Assignment Discussion Questions
1. The text stated that real assets comprise the true productive capacity of an economy. However, it seems hard to conceive the idea of a modern economy without well-developed financial markets and security types. How would the productive capacity of the US economy be affected if there were no markets in which one could trade financial assets? 2. Firms raise capital from investors by issuing shares in the primary markets. Does this imply that corporate financial managers can ignore trading of previously issued shares in the secondary market? 3. Suppose housing prices across the world double. a. Is society any richer for the change? b. Are homeowners wealthier? c. Can you reconcile your answers to (a) and (b)? Is anyone worse off as a result of the change? 4. Discuss the advantages and disadvantages of the following forms of managerial compensation in terms of mitigating agency problems, that is, potential conflicts of interest between management and shareholders. a. A fixed salary. b. Stock in the firm that must be held for five (5) years. c. A salary linked to the firm’s profits. 5. The average rate of return on investments in large stocks has outpaced that on investments in Treasury Bills by about 7% since 1926. Why, then, does anyone invest in Treasury Bills? 6. What are some advantages and disadvantages of top-down versus bottom-up investing? 7. You see an advertisement for a book that claims to show how you can make $1 million with no risk and with no money down. Will you buy the book? 8. Wall Street firms have traditionally compensated their traders with a share of the trading profits that they generated. How might this practice have affected traders’ willingness to assume risk? What are some possible agency problems this practice may have produced? 9. In what ways is preferred stock like long-term debt? In what ways is it like equity? 10. Money market securities are sometime referred to as “cash equivalents.” Why is this? 11. What are the key differences between common stock, preferred stock, and corporate bonds? 12. Why are high-tax-bracket investors more inclined to invest in municipal bonds than low-bracket investors? 13. Why do call options with exercise prices greater than the price of the underlying stock sell for positive prices? 14. Explain the difference between a put option and a short position in a futures contract. 15. Explain the difference between a call option and a long position in a futures contract.