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14 Pages • Partial Study Notes • Year: Pre-2018
1.1 Explain the functions of a modern financial system - The introduction of money and the development of local markets to trade goods were the origins of the financial system today - Money is a medium of exchange and is used to facilitate the transactions for goods and services - Allows accumulation of wealth in form of money, developing specialised markets to enable efficient transfer of funds from savers (surplus entities) to users of funds (deficit entities) - Modern financial system comprises of financial institutions, instruments and markets that provide a wide range of financial products and services - Financial system encourages accumulated savings which are then available for investment within an economy - Financial instruments have attributes of risk, return (yield), liquidity and time-pattern of cash flows, allowing savers to satisfy their own personal preferences by choosing a combination of these - Encouraging savings and allocating savings to the most efficient users, the financial system has an important role to play in the economic development and growth of a country 1.2 Categorise the main types of financial institutions: depository financial institutions, investment banks and merchant banks, contractual savings institutions, finance companies and unit trusts - Range of different financial instructions has evolved to meet the needs of financial market participants and to support economic growth - Depository institutions (commercial banks, building societies and credit unions) specialise in gathering savings in the form of deposits and using those funds in provision of loans to customers - Investment banks and merchant banks specialise in the provision of advisory services to clients (merger and acquisition advice) - Contractual savings institutions (insurance offices and superannuation funds) enter into contracts in which they receive funds on the giving that they will pay a policy holder, or member of a fund, a specified sum when a nominated event occurs. Large pool of funds received is invested - Finance companies sell debt instruments (commercial paper, medium term notes and bonds) directly to surplus entities and then use those funds to provide loans and lease financing to borrowers - Unit trust is formed under a trust deed and is controlled and managed by a trustee or responsible entity; attract funds by inviting public to purchase units in trusts (equity, property, fixed interest and mortgage trusts). Funds obtained from sales are pooled and invested 1.3 Define the main classes of financial instruments that are issued into the financial system, that is equity, debt, hybrids and derivatives - Where the saver acquires an ownership claim on the deficit entity, the financial instrument is referred to as equity - Where the relationship is a loan, the financial instrument is referred to as a debt instrument Represents an entitlement to the holder to a specified set of future cash flows 1. Equity - Ownership interest in an asset, any stock or other security representing an ownership interest Types: Ordinary share Hybrid (quasi-equity) security: contains multiple components, debt and equity - Preference shares - Convertible bonds: a bond that can be converted into common shares of the issuer In finance, a bond is an instrument of indebtedness of the bond issuer to the holders. It is a debt security, under which the issuer owes the holders a debt and, depending on the terms of the bond, is obliged to pay them interest (the coupon) and/or to repay the principal at a later date, termed the maturity. Share is a single unit of ownership in a corporation or any other organisation
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