Mendiola, Roz Rainiel M.

BSA 2-4

Negotiable Certificates of Deposit

A negotiable certificate of deposit (NCD), also known as a jumbo CD, is a certificate of deposit (CD) with
a minimum face value of $100,000, though NCDs are typically $1 million or more. They are guaranteed
by the bank and can usually be sold in a highly liquid secondary market, but they cannot be cashed in
before maturity. Because of their large denominations, NCDs are bought most often by large
institutional investors that typically use them as a way to invest in a low-risk, low-interest security.

Short Term Commercial Paper

Short-term paper refers broadly to fixed-income securities that typically have original maturities of less
than nine months. Short-term paper is usually issued at a discount and provides a relatively low-risk
financing alternative for companies, governments, or other organizations to fund normal operations.

Long Term Commercial Paper

Carrying value as of the balance sheet date of long-term unsecured obligations issued by corporations
and other borrowers to investors (with maturities initially due after one year or beyond the operating
cycle if longer), excluding current portion.

Banker’s Acceptances

The banker's acceptance is a negotiable piece of paper that functions like a post-dated check, although
the bank rather than an account holder guarantees the payment. Banker's acceptances are used by
companies as a relatively safe form of payment for large transactions.

Treasury Bills, Notes and Bonds

The difference between bills, notes, and bonds are the lengths until maturity.

Treasury bills are issued for terms of less than a year.

Treasury notes are issued for terms of two, three, five, seven, and 10 years.

Treasury bonds are issued for terms of 30 years. They were reintroduced in February 2006.

The Treasury also issues Treasury Inflation-Protected Securities (TIPS) in terms of five, 10, and 30 years.
They work similarly to regular bonds. The only difference is that the Treasury Department increases its
value if inflation rises

Repurchase Agreement

A repurchase agreement (repo) is a form of short-term borrowing for dealers in government securities.
In the case of a repo, a dealer sells government securities to investors, usually on an overnight basis, and
buys them back the following day at a slightly higher price. That small difference in price is the implicit
overnight interest rate. Repos are typically used to raise short-term capital. They are also a common tool
of central bank open market operations.
Debt Securities Market

A debt security is a debt instrument that can be bought or sold between two parties and has basic terms
defined, such as the notional amount (the amount borrowed), interest rate, and maturity and renewal
date.

Examples of debt securities include a government bond, corporate bond, certificate of deposit (CD),
municipal bond, or preferred stock. Debt securities can also come in the form of collateralized securities,
such as collateralized debt obligations (CDOs), collateralized mortgage obligations (CMOs), mortgage-
backed securities issued by the Government National Mortgage Association (GNMA), and zero-coupon
securities.

A. Types of Long-Term Securities

Long-term securities other than shares consist of securities other than shares that have an original
maturity of more than one year; however, to accommodate variations in practice between countries,
long-term may be defined to include an original maturity in excess of two years.

Stocks: Stocks are equities and when you own a stock, you own a piece of the company. Over the long
term, you can expect to earn an annual rate of return of roughly 7-8% from stocks. This is great for
building long term wealth.

Mutual Funds/ETFs: Mutual funds or exchange traded funds (ETFs) are simply baskets of stocks or
bonds, or a combination of the two. The reason you invest in these as opposed to stocks is two-fold.

Municipal Bonds: Municipalities have all sorts of projects they need to undertake. Many times, they
don’t have the money needed for these projects. As such, they will issue bonds to raise the cash needed
and in return, pay out interest to the owner of the bond.

Treasury Bonds: Treasury bonds are U.S. government bonds issued by the U.S. government. Because the
odds of the U.S. government defaulting on its bonds are low, the interest you earn from these bonds are
also low.

Inflation Protected Securities (TIPS): An inflation protected security (TIP) is also a bond. However,
instead of just paying a set rate of interest, you also earn an additional interest adjustment based on
inflation. Every 6 months, an inflation adjustment is made based on where inflation is.

Savings Bonds: Savings bonds are also long-term bonds. They used to be given by grandparents to
grandchildren at Christmas. However, nowadays, that isn’t very common. The term for savings bonds is
30 years, but you can redeem them before the 30 years is up. Depending on when you redeem them
however, you may have to pay a penalty of 3 months interest.

