Financial Market Instructional Material by Lascano Compress

Financial Market Instructional Material by Lascano
Bachelor of Science in Accountancy (BSA)
INSTRUCTIONAL MATERIAL
for
ACCO 20083 - FINANCIAL MARKETS
Compiled By
Benjamin A. Abarquez Jr.
Book Reference: Fundamentals of Financial Markets (2019 ed)

By: Marvin V. Lascano
Herbert C. Baron
Andrew Timothy L. Cachero
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TABLE OF CONTENTS
Page Nos.
Overview What is Financial Markets………………………………………. 3
Module 1 Introduction to Financial System and Financial Market………3 - 10
Module 2 Philippine Financial System……………………………………11 - 21
Module 3 Managing Credit Risk in Money Market………………………22 - 31
Module 4 Financial Instruments…………………………………………...32 - 38
Module 5 Debt Securities Market………………………………………….39 - 47
Module 6 Equity Securities Market………………………………………..48 - 56
Module 7 Platforms for Capital Market……………………………………57 - 63
Module 8 International Financial Markets and Innovations……………..64 - 72
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OVERVIEW
Financial Markets is the marketplace where investors go to raise money to grow their
businesses. It is the avenue where the sale, purchase, creation and trading of financial
instruments occur such as shares, bonds, derivatives, debentures, currencies, and the like. The
trading of the securities occurs in the stock market, forex market, derivative market or bond
market. It plays a crucial role in a country’s economy.
Watch:
What is financial market?
https://www.youtube.com/watch?v=s58-mrPom7Q
MODULE 1. INTRODUCTION TO FINANCIAL SYSTEM AND FINANCIAL MARKET
OBJECTIVES
After successful completion of this module, you should be able to:
 Describe the elements of financial systems, particularly the financial market
 Describe the importance of financial market in maximizing firms profit and wealth
 Differentiate the different types of financial markets
COURSE MATERIALS
NATURE AND IMPORTANCE OF FINANCIAL SYSTEM
Finance
Basically, finance represents money management and the process of acquiring needed
funds. It is the lifeblood of the business for continuity of business operations.
Finance is the application of economic principles to decision making that involves the
allocation of money under conditions of uncertainty. It is how funds are obtained and then how
this will be invested to make money.
There are two functions in a financial management:

1. Accounting – this is the goal of employees to maximize profit for their benefits, driven my
rewards and promotions
2. Finance – the goal is to maximize wealth of the owners. The OWNERS ultimate goal Is to
maximize wealth that is why they enter into the financial markets.
Sources of wealth:
1. Capital assets which may be money to earn interest
2. Capital assets which can be land or building to earn rent
3. Labor/profession in order to earn wages/salaries/fees
Flow of funds:
Direct financing – where borrowers/spenders deals directly from lenders thru financial instruments
or securities.
Indirect financing – where borrowers and lenders transact thru intermediaries.
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INDIRECT FINANCING
Financial
Intermediaries
FUNDS FUNDS
FINANCIAL
Lenders/Savers FUNDS FUNDS Borrowers/Spenders
MARKETS
DIRECT FINANCING
ELEMENTS OF FINANCIAL SYSTEM

1. Lenders and borrowers – the players
2. Financial intermediaries – how it will occur
- Special type of financial entity that acts as the third party to facilitate the borrowing
activities between borrowers and lenders.
3. Financial instruments- what will be used
- Medium of exchange of contractual obligation which can be traded (tangible of
intangible)
- Can be:
 cash or
 derivative (A derivative is a financial security with a value that is reliant upon
or derived from, an underlying asset or group of assets —a benchmark. The
derivative itself is a contract between two or more parties, and the derivative
derives its price from fluctuations in the underlying asset.
The most common underlying assets for derivatives are stocks, bonds,
commodities, currencies, interest rates, and market indexes. These assets are
commonly purchased through brokerages.
4. Financial markets – the place of trading
- Money market for cash financial instruments
- Capital market for derivative financial instruments
5. Regulatory control environment – controller of trading activities
- Involves different businesses and financial risks
- Regulated by the central bank
6. Money creation – the value created
7. Price discovery- how much is created
- It is the process of determining or valuing the financial instrument in the market. The
price is driven by risks, high risk high return, low risk low return.
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Financial Market refers to channels or places where funds and financial instruments such as
stocks, bonds and other securities are exchanged between willing individuals or entities.
TYPES OF FINANCIAL MARKET
Based on instruments traded

a. Money Market – this is the sector of the financial market where financial instruments that
will mature or be redeemed in one year or less from issuance date are traded.
Why do companies deal with money market?

- Cash requirements of entities do not coincide with their cash receipts (borrowers)
- Fund providers generates opportunity cost in the form of foregone interests by
investing excess cash in financial instruments that can quickly be converted to cash
when needed with minimal risk (lenders)
b. Capital market – this is the sector in the financial market where financial instruments
issued by government and corporations that will mature beyond one year from issuance
date are traded.
There are two types: (1) equity (share certificate) or (2) debt (PN, bonds)
Based on Market Type

a. Primary Market – this is the financial market wherein fund demanders like corporation or
government agencies raise funds through new issuances of financial instruments (bonds
or stocks).
Why?
- normally to finance new projects or expansions.
How?
- Coursed thru investment banks as intermediary.
Who?
- Borrowers are fund demanders and lenders are fund providers.
Four types of issue methods

1. Public offering – the issuer offers for subscription or sale to general public
2. Private placement -the issuer looks for single investor to purchase the whole
securities issuance than to general public
3. Auction – this is another offering to general public on treasury bills, bonds and
other securities issued by the govt.
4. Tap issue – this happens when issuer is open to receive bids for their
securities at all times. Issuers maintain the right to accept or reject the bid
prices.
b. Secondary Market – this is where securities issued in the primary market are
subsequently traded (resold and repurchased – second hand).
Who are the players?

- Securities brokers are facilitators
- Sellers are demanders and buyers are funds providers
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Watch:
Introduction to the Financial Markets
https://www.youtube.com/watch?v=yolKxb4JiHo
PRIMARY MARKET
Money
LENDERS BORROWERS THE DIFFERENCE
Securities
SECONDARY MARKET
Money
THE DIFFERENCE BUYERS SELLERS
Securities
ACTIVITIES/ASSESSMENTS
Answer the following Exercises
Exercise No. Mod 1-1 (Case Study)
Property Corporation requires funds for its inventory, payment of salaries and wages, payment of
utilities and other monthly operating costs.
a). You are to suggest which financial market; the company may approach and why?
b). Discuss the financial instruments to raise in this requirement.

