www.federalreserve.gov/releases/h41/20091127/
Fed
Balance Sheet as of Nov 27th, 2009
http://www.federalreserve.gov/releases/h41/20101126/
Fed
Balance Sheet as of Nov 26th, 2010
http://www.federalreserve.gov/releases/h41/20111125/
Fed
Balance Sheet as of Nov 25th, 2011
https://www.federalreserve.gov/releases/h41/20121129/
Fed
Balance Sheet as of Nov 29th, 2012
Fed
Balance Sheet as of Nov 29th, 2013
https://www.federalreserve.gov/releases/h41/20141128/
Fed
Balance Sheet as of Nov 28th, 2014
Fed
Balance Sheet as of Nov 27th, 2015
https://www.federalreserve.gov/releases/h41/20161125/
Fed
Balance Sheet as of Nov 25th, 2016
https://www.federalreserve.gov/releases/h41/20171124/
Fed
Balance Sheet as of Nov 24th, 2017
Open
market operation (video)
https://www.youtube.com/watch?v=FNq_C4h3Srk
The Tools of Monetary Policy
https://www.youtube.com/watch?v=rcPEkmstDek
Final
on 12/10, between 12pm and 3pm, and
project due, and homework
Q&A:
12/9, 1pm – 4pm, 118A DCOB (my office)
Study
guide
Will
choose 12 questions out of the following 20 questions.
1. Anything wrong of
the above balance sheet of Wells Fargo? Where do the loans and deposits go?
2. Why do we need banks?
3. What is bank run? It is rare. Why?
4. Why are banks reluctant to lend
out to small business, but offer loans to homebuyers?
5. Why are banks getting bigger and bigger? Do we need big
banks?
6. Similar to the homework question.
Bank has one million dollars that can be lent out. Shall the bank
lend it out to a small business owners or to a house buyer? Why?
7. How to
explain the uniqueness of banks’ balance sheet. For example, banks are highly
leveraged.
8. What are the
differences between commercial bank and investment bank?
9. Too big to fail. IS it proper to describe
the banking industry this way? Do we need big banks? Why? Can a big bank
fail? Why or why not?
10. What is the purpose of the Fed?
11. The structures of the Fed?
12. The duties of Fed?
13. What are the changes in monetary policy?
14. The three approaches to conduct Monetary policy.
15. Draw supply and demand curve to show the results when Fed
purchases (sells) Treasury securities.
16. Compare fed fund rate with discount rate. Which rate is
targeted by Fed to implement monetary policy?
17.17. What is open market
operation? When Fed plans to increase interest rate, how can Fed do
so via open market operation? Draw the supply and demand curve to show the
results.
18. What is your opinion regarding the interest
rate that Fed will determine in the upcoming FOMC meeting
19. If Fed does increase interest rate in mid Dec,
what is your prediction of its impact in the stock market? If Fed does not
increases interest rate, what will happen to the stock market?
20. What is easing monetary
policy? What is contractary monetary policy?
******
Happy Holidays! ******