Real Estate: Real estate is another type of long-term investments for two reasons. First, the mortgage
you take out on real estate is usually 15 or 30 years in length. Additionally, selling a house isn’t very
liquid. This means that if you need money, you can’t simply list your house and have cash in a day or so.
It takes a decent amount of time to sell a house.
 B. Strategies and Challenges in Bond Market

Active strategies usually involve bond swaps, liquidating one group of bonds to purchase another group,
to take advantage of expected changes in the bond market, either to seek higher returns or to maintain
the value of a portfolio. Active strategies are used to take advantage of expected changes in interest
rates, yield curve shifts, and changes in the credit ratings of individual issuers.

Passive strategies are used, not so much to maximize returns, but to earn a good return while matching
cash flows to expected liabilities or, as in indexing, to minimize transaction and management costs.
Pension funds, banks, and insurance companies use passive strategies extensively to match their income
with their expected payouts, especially bond immunization strategies and cash flow matching.
Generally, the bonds are purchased to achieve a specific investment objective; thereafter, the bond
portfolio is monitored and adjusted as needed.

Hybrid strategies are a combination of both active and passive strategies, often employing
immunization that may require rebalancing if interest rates change significantly. Hybrid strategies
include contingent immunization and combination matching.

C. Assessing Bond Value

Bond valuation is a technique for determining the theoretical fair value of a particular bond. Bond
valuation includes calculating the present value of a bond's future interest payments, also known as its
cash flow, and the bond's value upon maturity, also known as its face value or par value. Because a
bond's par value and interest payments are fixed, an investor uses bond valuation to determine what
rate of return is required for a bond investment to be worthwhile.

Coupon rate: Some bonds have an interest rate, also known as the coupon rate, which is paid to
bondholders semi-annually. The coupon rate is the fixed return that an investor earns periodically until
it matures.

Maturity date: All bonds have maturity dates, some short-term, others long-term. When a bond
matures, the bond issuer repays the investor the full-face value of the bond. For corporate bonds, the
face value of a bond is usually $1,000 and for government bonds, the face value is $10,000. The face
value is not necessarily the invested principal or purchase price of the bond.

Current Price: Depending on the level of interest rate in the environment, the investor may purchase a
bond at par, below par, or above par. For example, if interest rates increase, the value of a bond will
decrease since the coupon rate will be lower than the interest rate in the economy. When this occurs,
the bond will trade at a discount, that is, below par. However, the bondholder will be paid the full-face
value of the bond at maturity even though he purchased it for less than the par value.

EQUITY SECURITIES MARKET

A. Types of Stock

Common Stock

Common stock is, well, common. When people talk about stocks in general, they are most likely
referring to this type. In fact, the majority of stock issued is in this form. We basically went over features
of common stock in the last section. Common shares represent ownership in a company and a claim
(dividends) on a portion of profits. Investors get one vote per share to elect the board members, who
oversee the major decisions made by management.

Over the long term, common stock, by means of capital growth, yields higher returns than almost every
other investment. This higher return comes at a cost since common stocks entail the most risk. If a
company goes bankrupt and liquidates, the common shareholders will not receive money until the
creditors, bondholders, and preferred shareholders are paid.

Preferred Stock

Preferred stock represents some degree of ownership in a company but usually doesn't come with the
same voting rights. (This may vary depending on the company.) With preferred shares investors are
usually guaranteed a fixed dividend forever. This is different than common stock, which has variable
dividends that are never guaranteed. Another advantage is that in the event of liquidation preferred
shareholders are paid off before the common shareholder (but still after debt holders). Preferred stock
may also be callable, meaning that the company has the option to purchase the shares from
shareholders at any time for any reason (usually for a premium).

Some people consider preferred stock to be more like debt than equity. A good way to think of these
kinds of shares is to see them as being in between bonds and common shares. (If you don't understand
bonds make sure also to check out our bond tutorial.)

B. Rights Vs. Warrants

Rights – are issued to get investors to buy more of a company’s stock by a certain date. The company
usually offers them at a price lower than the market price. Rights tend to expire after a few weeks.

Warrants – are mostly offered to attract investors when a company issues new stock. They tend to have
a longer period before they expire, usually a year or 2.

Rights and warrants typically trade on an exchange. They can produce large gains if the stock price goes
up by even a small amount. But they can also be risky because they are a type of leverage.

C. Types of Market Capitalization

Market capitalization is a valuable tool used by investors and financial experts alike. An understanding
of what market capitalization is and how to use it is vital as an employee in the financial sector. Market
capitalization may sound confusing, but it is easier to apply than you may think. This guide will educate
you on the value and uses of market capitalization.

