Real Assets vs. Financial Assets
I. Real Assets
a. Land, buildings, equipment and knowledge that can be used to produce goods and services
b. Generate net income to economy
II. Financial Assets
a. Stocks and bonds
b. Claims to the income generated by real assets
c. Define the allocation of income or wealth among investors
d. Investor’s returns come from the income produced by the real assets that were financed by the issuance of those securities
Taxonomy of Financial Assets
I. Fixed-income/ Debt
a. Promise fixed stream of income or a stream of income that is determined to a specified formula
b. Investment performance is lease closely tied to the financial condition of the issuer
c. Money market is fixed income securities that are short term, highly marketable, and generally very low risk
i. Ex: US Treasury bills or bank certificates of deposit (CDs)
d. Capital market range from very safe to relatively risky
i. Treasury bonds and bonds issued by federal agencies, state and local municipalities, and corporations
II. Equity
a. Represents and ownership share in the corporation
b. Payments are not promised, dividends may be paid
c. Value will increase if firm is successful, performance is tied directly to success of firm and its real assets- tend to be riskier
III. Derivative securities (options and futures contracts)
a. Provide payoffs that are determined by the prices of other assets such as bond or stock prices
b. Used to hedge risks or transfer them
Financial Markets and the Economy
I. The informational role of financial Markets
a. Investors ultimately decide future
II. Consumption timing
a. Shift purchasing power from high-earnings periods to low earning period by “storing” your wealth in financial assets
b. In high earning periods you can invest your savings in financial assets such as stocks and bonds and in low earning periods, you