Introduction to Microeconomics

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Introduction to Microeconomics

• Professor Norman Aitken

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Second Hour Exam Total Points

• The following are total points from the exam
  (maximum 240)
• High score 228 Low score 76.
• Mean Score 144
• Number of students that scored

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Points Still Available
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Review Sessions

• Wednesdays May 5th and May 12th
• Room Hasbrouck 228
• Time 330 500 pm

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Mutual Fund Fraud
New details of widespread trading abuses

• Stale Prices
• Late Trading
• Bogus Loans Payoffs for Fund Managers

Eliot Spitzer and regulators
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Mutual Funds Control 7 Trillion in Investments
for 95 Million Investors

• Stephen Cutler, the head of S.E.C.s enforcement
  division
• The unholy trinity of illegal late trading,
  abusive market timing and related self-dealing
  practices that have recently come to light are
  matters that affect us allI have gathered
  evidence of one betrayal after another, the
  feeling Im left with is one of outrage.

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Your Stock Report

• Due Tuesday, April 20th
• Turn in printed paper copy in class.
• Report should explain how and why stock price has
  changed from Jan. 16 Apr. 2
• Include in report
• Brief description of Co., comparison of price
  change to changes in stock market as a whole
• http//www.excite.com (GM, FBF)

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Your Stock Report

• You must cite references or your grade will be
  zero
• If you are taking words directly from another
  source, use beginning and end quotes and cite the
  source.
• If you paraphrase, i.e. put in your own words,
  information from a published source, you need to
  cite the source but quotation marks are not
  required.

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Savings Not Spent by Recipient of Money in a
Given Time Period

• Income earned by individuals
• Profits earned by business
• Taxes collected by governments
• If money is not spent then recipient can earn
  more by lending it out in financial markets

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Types of Investments

• Money market funds
• http//www.bankrate.com
• Savings accounts
• Bonds (Government and Corporate)
• Stocks
• Investing in stocks means you are not loaning
  money but purchasing a portion of a company.
  Investors can earn a return either through
  receipt of dividends or appreciation in the value
  of the company.

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Mobilizing Savings
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The Loanable Funds Market
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Interest Rates (Current)

• If interest rates are high, the future payoff to
  present savings is greater.
• Higher interest rates increase the quantity of
  available savings (loanable funds).

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Financial Intermediaries

• By reducing search and information costs,
  financial intermediaries ease the task of raising
  start-up funds.
• A financial intermediary is an institution, (a
  bank or the stock market) that makes savings
  available to dissavers (investors).

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Investing Savings Effected By

• Time Preferences
• Interest Rates
• Risk
• Risk Management
• Risk Premiums

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When You Apply for a Loan
Lenders check - current and historical
employment record - earnings - assets - credit
history You should - compare alternative
lending sources - types of loans
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Time Preferences

• How much to save depends partly on time
  preference.
• In deciding to save rather than spend, people
  effectively reallocate their spending over time.

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Risk

• The interest rate paid on savings is linked to
  the risk of future nonpayment.
• High risk attaches to high interest rates.

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Risk Management

• The essence of risk management is to diversify an
  investment portfolio.
• By diversifying their portfolios, investors can
  select any degree of average risk.

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Risk Premiums

• Lenders will want to be compensated for any
  above-average risks they take.
• The risk premium is the difference in rates of
  return on risky (uncertain) and safe (certain)
  investments.

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Risk Premiums

• Risk premiums help explain why blue-chip
  corporations pay a low prime rate while
  ordinary consumers have to pay much higher
  interest rates.

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The Stock Market

• The three legal forms of business entities are
• Corporations
• Partnerships
• Proprietorships

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• Corporation
• A business organization having a continuous
  existence independent of its members (owners) and
  power and liabilities distinct from those of its
  members.
• Corporate Stock
• When people buy a share of stock, theyre buying
  partial ownership of a corporation.

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Dividends

• Dividend is the amount of corporate profits paid
  out for each share of stock.
• Annual corporate profits are divided between
  dividends and retained earnings.

Dividends Corporate profits Retained earnings
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• Retained Earnings
• Amount of corporate profits not paid out in
  dividends.

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Capital Gains

• The increase in the value of a stock represents a
  capital gain for shareholders.
• Capital gain is the increase in the market value
  of an asset.

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Initial Public Offering

• By going public, a corporation seeks to raise
  funds for investment and growth.
• The first offering of shares in a corporation to
  the public is known as an initial public offering
  (IPO).

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Initial Public Offering

• initial public offering (IPO) is the first
  issuance (sale) to the general public of stock in
  a corporation.
• People who buy the newly issue stock are putting
  their savings directly into the corporations
  accounts.
• As new owners, they stand to profit from the
  corporations business or take their lumps if the
  corporation fails.

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Secondary Trading

• People who buy stock are interested in the
  price/earnings ratio.
• price/earnings (P/E) ratio is the price of a
  stock share divided by earnings (profit) per
  share.

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Video Wall Street
Bud (Buddy Fox)....CHARLIE SHEEN Gordon
Gekko.....MICHAEL DOUGLAS Darien...
.DARYL HANNAH Carl Fox....MARTIN
SHEEN Blue Star Airlines (BST)
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Video Wall Street

• Story Line?
• Themes
• Greed vs. Integrity
• Love vs. Money
• Stock market fraud and its impact on financial
  markets
• U.S. corporate fraud in recent years

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Interest Rates (Future Expectations)

• If Lenders expect interest rates (R) to
• Will try and sell short-term
  loans.
• Will try and sell long-term loans

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Present Discounted Value (PDV)Time Value of Money

• PDV The value today of future payments, adjusted
  for interest accrual.
• The PDV of future payments is computed as follows

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Expected Value

• A risk factor is included in present-value
  computations whenever an anticipated future
  payment is uncertain.
• This is done by calculating the expected value.

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Expected Value

• Expected value is the probable value of a future
  payment, including the risk of nonpayment.

Expected value (1 risk factor) X Present
discounted value