Incorporated in 2000, Dairy Corporation is one of the leading manufacturers and marketers of
dairy-based branded foods in India. In the initial years, its operation was restricted only to
collection restricted only to collection and distribution of milk. But, over the years it has gained a
reasonable market share by offering a diverse range of dairy based products including fresh milk,
flavored yogurt, ice creams, butter milk, cheese, ghee, milk powders etc. In order to raise capital
to finance its expansion plans. Dairy Corporation has decided to approach capital market through
a mix of Offer for sale and a public issue of shares.
a). Name and explain the types of financial market being approached by the company.
b). Identify the possible financial instruments to be raised for this.

Gabriel won a cash prize of Php 20,000 in the National level Robotics Competition. On the advice
of his father, he visits a nearby bank to open a Fixed deposit account in his name with the prize
money. His sister Heart accompanied him to the bank. On reaching the bank, he notices big
banners which are placed within the premises containing information about the various
arrangements through which corporates may raise their capital through the bank. Being a finance
graduate, Heart explains to Gabriel that banks play the role of the financial intermediary by helping
in the process of channelizing the savings of the households into the most profitable business
ventures.
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a). Aside from the bank, suggest other financial intermediaries that help in the process of
channelizing the savings of the households into the most productive to use.
b). Identify the functions of those financial intermediaries that you will be suggesting
Exercise No. Mod 1-4 (True or False)

1). Financial system is a set of arrangements or conventions embracing the lending and borrowing
of funds by non-financial economic units and the intermediation of this function by financial
intermediaries in order to facilitate the transfer of funds, to create additional money when required,
and to create markets in debt and equity instruments including their derivatives so that the price
and allocation of funds are determined efficiently.
2). Financial system is composed of network of inter-related systems of financial markets,

intermediaries and services.
3). Funds can flow from lender-savers to the borrower-spenders in two routes: via direct financing
or indirect financing
4). In direct financing, the borrowing activity between both parties still happens though indirectly
through the intervention of a financial intermediary.
5). In indirect financing, the borrower-spenders borrow and deal directly with lenders through
selling financial instruments (or securities).
6). Lenders and Borrowers are also known as fund demanders and fund providers, respectively
7). Financial intermediary are special type of financial entity that acts as a third party to facilitate
the borrowing activity between lenders and borrowers
8). Financial instruments are medium of exchange of contractual obligation of a party, where such
contract can be traded
9). Financial Markets is same with the other economic markets where suppliers and buyers of
financial instruments meet.
10). Regulatory environment is the governance body to ensure that the transactions that occur
within the financial systems complies with the laws and regulations imposed to the actors as well
as the elements that plays within the system.
11). Capital market is the sector of the financial system where financial instruments that will
mature or be redeemed in one year or less from issuance date are traded.
12). Money market is the sector of the financial markets where financial instruments issued by
governments and corporations that will mature beyond one year from issuance date (long-term)
are traded.
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13). Capital market securities are classified into two: equity (which represent ownership interest)
and debt.
14). Primary market is a type of financial market wherein fund demanders such as corporation or
a government agency raise funds through new issuances of financial instruments e.g. bonds and
stocks.
15). Tap Issue is usually used for issuance of treasury bills, bonds and other securities issued by
the government and are commonly executed exclusively with market makers. Auction is a method
that
Exercise No. Mod 1-5 (Multiple Choice)

1). Which if the following is not a source of wealth
a. labor
b. capital
c. wages (This is technically form of wealth under labor not source of wealth)
d. entrepreneurship
2). Which of the following is not correct about Financial System?

a. Financial system is a set of arrangements embracing the lending and borrowing of funds
by non-financial economic units and the intermediation of this function by financial intermediaries
in order to facilitate the transfer of funds, to create additional money when required, and to create
markets in debt and equity instruments so that the price and valuation of funds are determined
effectively. (...the price and valuation of funds are determined efficiently not effectively).
b. Financial system allows households, companies and the government who have available
funds to invest these funds in more potentially productive vehicles that can result in faster growth
in the economy.
c. A properly functioning financial system also enhances welfare of individual consumers as
they have immediate access to funds allowing them to purchase things as they prefer.
d. The financial system encourages fund savings from its stakeholders and transform these
savings efficiently into investment vehicles that help the economy grow faster.
3). In this route of fund flows, the borrower-spenders borrow and deal directly with lenders through
selling financial instruments (or securities).
a. Indirect Financing b. Direct Financing c. Indirect Funding d. Direct Funding
4). In this route of fund flows, the borrowing activity between both parties still happens though
indirectly through the intervention of a financial intermediary.
a. Indirect Financing b. Direct Financing c. Indirect Funding d. Direct Funding
5). Which of the following is not an element of the Financial System

a. Financial Market
b. Financial Intermediaries
c. Financial Instruments
d. Regulatory Compliance (Regulatory Environment)
6). Which of the following is not correct about Financial Market?
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a. Financial markets help in creating more efficient allocation of capital which results in higher
production and efficient that ultimately leads to economic growth.
b. Financial market refers precisely to the physical venue where funds and financial
instruments such as stocks, bonds and other securities are exchanged between willing individuals
and/or entities e.g. Philippine Stocks Exchange and Philippine Dealings and Exchange. (Not
precisely a physical venue since it includes channels as well)
c. Participants in the financial markets include ultimate lenders and borrowers such as
household, government and businesses, financial intermediaries, broker and dealers, regulators,
fund managers and financial exchanges.
d. The main economic function of the financial markets is to serve as a channel to transfer
excess funds from fund providers to fund demanders.
7). The sector of the financial system where financial instruments that will mature or be redeemed
in one year or less from issuance date are traded.
a. Current or Short-term Market b. Debt Market c. Money Market d. Long term Market
8). The sector of the financial markets where financial instruments issued by governments and
corporations that will mature beyond one year from issuance date (long-term) are traded.
a. Long term Market b. Stock Market c. Debt Market d. Capital Market
9). Market wherein fund demanders such as corporation or a government agency raise funds
through new issuances of financial instruments e.g. bonds and stocks.
a. New Market b. Internal Market c. Initial Public Offering Market d. Primary Market
10). Private companies who will sell shares to the general public for the very first time is said to
undergo an ____________________
a. Public Market Offering b. Initial Public Offering c. New Market Issuance
d. Primary Market Offering
11). This refers to the market wherein the securities issued in primary market are subsequently
traded
a. Primary market b. Secondary market c. Consequent Market d. Trading Market
12). Which of the following is not an economic function of Secondary Market