Mega-cap

This new level describes the biggest of the big companies. Mega-cap companies generally have a market
value of more than 200 billion dollars and are often the most conservative choice for investors. The
mega-cap company's large size generally means it will provide a low but consistent return on
investment.
Large-cap

Large-cap level used to describe companies with the biggest market value. Now, large-cap is used to
describe companies with a market value of roughly 10 billion to 200 billion dollars. Much like the mega-
cap company, investing in large-cap companies is a safe and conservative choice. These companies are
still large enough to provide security and consistency to investors.

Mid-cap

Mid-cap generally refers to those companies with a market value between two billion dollars and 10
billion dollars. Mid-cap companies offer a balance between the conservative, slow growth of mega-cap
and large-cap investments, but are still relatively safe. It's important to research mid-cap companies and
look at their past financial history when choosing how much money to invest.

Small-cap

Small-cap companies have a market value between 300 million dollars and two billion dollars. These
companies are generally much younger than those in the mid-cap, large-cap and mega-cap levels.
Investing in a small-cap company is risky, but the rewards can be much higher than with a mid-cap,
large-cap or mega-cap company as the small-cap company grows and increases in overall value. This is
another level at which investors should do their research before choosing to invest.

Micro-cap

This level is a recent addition to the market capitalization breakdown. Micro-cap companies generally
have a market value between 50 million dollars and 300 million dollars. Micro-cap companies generally
offer the same risks and rewards as small-cap companies. Often, the financial sector won't differentiate
between micro-cap and small-cap companies. Instead, companies with a market value between 50
million dollars and two billion dollars are all included in the small-cap level.

D. Stock Valuation (Use of Market Value Ratios)

Market value ratios are used to evaluate the current share price of a publicly-held company's stock.
These ratios are employed by current and potential investors to determine whether a company's shares
are over-priced or underpriced. The most common market value ratios are as follows:

Book value per share. Calculated as the aggregate amount of stockholders' equity, divided by the
number of shares outstanding. This measure is used as a benchmark to see if the market value per share
is higher or lower, which can be used as the basis for decisions to buy or sell shares.

Dividend yield. Calculated as the total dividends paid per year, divided by the market price of the stock.
This is the return on investment to investors if they were to buy the shares at the current market price.

Earnings per share. Calculated as the reported earnings of the business, divided by the total number of
shares outstanding (there are several variations on this calculation). This measurement does not reflect
the market price of a company's shares in any way, but can be used by investors to derive the price they
think the shares are worth.
Market value per share. Calculated as the total market value of the business, divided by the total
number of shares outstanding. This reveals the value that the market currently assigns to each share of
a company's stock.

Price/earnings ratio. Calculated as the current market price of a share, divided by the reported earnings
per share. The resulting multiple is used to evaluate whether the shares are over-priced or underpriced
in comparison to the same ratio results for competing companies.

Optimizing Transaction Costs

Transaction Costs are expenses incurred when buying or selling a good or service. Transaction costs
represent the labor required to bring a good or service to market, giving rise to entire industries
dedicated to facilitating exchanges. In a financial sense, transaction costs include brokers' commissions
and spreads, which are the differences between the price the dealer paid for a security and the price the
buyer pays.

Hedge Funds

Hedge Funds are alternative investments using pooled funds that employ different strategies to earn
active returns, or alpha, for their investors. Hedge funds may be aggressively managed or make use of
derivatives and leverage in both domestic and international markets with the goal of generating high
returns (either in an absolute sense or over a specified market benchmark).

The basic structure of a hedge fund is an investment or partnership pool where a fund manager invests
in different securities and equities that match up with the fund's goals. Hedge fund managers preach a
strategy to investors, and those who buy in expect the manager to stick to said strategy. This strategy
can involve being a hedge fund that is specifically long or short on all their stocks, or a hedge fund that
specializes in a certain type of investment that can range from common stock to patents.

Exchange Traded Funds

An exchange traded fund (ETF) is a type of security that involves a collection of securities—such as
stocks—that often tracks an underlying index, although they can invest in any number of industry
sectors or use various strategies. ETFs are in many ways similar to mutual funds; however, they are
listed on exchanges and ETF shares trade throughout the day just like ordinary stock.

A well-known example is the SPDR S&P 500 ETF (SPY), which tracks the S&P 500 Index. ETFs can contain
many types of investments, including stocks, commodities, bonds, or a mixture of investment types. An
exchange traded fund is a marketable security, meaning it has an associated price that allows it to be
easily bought and sold.

