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Chapter 1 introduction to investment
This document provides an introduction to investment terminology and concepts. It defines key terms like finance, investment, investor, and differentiates investment from speculation and gambling. It also outlines the major participants in the financial system including households, businesses, governments, banks, insurers, pension funds, and mutual funds. Finally, it describes different types of financial securities and markets.
In this document
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Overview of investment, finance, and terminology regarding money management and investors.
Differences and characteristics of investment, speculation, and gambling based on risk, time, and goals.
Explanation of real and financial assets, outlining tangible items and what individuals lend to others.
Households provide funds to businesses/government; intermediaries transform securities for markets.
Functions of banks, insurers, pension funds, and mutual funds in providing financial services and risk management.
Major categories of financial securities: Debt Instruments and Equity Instruments with specific examples.
Characteristics of non-marketable and marketable securities, highlighting liquidity and trading aspects.
Categorization of markets based on maturity, types of exchanges, and the role of major participants.
Recap of key concepts about financial systems, participants, securities, and markets discussed in the chapter.
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Chapter 1 introduction to investment
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- 2. Terminology Finance – commercial orgovernment activity of managing money, debt, credit and investment Investment – the current commitment of resources in order to achieve later benefits present commitment of money for the purpose of receiving more money later – invest amount of money then your capital will increase Investor is a person or an organisation that buys shares or pays money into a bank in order to receive a profit 2
- 3. INVESTMENT SPECULATION GAMBLING Objective Specific goal/objectives Objectives, only toBased on LUCK gain high return Risk Low risk Moderate to high risk High risk Period Long term Short term Short term Analysis Fundamental analysis Technical analysis No analysis or based on herding behavior Return Current income Capital Gain (dividend, interest) Capital Gain 3
- 4. Real assets aretangible things owned by persons and businesses Residential structures and property Major appliances and automobiles Office towers, factories, mines Machinery and equipment Financial assets are what one individual has lent to another Consumer credit Loans Mortgages 4
- 5. The household isthe primary provider of funds to businesses and government. Households must accumulate financial resources throughout their working life times to have enough savings (pension) to live on in their retirement years Financial intermediaries transform the nature of the securities they issue and invest in Banks, trust companies, credit unions, insurance firms, mutual funds Market intermediaries simply help make markets work Investment dealers Brokers 5
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- 8. Banks and otherdeposit-taking institutions Insurance companies Pension Funds Mutual Funds 8
- 9. Insurers sell policiesand collect premiums from customers based on the pricing of those policies given the probability of a claim and the size the policy and administrative fees. They invest the premiums so that the accumulated value in the future will grow to meet the anticipated claims of the policyholders. In this way, unsupportable risks (such as the death of wage earner or the burning down of a business) are shared among a large number of policyholders through the insurance company. Insurance allows households, business and government to engage in risky activities without having to bear the entire risk of loss themselves. 9
- 10. Individuals and employersmake payments over the entire working life of a person with those funds invested to grow over time. Ultimately, the accumulated value in the pension can be used by the person in retirement. Pension plans accumulate considerable sums of money, and their managers invest those funds with long-term investment time horizons in diversified portfolios of investments. These investments are a major source of capital, fuelling investment in research and development, capital equipment, resource exploration and ultimately contributing in a substantial way to growth in the economy. 10
- 11. Mutual funds givesmall investors access to diversified, professionally-managed portfolios of securities. Small investors often do not have the funds necessary to invest directly into market-traded stocks and bonds. This is called denomination intermediation because the mutual fund makes investments available in smaller, more affordable amounts of money. Canadian indirect investment in the markets through managed products such as mutual funds and segregated funds has grown exponentially. 11
- 12. There are twomajor categories of financial securities: 1. Debt Instruments – – – – – – 1. Commercial paper Bankers’ acceptances Treasury bills Mortgage loans Bonds Debentures Equity Instruments – – Common stock Preferred stock 12
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- 19. Investment/Financial Instruments Characteristics ofnon-marketable securities Cannot be traded between or among investors May be redeemable (a reverse transaction between the borrower and the lender) Examples: Savings accounts Term Deposits Guaranteed Investment Certificates Canada Savings Bonds 19
- 20. Characteristics of Marketablesecurities Can be traded between or among investors after their original issue in public markets and before they mature or expire. Equit or debt instrument (share/stock, bond, note) that is listed on an exchange and can be readily bought or sold. A marketable security is a near-cash (liquid) asset and is recorded at acquisition cost (purchase price plus incidentals, commissions, and taxes) or market value (whichever is lower) in the account books under current assets. Non-marketable securities include savings bonds and restricted shares/stock. 20
- 21. Markets can becategorized by the time to maturity: Money Market Securities (for short-term debt securities that are pure discount notes) Bankers’ acceptances Commercial Paper Treasury Bills Capital Market Securities (for long-term debt or equity securities with maturities greater than 1 year) Bonds Debentures Common Stock Preferred Stock 21
- 22. Primary Market Markets thatinvolve the issue of new securities by the borrower in return for cash from investors (Capital formation occurs) Secondary Market Markets that involve buyers and sellers of existing securities. Funds flow from buyer to seller. Seller becomes the new owner of the security. (No capital formation occurs) 22
- 23. Exchanges or AuctionMarkets Secondary markets that involve a bidding process that takes place in specific location For example TSX, NYSE, Malaysian Stock Exchange Dealer or Over-the-counter (OTC) Markets Secondary markets that do not have a physical location and consist of a network of dealers who trade directly with one another. For example the bond market 23
- 24. Third Market Tradingof securities that are listed on organized exchanges in the Over-the-counter market Fourth Market Trading of securities directly between investors (usually between two large institutions) without the involvement of brokers or dealers. Operates through the use of privately owned automated systems such as Instinet 24
- 25. Represents an importantsource of funds for borrowers Provides investors with important alternatives as they seek to build wealth through diversified portfolios 25
- 26. In this chapteryou have learned about: Financial systems in general. Major participants in the financial system, including the different types of financial securities and financial markets 26