a. Price discovery
b. Liquidity and reduction in borrowing costs
c. Support to Primary market
d. Implementation of fiscal policy (Monetary policy)
13). The market structure where the buyers and sellers propose their price through their brokers
who conveys the bid in a centralized location.
a. Secondary market
b. Order Driven market (Type of secondary market)
c. Quote Driven market
d. Auction
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14). This refers to the market where issuers who are considered residents in a country that issues
securities and where these securities are traded afterwards.
a. Internal/National Market
b. Domestic Market (Type of Internal/National Market)
c. Foreign Market
d. Resident Market
15). This refers to the market where issuers who are not residents of a country can sell or issue
securities and subsequently traded.
a. Internal/National Market
b. Domestic Market
c. Foreign Market (Type of Internal/National Market)
d. Non-Resident Market
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MODULE 2. PHILIPPINE FINANCIAL SYSTEM
OBJECTIVES
 Describe the role of Bangko Sentral ng Pilipinas in the Financial Market
 Describe the evolution of currency and instruments used in financial markets
 Set their personal target of inflation based on the information made available to them
 Correlate the roles of different agencies in the financial market environment
COURSE MATERIALS
Financial regulation is a type of regulation whereby rules and standards (controls over
the market factors) were set to oversight the ability of the companies to establish and maintain
appropriate level of capital to sustain its operations.
Market Drivers being regulated

1. Competitiveness
2. Market behavior (integrity on companies’ activities and representation)
3. Consistency (information disclosures and policies)
4. Stability (govt mitigate market risks to protect the interests of the clients)
Financial activity regulation is the setting up of standards, control and order on the financial
activities regardless of the source.
Regulatory Bodies
These regulatory bodies correlate each roles in the financial environment.
 Bangko Sentral ng Pilipinas

Its function is to:
1. Liquidity management
2. Currency issues
3. Lender of last resort
4. Financial supervision
5. Management of foreign currency reserves
6. Determination of exchange rate policy
The BSP Law establishes the Bangko Sentral ng Pilipinas (“BSP”), its
organizational set-up, responsibilities, corporate authorities, key operational procedures,
and special powers over banks. It then defines the key roles of the BSP, namely: (a) as
a central monetary authority with the sole power to issue currency and legal tender and to
regulate the supply of money and credit in the system; (b) as government banker with the
power to represent the national government in all dealings with international financial
institutions; and (c) as a central bank with regulatory and supervisory power over all banks
and financial institutions exercising quasi-banking functions.
To provide the BSP with the reports they need, you need to have detailed
information about your operations and your portfolio. The reports you must submit range
from your balance sheet to more specific reports like an ageing analysis of your non-
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performing loans (NPLs) by economic activity. For many of the required reports, you must
provide detailed classification.
 Insurance Commission
This is mandated by Exec Order 192 s. 2015 to ensure enforcement of Republic Act
10607 – Insurance Code Its function is to regulate and supervise the insurance, pre-need
and health maintenance organization industry.
 Securities and Exchange Commission (SEC)

This agency is tasked to administer oversight on the corporate sector, capital market
participants and securities and investment instruments and promote corporate
governance.
 Bureau of Investment (BOI)

This is the lead agency to promote investment in country and thereby generate local
and foreign investment in the country. This is an attached agency of the DTI. It provides
advisory, actualization and post services to the investors.
MONETARY POLICY
Monetary policy is the monitoring and control of money supply by a central bank – this is
undertaken by the Bangko Sentral ng Pilipinas in the Philippines. This is used by the government
to be able to control inflation and stabilize currency.
Monetary Policy is considered to be one of the two ways that the government can influence
the economy – the other one being Fiscal Policy (which makes use of government spending, and
taxes).
Monetary Policy is generally the process by which the central bank, or government
controls the supply and availability of money, the cost of money, and the rate of interest.
Money Supply and Payment System

The financial system is an interrelated financial process which fueled by money. Money
supply is the availability of financial resources for deployment in the financial system. The
monetary demand in the market is managed by BSP. Money will take the form of the following:
 Cash (coins and bills)
 Demand deposits
 Other financial instruments
Money is expected to be regulated to enable the sovereign to have control to its economy.
For a monetary policy to be appropriate or effective, the BSP must ensure the following are
present:
 Alignment to the target goals
 Access to information
 Responsiveness of the variable set
The BSP under RA 7653 has the sole power to issue currencies. The management of the
note and coins rests with the local banks. The local banks must observe the following:
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 Banks shall classify their cash deposits and sort by series and by denomination,
by being fir or clean notes or dirty or unclean notes.
 Banks should provide securely sealed bags or containers for fit and dirty notes
which should be properly labelled.
 Banks’ deposits shall be packed ins sealed bags or containers in standard quantity
of twenty (20) full bundles per denomination.
 Banks located in the provinces may make direct deposits of currencies to the
nearest BSP regional/branch or shipped to the BSP in Manila if none.
 Coins shall also be sorted as the notes and must be free from adhesive tapes.
Purchasing Power
The purchasing power is practically based on the consumer price index. The Consumer
Price Index (CPI) is the weighted average value of the basket of prices of all commodities
representing the market. The degree of movement of the CPI from a period to another is called
inflation rate.
There are two types of inflation rate:

 Core inflation – used for most of the economic estimates where it excludes in the equation
the movement of the commodities or incidents with very volatile movements.
 Headline inflation – captures the changes of the cost of living based on the movement of
the basket or commodities as a whole.
Payment System
The payment system is a set of interrelated processes of settlement of goods or services
rendered in exchange for a set of instruments that will undergo either a banking or non-banking
procedures. This requires the following:
 Standard methods of transmitting payment messages within the system
 Agreed means of settlement
 Common operating procedures and rules, e.g. admission, fees and operating
hours
History of Philippine Currencies and Notes