Purchasing Power

Purchasing power is the value of a currency expressed in terms of the amount of goods or services that
one unit of money can buy. Purchasing power is important because, all else being equal, inflation
decreases the amount of goods or services you would be able to purchase.
In investment terms, purchasing power is the dollar amount of credit available to a customer to buy
additional securities against the existing marginable securities in the brokerage account. Purchasing
power may also be known as a currency's buying power.

Inflation Rate and How to Calculate for Inflation Rate

Inflation is the decline of purchasing power of a given currency over time. A quantitative estimate of the
rate at which the decline in purchasing power occurs can be reflected in the increase of an average price
level of a basket of selected goods and services in an economy over some period of time. The rise in the
general level of prices, often expressed a percentage means that a unit of currency effectively buys less
than it did in prior periods.

Inflation can be contrasted with deflation, which occurs when the purchasing power of money increases
and prices decline.

The above-mentioned variants of price indexes can be used to calculate the value of inflation between
two particular months (or years). While a lot of ready-made inflation calculators are already available on
various financial portal and websites, it is always better to be aware of the underlying methodology to
ensure accuracy with a clear understanding of the calculations. Mathematically,

Percent Inflation Rate = (Final CPI Index Value/Initial CPI Value)*100

Say you wish to know how the purchasing power of $10,000 changed between Sept. 1975 and Sept.
2018. One can find price index data on various portals in a tabular form. From that table, pick up the
corresponding CPI figures for the given two months. For Sept. 1975, it was 54.6 (Initial CPI value) and for
Sept. 2018, it was 252.439 (Final CPI value).3 Plugging in the formula yields:

Percent Inflation Rate = (252.439/54.6)*100 = (4.6234)*100 = 462.34%

Since you wish to know how much $10,000 of Sept. 1975 would worth be in Sept. 2018, multiply the
percent inflation rate with the amount to get the changed dollar value:

Change in dollar value = 4.6234 * $10,000 = $46,234.25

This means that $10,000 in Sept. 1975 will be worth $46,234.25. Essentially, if you purchased a basket of
goods and services (as included in the CPI definition) worth $10,000 in 1975, the same basket would cost
you $46,234.25 in Sept. 2018.

Annualization Discount Rates

Discount Rates depending upon the context, the discount rate has two different definitions and usages.
First, the discount rate refers to the interest rate charged to the commercial banks and other financial
institutions for the loans they take from the Federal Reserve Bank through the discount window loan
process, and second, the discount rate refers to the interest rate used in discounted cash flow (DCF)
analysis to determine the present value of future cash flows.

The term “discount rate” refers to the factor used to discount the future cash flows back to the present
day. In other words, it is used in the computation of time value of money which is instrumental in NPV
(Net Present Value) and IRR (Internal Rate of Return) calculation.
The formula for discount can be expressed as future cash flow divided by present value which is then
raised to the reciprocal of the number of years and the minus one. Mathematically, it is represented as,

Discount Rate = (Future Cash Flow / Present Value) 1/n – 1

where,

n = Number of years

In the case of multiple compounding during a year (t), the formula for the discount rate can be further
expanded as shown below.

Discount Rate = T * [(Future Cash Flow / Present Value) 1/t*n – 1]

Investment Rate

An explanation of how the rate of interest influences the level of investment in the economy. Typically,
higher interest rates reduce investment, because higher rates increase the cost of borrowing and
require investment to have a higher rate of return to be profitable.

Private investment is an increase in the capital stock such as buying a factory or machine. (investment in
this context does not relate to saving money in a bank.)

The marginal efficiency of capital (MEC) states the rate of return on an investment project. Specifically, it
refers to the annual percentage yield (output) earned by the last additional unit of capital.

If the marginal efficiency of capital was 5% and interest rates were 4%, then it is worth borrowing at 4%
to get an expected increase in output of 5%. (an effective profit margin of 1%)

Formula for Investment Rate

ROI = Net Income / Cost of Investment

The first version of the ROI formula (net income divided by the cost of an investment) is the most
commonly used ratio.

The simplest way to think about the ROI formula is taking some type of “benefit” and dividing it by the
“cost”. When someone says something has a good or bad ROI, it’s important to ask them to clarify
exactly how they measure it.

An investor purchases property A, which is valued at $500,000. Two years later, the investor sells the
property for $1,000,000.

We use the investment gain formula in this case.

