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Summary

This chapter provided an overview of the financial institutions and markets that serve managers of firms and investors who invest in firms, and how those institutions and markets facilitate the flow of funds. The roles of financial managers, financial markets, and investors in channeling financial flows of funds are summarized in the Integrative Table.

Explain how financial institutions serve as intermediaries between investors —• and firms. Financial institutions channel the flow of funds between investors and firms. Individuals deposit funds at commercial banks, purchase shares of mutual funds, purchase insurance protection with insurance premiums, and make contributions to pension plans. All of these financial institutions provide credit to firms by purchasing debt securities. In addition, all of these financial institutions except commercial banks purchase stocks issued by firms.

Provide an overview of financial markets. Financial market transactions can be distinguished by whether they involve new or existing securities, whether the transaction of new securities reflects a public offering or a private placement, and whether the securities have short-term or long-term maturities. New securities are issued by firms in the primary market and purchased by investors. If investors desire to sell the securities they have previously purchased, they use the secondary market. The sale of new securities to the general public is referred to as a public offering; the sale of new securities to one investor or a group of investors is referred to as a private placement. Securities with short-term maturities are called money market securities, and securities with long-term maturities are called capital market securities.

Explain how firms and investors trade money market and capital market —J securities in the financial markets in order to satisfy their needs. Firms obtain short-term funds by issuing commercial paper. Individual and institutional investors that wish to invest funds for a short-term period commonly purchase Treasury bills, commercial paper, and negotiable CDs. Firms that need long-term funds may issue bonds or stock. Institutional and individual investors invest funds for a long-term period by purchasing bonds or stock.

Describe the major securities exchanges. The major securities exchanges —• are the New York Stock Exchange and the Nasdaq-AMEX exchange. The stocks of the largest U.S. publicly traded firms are typically traded on the New York Stock Exchange, whereas stocks of smaller firms are traded on the Nasdaq-AMEX exchange.

Describe derivative securities and explain why they are used by firms and investors. Derivative securities are financial contracts whose values are derived from the values of underlying financial assets. They are commonly used by firms to reduce their exposure to a particular type of risk. Investors may use derivative securities to enhance their returns or reduce their exposure to some types of risk.

Describe the foreign exchange market. The foreign exchange market is composed of the spot market and the forward market. The spot market makes possible the immediate exchange of one currency for another at the prevailing exchange rate (spot rate). The forward market allows for the negotiation of contracts (forward contracts) that specify the exchange of an amount of one currency for another at a particular future date and a particular exchange rate (the forward rate).

 
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