Source: http://www.bsp.gov.ph/bspnotes/hist_curr.asp
Philippine money–multi-colored threads woven into the fabric of our social, political and
economic life. From its early bead-like form to the paper notes and coins that we know today,
our money has been a constant reminder of our journey through centuries as a people relating
with one another and with other peoples of the world.
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Pre-Hispanic Era
Long before the Spaniards

came to the Philippines in 1521, the
Filipinos had established trade
relations with neighboring lands like
China, Java, Borneo, Thailand and
other settlements. Barter was a
system of trading commonly
practiced throughout the world and
adopted by the Philippines. The
inconvenience of the barter
system led to the adoption of a
specific medium of exchange –
the cowry shells. Cowries produced
in gold, jade, quartz and wood
became the most common and
acceptable form of money through
many centuries.
The Philippines is naturally rich

in gold. It was used in ancient times
for barter rings, personal adornment,
jewelry, and the first local form of
coinage called Piloncitos. These
had a flat base that bore an
embossed inscription of the letters
“MA” or “M” similar to the Javanese
script of the 11th century. It is
believed that this inscription was the
name by which the Philippines was
known to Chinese traders during the
pre-Spanish time.
Barter rings made from pure

gold, were hand-fashioned by early
Filipinos during the 11th and the
14th centuries. These were used in
trading with the Chinese and other
neighboring countries together with
the metal gongs and other
ornaments made of gold, silver and
copper.
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Spanish Era
1521-1897
The cobs or macuquinas of

colonial mints were the earliest coins
brought in by the galleons from
Mexico and other Spanish
colonies. These silver coins usually
bore a cross on one side and the
Spanish royal coat-of-arms on the
other.
The Spanish dos mundos were

circulated extensively not only in the
Philippines but the world over from
1732-1772. Treasured for its beauty
of design, the coin features twin
crowned globes representing
Spanish rule over the Old and the
New World, hence the name “two
worlds.” It is also known as the
Mexican Pillar Dollar or the
Columnarias due to the two columns
flanking the globes.
Due to the shortage of fractional

coins, the barrillas, were struck in the
Philippines by order of the Spanish
government. These were the first
crude copper or bronze coins locally
produced in the Philippines. The
Filipino term “barya,” referring to
small change, had its origin
in barrilla.
In the early part of the 19th

century, most of the Spanish
colonies in Central and South
America revolted and declared
independence from Spain. They
issued silver coins bearing
revolutionary slogans and symbols
which reached the Philippines. The
Spanish government officials in the
islands were fearful that the seditious
markings would incite Filipinos to
rebellion. Thus they removed the
inscriptions by counter stamping the
coins with the word F7 or YII. Silver
coins with the profile of young
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Alfonso XIII were the last coins
minted in Spain. The pesos fuertes,
issued by the country’s first bank, the
El Banco Español Filipino de Isabel
II, were the first paper money
circulated in the Philippines.
Revolutionary Period
1898-1899
General Emilio Aguinaldo, the

first Philippine president, was vested
with the authority to produce
currencies under the Malolos
Constitution of 1898. At the Malolos
arsenal, two types of two-centavo
coppercoins were
struck. Revolutionary
banknotes were printed in
denominations of 1,5 and 10
Pesos. These were handsigned by
Pedro Paterno, Mariano Limjap and
Telesforo Chuidian. With the
surrender of General Aguinaldo to the
Americans, the currencies were
withdrawn from circulation and
declared illegal currency.
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American Period
1900-1941
With the coming of the

Americans 1898, modern banking,
currency and credit systems were
instituted making the Philippines one
of the most prosperous countries in
East Asia. The monetary system for
the Philippines was based on gold
and pegged the Philippine peso to
the American dollar at the ratio of
2:1. The US Congress approved the
Coinage Act for the Philippines in
1903.
The coins issued under the

system bore the designs of Filipino
engraver and artist, Melecio
Figueroa. Coins in denomination of
one-half centavo to one peso were
minted. The renaming of El Banco
Espanol Filipino to Bank of the
Philippine Islands in 1912 paved the
way for the use of English from
Spanish in all notes and coins
issued up to 1933. Beginning May
1918, treasury certificates replaced
the silver certificates series, and a
one-peso note was added.
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The Japanese Occupation
1942-1945
The outbreak of World War II

caused serious disturbances in the
Philippine monetary system. Two
kinds of notes circulated in the
country during this period. The
Japanese Occupation Forces issued
war notes in big denominations.
Provinces and municipalities, on the
other hand, issued their own guerrilla
notes or resistance currencies, most
of which were sanctioned by the
Philippine government in-exile, and
partially redeemed after the war.
The Philippine Republic
A nation in command of its

destiny is the message reflected in
the evolution of Philippine money
under the Philippine Republic.
Having gained independence from
the United States following the end
of World War II, the country used as
currency old treasury certificates
overprinted with the word "Victory".
With the establishment of the

Central Bank of the Philippines in
1949, the first currencies issued
were the English series notes
printed by the Thomas de la Rue &
Co., Ltd. in England and the coins
minted at the US Bureau of Mint.
The Filipinization of the Republic
coins and paper money began in the
late 60's and is carried through to the
present. In the 70's, the Ang Bagong
Lipunan (ABL) series notes were
circulated, which were printed at the
Security Printing Plant starting 1978.
A new wave of change swept
through the Philippine coinage
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system with the flora and fauna
coins initially issued in 1983. These
series featured national heroes and
species of flora and fauna. The new
design series of banknotes issued in
1985 replaced the ABL series. Ten
years later, a new set of coins and
notes were issued carrying the logo
of the Bangko Sentral ng Pilipinas.
As the repository and custodian

of country's numismatic heritage,
the Museo ng Bangko Sentral ng
Pilipinas collects, studies and
preserves coins, paper notes,
medals, artifacts and monetary
items found in the Philippines during
the different historical periods. It
features a visual narration of the
development of the Philippine
economy parallel to the evolution of
its currency.
Answer the following exercises
Exercise No. Mod 2-1 (Essay)

Give a brief summary of your learnings on the Philippine financial system.

