1. Financial Markets
Chapter 12

2. The Financial System
Financial system = savers, investors, and institutions that work together to transfer savings to investors.
You can save in different ways:
1) open a savings account
2) buy a certificate of deposit (CD)
- a loan to a bank that earns interest
3) government bonds

3. Financial intermediaries = institutions that lend funds that savers provide to borrowers
They include:
Banks
Savings & Loans
Credit unions
Life insurance companies
Pension funds

4. Nonbank Financial Intermediaries
Finance company = makes loans directly to consumers or buys installment contracts from merchants who sell on credit
Many businesses can’t afford for a consumer to take years to pay off an account (ex: car)
So they “sell” the account to a finance company for a lump sum

5. Life insurance companies = provides financial protection for survivors
Premium = amount that a person pays monthly to have insurance
Insurance companies often loan surplus funds to others

6. Mutual funds = a company that sells stock in itself to investors and then invests that money in stocks and bonds.
Stockholders receive dividends earned from these investments
This lets people “play the market” without having all their money invested in one or a few companies

7. Pension funds = a regular payment of income security to someone who has worked a certain number of years, a certain age, or has a certain injury
It collects portions of a person’s income and then disburses payments later
Sometimes the company a person works for also contributes funds

8. Basic Investment Considerations
Risk = a situation in which the outcome is not certain, but probabilities can be estimated
Buying stocks can be risky
A person has to determine how much risk they can tolerate
They may just want some interest added to their money, or may be willing to risk it all buying sketchy stocks

9. Most people build wealth because they invest consistently over a long period of time
401K Plans = tax deferred investment and savings plan that acts as a pension fund
Payroll deductions are taken out and invested in mutual funds approved by their companies
Many employers match their employees contribution
Relatively safe way to save

10. Bonds = long term obligations that pay a stated rate of interest after a specified number of years
a “relatively” safe way to save and make money but will not make you rich
Types of bonds:
1) corporate (a little risky and taxable)
2) municipal (safe and tax-exempt)
3) savings bonds (government, safe, taxable)

11. Individual Retirement Account (IRA)
Long term deposits that employees can set up as part of a retirement plan
Up to $3,000 per year can be deposited
Will have to pay taxes on it when you retire

12. Stock Market
Equities = stocks that represent ownership shares in corporations
Competitive because there are many buyers and sellers
Investor confidence is necessary for market stability (so it won’t crash)

13. Stock Exchanges:
New York Stock Exchange (NYSE) - oldest, largest and most prestigious in US
Lists stocks from about 3,000 companies
The largest and most profitable in the US
American Stock Exchange (AMEX) – also in NY
Has about 750 companies
The companies are smaller and more speculative

14. Regional stock exchanges exist in Chicago, California, Boston, etc.
Many stocks are listed on both regional and the NYSE
Global stock exchanges exist in Tokyo, Hong Kong, London, Frankfurt, etc
Computer technology links these markets to traders around the world

15. NASDAQ World’s largest electronic stock market
Has over 4,000 companies listed
Connects investors in over 80 countries

16. Measures of Stock Performance
Dow Jones Industrial Average (DJIA)
Most popular measure of how much a stock is worth
Only used on companies on the NYSE
Standard & Poor’s 500 (S & P 500)
Uses price changes of 500 representative stocks as an indicator of overall market performance
Reports on NYSE, AMEX and NASDAQ

17. Bull Market v. Bear Market:
Bull market = “strong” market with prices moving up for several months or years in a row
Bear market = a “mean” market with prices of stocks falling sharply for several months or years in a row