ROI = (1,000,000 – 500,000) / (500,000) = 1 or 100%

Payment Systems

A national payment system is a configuration of institutions supported by an infrastructure of

technology-driven processes and practices to facilitate commercial and financial transfers between
buyers and sellers. A country's payment system reflects its banking and financial history and the
development of supporting communications and technology platforms.
The market for payment system services operates according to supply and demand as with any market.
On the demand side, users seek easy availability of payment instruments and services to meet their
various financial transactions, from large-scale bank transfers to point-of-purchase transactions with
retail credit instruments, such as credit and debit cards. Users favor low transaction costs,
interoperability between different systems, security, privacy and legal protection. On the supply side,
payment services provide a source of revenue for banks and other financial organizations and open up
markets for providers of technology and communications products and services.

Institutions and Infrastructure

Banks and other depository institutions communicate with each other through a messaging and routing
system. If you have a checking account with a U.S. bank, you are probably familiar with the nine-digit
number on the bottom left-hand side of your checks: this is the American Bankers' Association (ABA)
routing transit number (RTN), which is used to identify the financial institution on which the check is
written.

If your U.S. employer pays your salary via direct deposit, the transfer instructions (the messaging) are
going to your bank via the automated clearinghouse (ACH), a system administered by the nonprofit
National Automated Clearinghouse Association (NACHA) and operated by the U.S. Federal Reserve
System (FRS) and Electronic Payments Network (EPN), a private sector payment network.

Savings Banks Vs. Commercial Banks

Savings and loan institutions–also referred to as S&Ls, thrift banks, savings banks, or savings
institutions–provide many of the same services to customers as commercial banks, including deposits,
loans, mortgages, checks, and debit cards. However, S&Ls place a stronger emphasis on residential
mortgages, whereas commercial banks tend to concentrate on working with large businesses and on
unsecured credit services (such as credit cards).

Commercial banks can be chartered at either the state or federal level. The same is true for S&Ls. The
Office of the Comptroller of the Currency (OCC) is in charge of monitoring all nationally-chartered
commercial banks and S&Ls.

The primary difference is the way each is regulated, which determines the type of banking products they
offer. The term "bank" seems interchangeable today given that there are commercial banks and savings
banks, which are also called savings & loans. Commercial banks and savings and loans issue loans to
consumers for mortgages, cars, personal loans and credit cards. Both commercial banks and S&Ls also
make loans to businesses and government agencies. These institutions operate under a federal charter,
a state charter or both.
Thrift Banks Vs. Rural Banks

Thrift banks, are composed of savings and mortgage banks, private development banks, stock savings
and loan associations, and microfinance thrift banks. They are essentially engaged in accumulating
savings of depositors and investing them, providing short-term working capital and medium- and long-
term financing to businesses engaged in agriculture, services, industry and housing, and diversified
financial and allied services, and to their chosen markets, especially small- and medium- enterprises and
individuals.

Rural and Cooperative banks are most familiar to those living in rural or provincial areas. Their role is to
“promote and expand the rural economy in an orderly and effective manner” by providing basic financial
services. Many rural and cooperative banks help farmers through the stages of production, from buying
seedlings to marketing of their produce. These banks are also differentiated from each other by
ownership; while rural banks are privately owned and managed, cooperative banks are
organized/owned by cooperatives or federation of cooperatives.
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https://www.investopedia.com/terms/t/transactioncosts.asp

Sraders, A. (2019). What Is a Hedge Fund and How Do They Work? Retrieved from:
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%20structure%20of%20a,to%20stick%20to%20said%20strategy.

Chen, J. (2020). Exchange Traded Fund (ETF). Retrieved from: investopedia.com/terms/e/etf.asp

Hayes, A. (2020). Purchasing Power. Retrieved from:

https://www.investopedia.com/terms/p/purchasingpower.asp

Fernando. J. (2020). Inflation. Retrieved from: https://www.investopedia.com/terms/i/inflation.asp

Lamb, K. (2020). Take a Deeper Look at National Payment Systems. Retrieved from:
https://www.investopedia.com/articles/economics/08/nps.asp#:~:text=A%20country's%20payment
%20systems%20are,activity%20to%20the%20global%20economy.

Saint-Leger, R. (2018). What Is the Difference Between a Commercial Bank and a Savings & Loan Bank?
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CAÑA, J. (2020). Rural Bank, Thrift Bank, Commercial Bank: What’s the Difference? Retrieved from:
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