1). Every country must implement its regulatory system to ensure controls and governance.
2). Regulation was designed to set rules and guidelines to be followed that is designed to ensure
balance among the individuals, firms and/or citizens as the case maybe.
3). Financial regulation is a type of regulation whereby rules and standards were set to oversight
the ability of the companies to establish and maintain appropriate level of capital to sustain its
operation. It also includes setting controls over the market factors that will affect the financial
sustainability of the firms and players in the industry.
4). Financial sector has an important role in shaping the overall economy of a country hence it is
a must that this must not be regulated.
5). Government role is to set standards to regulate and ensure that information provided in the
market are fair, consistent, and conservative.
6). Market stability is an external and fatal factor to be considered by the firms in the financial
market.
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7). Financial Activities has been referred to activities that deals on funding certain transaction or
expenditures. In the financial market, the financial activities are focused on the trading of
securities and financial instruments.
8). Setting rules to set standards, control and order on the financial activities, regardless of the
source, is called as financial activity regulation.
9). The Bangko Sentral ng Pilipino is created under the New Central Bank Act or Republic Act
7653 and an attached agency of the Department of Finance. Under the Philippine law, this will
act as the central monetary authority which will act as a corporate body that is responsible
concerning money, banking and credit.
10). Assurance Commission mandated by virtue of Executive Order No. 192 s. 2015 to ensure
enforcement of the provisions of the Insurance Code or Republic Act 10607, i.e. to regulate and
supervise the insurance, pre-need, and health maintenance organization industry. It is governed
by Department of Finance that supervises and regulates the operations of life and non-life
companies, mutual benefit associations, and trusts for charitable uses.
11). The Securities and Exchange Commission is the national government regulatory agency to
administer oversight on the corporate sector, capital market participants and securities and
investment instrument and promote corporate governance over these. It was created on October
26, 1936 under the Commonwealth Act No. 83.
12). Philippine Economic Zone Authority is the lead agency to promote investment in country and
thereby generate local and foreign investment in the country. It is an attached an agency of the
Department of Trade and Industry. The agency provides advisory, actualization and post services
to the investors.
13). Money supply is the availability of financial resources for deployment in the financial system.
It is making the money available for use or for trade or investment.
14. Money is expected to be regulated somehow to enable the sovereign to have control to its
economy.
15. The central bank, BSP for the case of the Philippines, is authorized by the republic under R.A.
7653 that they have the sole power to issue currency, within the territory of the Philippines. Given
it is a sole authority, no one is allowed to issue or reproduce any document or object for general
monetary circulation.
16). The purchasing power is practically based on the consumer price index. In economics, the
consumer price index or CPI is the weighted average value of the basket of prices of all
commodities representing the market.
17). There are two types of inflation: the core inflation and headline inflation.
18). Per the BSP, headline inflation is used for most of the economic estimates where it excludes
in the equation the movement of the commodities or incidents with very volatile movement or
outliers.
19). Core inflation on the other hand captures the changes of the cost of living based on the
movement of the basket of commodities as a whole.
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20). The payment system is a set of interrelated processes of settlement of goods or services
rendered in exchange for a set of instruments that will undergo either a banking or non-banking
procedures.
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MODULE 3. MANAGING THE CREDIT RISK IN MONEY MARKET
OBJECTIVES
 Identify the different levels and methods of rating entities
 Make recommendation on the results of liquidity and solvency
 Understand how to improve value of collaterals
COURSE MATERIALS
Credit risk is a business risk that a lender bears when a borrower fails to pay his
obligations.
Credit Information Systems is dedicated to providing the best credit reporting, appraisal
management and lending risk mitigation products with unequaled service. Credit Information
Systems brings Information, Technology, and Compliance together to serve the customers in this
rapidly changing regulatory environment.
In the Philippines, RA No. 9510 was enacted in Oct. 31, 2008 establishing the credit
information system.
CREDIT RATING
This is a driver of the interest rate or risk consideration that affects the confidence level of
the investors.
These are determined by companies that are recognized globally that objectively assigns
or evaluates countries and companies based on the riskiness of doing business with them.
The riskiness is primarily driven by the ability of the country or company to manage their
liquidity and solvency in the long run. The higher the grade is, the lower is the default risk.
The following are the three major rating companies:

a). Standard and Poor’s Corporation (S&P) – founded in 1941 by Henry Varnum Poor
to assess credit worthiness of an industry
b). Moody’s Investors Service (Moody) – founded in 1909 is aimed to provide credit
rating on debt securities.
c). Fitch Ratings – founded in 1914 and owned by Hearst, provides credit opinions
based on the credit expectations on certain quantitative and qualitative factors that drive
a company.
Interest Rates
Economic Theories That Affect the Term Structure of Interest Rates
1). Expectation theories > interest rates are driven by the expectation of the lenders or
borrowers in the risks of the market in the future.
- Pure expectation theory based in statistical and current data analysis
- Biased expectation theory – considers other factors that affect the term structure of the
loans as well as the interest rates to be perceived. (biased estimate over the market
behavior in the future).
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2). Market segmentation theory > assumes that the driver of the interest rates are the saving
and investment flows.
BSP defines interest rates to be a type of price which will compensate the risk of allowing
the finances to flow into the financial system. For lender – investment return for borrower – cost
of debt.
What is Cost of Debt?

Cost of debt refers to the effective rate a company pays on its current debt. It refers to
after-tax cost of debt, but it also means the company's cost of debt before taking taxes into
account. The difference in cost of debt before and after taxes lies in the fact that interest expenses
are deductible.
Cost of debt formula is: Cost of Debt = Interest Expense (1 – Tax Rate)
Example:
A company named Viz Pvt. Ltd took loan of $200,000 from a Bank at the rate of interest
of 8% to issue company bond of $200,000. Based on the loan amount and rate of interest, interest
expense will be $16,000 and the tax rate is 30%.
Cost of Debt = $16,000(1-30%)

Cost of Debt = $16000(0.7)
Cost of Debt = $11,200
Cost of debt of the company is $11,200.
What is a risk-free rate of return?

The risk-free rate of return is the theoretical rate of return of an investment with zero risk.
The risk-free rate represents the interest an investor would expect from an absolutely risk-free
investment over a specified period of time.
Formula:
Rfr = Rf less inflation rate
Example:
Mr. A wants to borrow funds from B. The risk free rate is 6% and current inflation is 2%. It
is expected that the inflation is expected to grow at 3%. B finds a relevant margin of 4% on the
loan.
Risk free rate is 6% - 2% = 4%

New nominal risk free rate is 4% + 3% = 7%
Interest rate for the loan will be 7% + 4% = 11%
It’s up for Mr. A to evaluate whether to borrow or source another financing institution that
offers lower interest rate.
Risks
In commerce, risk is a very important factor to consider that may drives the business up
or down. Risks relates to the volatility patterns in the business.
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There are risks that are inherent in every financing transaction:
Default risk
This arises on the inability to make consistent payments. This type of risk may be
quantified by determining the probability of the borrower to default in their payments in the duration
of the loan.
Liquidity risk
This risk focuses on the entire liquidity of the company or its ability to service its current
portion of their debt as it becomes due.
Legal risk
This risk will arise only upon the ability of any of the parties (lender or borrower) to comply
with the covenants in the contract.
Market risk
Market risk is the impact of the market drivers to the ability of the borrowers to settle the
obligation. This is classified as a systematic risk because it arises from external forces or based
on the movement of the industry.
Mitigating the Interest Rate Risks

Since the interest rate is dependent on the inflation, tenor and other market risks,
companies should consider and make reasonable estimat4s to mitigate these risks.
Some measures to mitigate risks maybe considered:

Spot rates
This is an interest rate that is available or applicable for a particular time. Spot rate maybe
used to mitigate the risk by referring to historical yield vis-à-vis the forces that occur in those
times.
Forward rates
These are normally contracted rates that fixed the rates and allow the party to assume
such risk on the difference between the contracted rate and the spot rate.
Swap rate
This is another contract rate where a fixed rate exchanges for a certain market rate at a
certain maturity.
What are Basis Points (BPS)?

In finance, Basis Points (BPS) are a unit of measurement equal to 1/100th of 1 percent.
BPS are used for measuring interest rates, the yield of a fixed-income security, and other
percentages or rates used in finance.
This metric is commonly used for loans and bonds to signify percentage changes or yield
spreads in financial instruments, especially when the difference in material interest rates is less
than one percent per year.
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One basis point is equal to .01 percent or 1/100th of 1 percent. The succeeding points
move up gradually to 100%, which equals 10000 basis points, as illustrated in the diagram below.
Percentage Basis Points

0.01% 1
0.1% 10
0.5% 50
1% 100
10% 1000
100% 10000
Examples:
> The difference between bond interest rates of 9.85 percent and 9.35 percent is 0.5 percent,
equivalent to 50 basis points.
> The Federal Reserve boosts the interest rates at 100 BPS, signaling an increase from 10
percent to 11 percent.
> Due to the growth of iPhone sales, Apple Inc. reported high earnings, more than what was
estimated; the stock increased 330 BPS, or 3.3 percent, in one day
Why do investors and analysts use BPS?

The main reasons investor use BPS points are:
1. To describe incremental interest rate changes for securities and interest rate reporting.
2. To avoid ambiguity and confusion when discussing relative and absolute interest rates,
especially when the rate difference is less than 1 percent, but the amount has material
importance to discuss.
For example, when discussing an interest rate that has increased from 11% to 12%, some
may use the absolute method stating there is a 1% increase in the interest rate, while some may
use the relative method stating a 9.09% increase in in the interest rate. Using basis points
eliminates this confusion by stating that there is an increase in the interest rate by 100 basis
points.
What instruments do BPS apply to?

The usage of basis points is primarily applied to yields and interest rates, but they may
also apply to the change in the value of an asset, such as, the percentage changes of stock
values. Other examples are:
> Treasury bonds

> Corporate bonds
> Interest rate derivatives
> Credit derivatives
> Equity securities such as common stock
> Debt securities such as mortgage loans
> Options, futures
Managing Solvency and Liquidity

Liquidity is often a more involved strategy than solvency due to it being a short-term
measurement of business. Managing risk associated with liquidity is a necessary component of a
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broader business-wide risk management system that should be in place to help maintain
operations.
Assessing prospective funding needs and ensuring enough money is available at the right
times to handle debt helps keep risk low. Because liquidity is associated with the short term,
regular tasks that can be done to manage risk include:
1. Monitoring and assessing current and future debt obligations

2. Planning for unexpected funding needs
3. Addressing daily liquidity obligations
4. Preparing to withstand any periods of liquidity stress
Ratios that are used to measure Solvency and Liquidity:

Current Ratio
The current ratio expresses the capability of current assets to cover its current liabilities
without resorting to selling long-term assets to cover its current obligations.
Formula Current Assets/Current Liabilities
Quick Ratio
Higher liquidity ratio using quick assets should reveal a very liquid company in terms of
financial health. It should show that a business have more funds to be used for other purposes.
Formula Current Assets less Inventories & Prepayments

Current Liabilities
Debt Ratio
This ratio measures the business total liabilities as a percentage of its total assets. It is
the business ability to pay its liabilities with its existing assets; which means that when a business
sells all its assets, this ratio will determine whether all liabilities can be paid off or not. The higher
the ratio, the riskier the business is for the lenders.
Formula Total Liabilities /Total Assets
A lower ratio implies for a very favorable climate for the business as it means a longer
period of existence. Most businesses have benchmarks for this ratio but a ratio of 0.5 is
reasonable as it is considered less risky. It means that the business has twice amount of assets
than its liabilities.
Debt to Equity Ratio

This ratio compares a business total debt total equity. A higher debt to equity ratio means
that the financing aspect of the business comes from creditors than from its owners.
A lower debt to equity ratio means the other way around. In a debt to equity ratio of 0.5,
this means that the business assets are funded by 2 to 1 by owners to creditors. In simple terms,
the owners owned the assets of the business by 2/3 while creditors owned the assets by 1/3.
Formula Total Liabilities/Total Equity
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Collateral Valuation Methods
Collaterals are normally required by financial institutions when acquiring large loans – the
higher their value are, the bigger a loan can be with minimal interest rate.
The following are the most common valuation methods used:

Cost approach
The value of an asset can be determined by the cost to replace or reproduce it. Under this
approach is the appraisers factor in functional and operational obsolescence.
When valuing investments in private company stock using this approach, an appraiser
would subtract liabilities from the combined fair market values of the company’s assets.
Market approach
An asset is worth as much as other assets with similar utility in the marketplace under this
approach.
With investments in private company stock, for example, an appraiser might look at recent
transactions involving other companies in the same industry and compute pricing multiples from
those comparables.
Income approach
Investors pay for the expected cash they’ll receive every year from an asset and when the
asset is eventually sold (or salvaged) in the future. Often appraisers “discount” future earnings
based on the asset’s risk, using a discounted cash flow analysis.
Appraisers always consider all three approaches, but one or two may be more relevant
than the rest. For example, the cost and market approaches might be more relevant when valuing
vacant land. Conversely, the market and income approaches might be more relevant when
valuing a rental property with an established rent roll.
Answer the following exercises:

What is your understanding on how risks are managed in the financial market?

1). Credit risk is one type of business risk that the borrower was not able to repay its obligation.
2). Credit risk also affects the valuation of accounts receivable.
3). BSP defined interest rates to be a type of price. Interest are set to compensate the risk of
allowing the finances to flow into the financial system.
4). The interest as a price is different on the perspective of the lender or borrower. For lenders,
interest rate is called as lending rate or return.
5). The interest as a price is different on the perspective of the lender or borrower. For the
borrowers, these will serve as cost of debt.
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6). The tenor of the investment also defines the riskiness of the repayment of debt.
7). There are two economic theories that affect the term structure of interest rate. These are
expectations theory and market segmentation theory.
8). Expectation theories is that the interest rates are driven by the expectation of the lender or
borrowers in the risks of the market in the future. These maybe a pure expectation theory and
biased expectation theory.
9). Pure expectations theory is based on the current data and statistical analysis to project the
behavior of the market in the future.
10). Biased Expectation Theory includes that there are other factors that affect the term structure
of the loans as well as the interest to be perceived moving forward.
11). The adjustment or increase on the interest rate is called the liquidity premium
12). Liquidity premium increases as the maturity lengthens. This theory is called the liquidity
theory.
13). The risk-free rate should be the rate that assumes zero default in the market where this is
more or less equivalent to the rates offered by the sovereign.
14). Market Segmentation Theory assumes that the driver of the interest rates are the savings
and investment flows.
15). In commerce, risk is a very important factor to consider that may drives the business up or
down. Risk relates to the volatility of return patterns in the business.
16). There are risks that are inherent in every financing transaction. These are default risk, liquidity
risk, legal risks, and market risks, among others.
17). Default risk arise on the inability to make payment consistently.
18). Liquidity Risk is identified by ensuring the business to be capable of meeting all its currently
maturing obligation.
19). Legal risk is dependent on the covenants set and agreed in between the lenders and the
borrowers.
20). Market risk is the impact of the market drivers to the ability of the borrowers to settle the
obligation.
21). Since the interest rate is dependent on the inflation, tenor and other market risks. Companies
should consider and make reasonable estimates to mitigate these risks.
22). When the agreement is a spot rate the applicable interest rate is based on the prevailing
market rate at the particular time.
23). Forward rates are normally contracted rates that fixed the rates and allow a party to assume
such risk on the difference between the contracted rate and the spot rate.
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24). Swap rate is another contract rate where a fixed rate exchange for a certain market rate at a
certain maturity.
25). The credit ratings are determined by companies that are recognized globally that objectively
assigns or evaluates countries and companies based on the riskiness of doing business with
them.

1. Which of the following is incorrect about credit risk?
a. Credit risk is one type of business risk.
b. This is the risk that the lender was not able to repay its obligation. (borrower not lender)
c. Credit risk also affects the valuation of accounts receivable.
d. Such risk is valuated as a factor to determine the cost of lending or financing using debt.
2. This economic theory accordingly drives the interest rate assumes that it is ideal to supply
funds when the interests are high and vice versa.
a. Loanable funds b. Liquidity preference c. Expectation d. Market Segmentation
3. This economic theory accordingly drives the interest rate assumes that the interest rates are
dependent on the preference of the household whether they hold or use it for investment.
4. Which of the following is correct about interest rates?

a. BSP defined interest rates to be a type of price.
b. The interest as a price is similar on the perspective of the lender or borrower. (different)
c. For borrowers, interest rate is called as lending rate or return. (For lenders)
d. For lenders, these will serve as cost of debt. (For borrowers)
5. This economic theory accordingly affects the term structure of interest rate. Interest rates are
driven by the expectation of the lender or borrowers in the risks of the market in the future.
6. This economic theory accordingly affects the terms structure of interest rate. This theory
assumes that the driver of the interest rates are the savings and investment flows.
7. This theory is based on the current data and statistical analysis to project the behavior of the
market in the future
a. Pure Expectation b. Biased Expectation c. Liquidity d. Preferred Habitat
8. This theory includes that there are other factors that affect the term structure of the loans as
well as the interest to be perceived moving forward. The forward rates will be affected or will be
adjusted if the liquidity of the borrower will be weaker or stronger in the future.
a. Pure Expectation b. Biased Expectation c. Liquidity preference d. Market Expectation
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9. To determine the appropriate interest rate or rates the following factors should be considered
assuming the cash flows are already been established:
a. Interest rates in the industry
b. Risk exposure
c. Compensation on the market expectation.
d. All of the above
10. Related to the determination of interest rates, the following are true except:
a. In finance, interest can be determined by the function of the risk and the compensation of
the investor on the difference between the risk-free rate and the market fluctuations
b. Another way on how to calculate the interest rate is by the function of the market value, par
value and the interest expense paid by debt securities or bonds.
c. The risk-free rate should the rate that assumes zero default in the market where this is more
or less equivalent to the rates offered by the sovereign.
d.The low risk rate can be real or excludes the effect of inflation or the exclusion of the effect
of the purchasing power of Philippine Peso. (Risk free rate)
11. Identify the risks described in each statement:

1st: Arise on the inability to make payment consistently. Most of the businesses was able to
raise financing on their demands, however their cash flows projected were not that guaranteed.
2nd: Identified by ensuring the business to be capable of meeting all its currently maturing
obligation.
a. Liquidity; Default b. Default; Liquidity c. Solvency; Default d. Default; Solvency
12. Identify the risks described in each statement:

1st: Dependent on the covenants set and agreed in between the lenders and the borrowers.
2nd: Classified as a systematic risk because it arises from external forces or based on the
movement of the industry.
a. Legal; Market b. Market; Legal c. Contractual; Industry d. Industry; Contractual
13. __________ is the interest rate or yield available / applicable for a particular time.
a. Prevailing rate b. Spot rate c. Forward rate d. Day rate
14. Normally contracted rates that fixed the rates and allow a party to assume such risk on the
difference between the contracted rate and the spot rate.
a. Prevailing rate b. Spot rate c. Forward rate d. Future rate
15. Contract rate where a fixed rate exchange for a certain market rate at a certain maturity.
Usually the one used as reference is the LIBOR.
a. Swap rate b. Exchange rate c. Forward rate d. Future rate
16. The ______________ are determined by companies that are recognized globally that
objectively assigns or evaluates countries and companies based on the riskiness of doing
business with them. The riskiness is primarily driven by their ability to manage their liquidity and
solvency in the long run. The higher the grade the lower the default risk associated to the country
or company.
a. Credit Ratings b. Credit Score c. Investment Rating d. Investment Score
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17. The following statements are correct, except:
a. Standard and Poor’s Corporation or S&P is an American financial services corporation was
founded in 1941 by Henry Varnum Poor in New York, USA.
b. Moody’s Investors Services or Moody’s is credit rating company particularly on equity
securities established in 1909 in New York, USA. (debt securities not equity)
c. Fitch Ratings was founded in 1914 in New York, USA. The company was owned by Hearst.
d. DBRS was established in 1976 in Toronto, Canada. The company was considered as the
fourth largest ratings agency.
18. The following are major credit ratings company, except:

a. S&P b. Moody's c. Fitch d. MTRCB
19. Which of the following is not correct?

a. One of the challenges in financing is to ensure the ability of the borrowers to settle the
obligation. The risk involve in financing are: default risk, liquidity risk, and market risk among
others.
b. It is theoretically assumed that the cost of financing is affected by the availability of loanable
funds which is the Loanable Funds Theory and the maturity of the loans, where the longer the life
of the loans the higher the rate is Liquidity Premium Theory. (Liquidity Preference Theory)
c. The three factors that affect the interest rates: (1) industry; (2) risk exposure; and (3)
compensation for the market expectation. Hence, the interest formula will require the function of
default or risk-free rate, inflation and debt premium for the compensation.
d. In order to mitigate the risk, most businesses hedge forward rates or enter into a swap rate
agreement. It is important for the borrowers and lenders to know what the spot rate in the
prevailing market is and employ certain expectations in the future.
20. The common unit of measure for interest rates and other percentage in finance is called BPS.
What does BPS stand for?
a. Basis points b. Basic percentages c. Basic point system d. Basic percentage system
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MODULE 4. FINANCIAL INSTRUMENTS
OBJECTIVES
 Describe the different financial instrument
 Identify the limitations or risk in using each financial instrument
 Describe how financial instruments be valued and treated in financial reports
COURSE MATERIALS
Financial instruments are monetary contracts between parties. ... International Accounting
Standards IAS 32 and 39 define a financial instrument as "any contract that gives rise to a financial
asset of one entity and a financial liability or equity instrument of another entity".
Financial instruments or assets or securities are intangible as future economic benefits

takes a claim in the form of cash that will be received in the future.
Two parties involved: the issuer and the investor
Issuer is the party that issues the financial instruments and promises to make future cash
payments to the investor. Normally, issuer has requirements for the business when issuing
financial liabilities/obligations.
Investor is the party who owns the financial instruments issued by the borrower which
bears the promise to pay for the principal + interests. This is normally traded in the financial market
by investors to persons willing to pay for the proceeds and willing to take (inherent) risks.
MONEY MARKET
In the money market, financial instruments are traded and not cash/currency
- Short term and highly liquid
- Sold in large denominations
- Low default risk and matures within one year or less
- Classified in the financial statements as cash equivalents (redeemable within three
months or less from the date of purchase)
TYPES OF FINANCIAL INSTRUMENTS

Money market instruments took the form of short-term deposits, government securities,
commercial papers and certificates of deposit which form part of the Philippine interest rate
market.
Treasury Bills
- Government securities issued by the Bureau of Treasury which mature in less than a
year
- Three tenors: 91-day, 182-day and 364-day (# of days is a universal practice
ensuring that the bills mature in a business day)
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- Quoted either by their yield date (a discount) or by their price based on 100 points
per unit.
- T-bills which will mature in less that 91-day are called Cash management Bills (35
day or 42 day)
- Banks bid for the t-bills held by the Bureau of Treasury and resell these to investors.
- Have zero default risk (safest investment instrument) since the government can
always print more money that they can use to redeem these securities at maturity.
- Can be traded easily in the secondary market.
- Interest not stated but sold at a discount (lower purchase price than the maturity
value)
Repurchase Agreement
What Is a 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.
For the party selling the security and agreeing to repurchase it in the future, it is a repo;
for the party on the other end of the transaction, buying the security and agreeing to sell in the
future, it is a reverse repurchase agreement.
Repos are typically used to raise short-term capital.
Think of a repurchase agreement as a loan with securities as collateral. For example, a

bank sells bonds (collateral) to another bank and agrees to buy the bonds back later at a higher
price.
Negotiable Certificates of Deposits

These are securities issued by banks which records a deposit made indicating the
interest rate and the maturity date. This can’t be easily withdrawn since this is different from a
demand deposit. The CD restricts the holder from withdrawing the fund until maturity date for a
promise of high return than a regular demand deposit.
Commercial Paper
- Unsecured promissory notes that are only issued by large and credit worthy
enterprises
- Maturity can be short-term or long term
- Directly issued to the buyer, no secondary market
- Issuers maintain credit lines with banks to back-up the commercial papers when it
falls due and no funds are available to pay for the lenders (reduces the risk).
- May have stated interest rate or sold at discounted basis
Banker’s Acceptance
This refers to an order to pay a specified amount of money to the bearer on a specified
date. This is often used to finance the purchase of goods that have yet to be delivered to the
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buyer. This type of instrument is used by importers and exporters of goods where buyer and
seller have no established credit with each other. This is directly payable to the buyer.
EVALUATING MONEY MARKET SECURITIES

In evaluating money market securities, interest and tenor of the securities before maturity
are the large factors to consider. As the interest increases, the value od the securities reduces.
As a finance person, one must have to understand which money market to invest on which
can be evaluated based on the interest rates and liquidity. Interest rates dictate the potential return
that can be received from an investment. Interest rates on money market is relatively low as a
result the low risks associated with them and the short maturity period.
Money market securities have a deep market so that these are competitively priced; they
carry the same risks profile and attributes making each instrument a close substitute for each
other.
VALUATION ON MONEY MARKET SECURITIES

Valuation of money market securities is important to determine at what amount an investor
is willing to pay in exchange of a security. This can be valued using the present value approach
where the interest rate used in the valuation shall reflect the required return from the instrument
based on the investors’ perceived risk.
The formula for present value is:
PV = CF/(1+r)n
Where:
CF = cashflow in future period
r = the periodic rate of return or interest (also called the discount rate or the
required rate of return)
n = number of periods
Let's have an example.

Assume that you would like to put money in an account today so that you have enough
money in 10 years. If you would like to invest P10,000 in 10 years, and you know you can get 5%
interest per year from a savings account during that time, how much should you put in the account
now?
To compute:
PV = P10,000/ (1 + .05)10 = P6,139.13
a. On ordinary calculator, you divide P10,000 by 1.05 then press equals (=) ten times.
b. Using the PV table, locate the period of 10 years, then rate of 5%. Using the equivalent
factor, multiply it to the P10,000 amount.
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Hence, P6,139.13 will be worth P10,000 in 10 years if you can earn 5% each year. In other
words, the present value of P10,000 in this scenario is P6,139.13. It is important to note that the
three most influential components of present value are time, expected rate of return, and the size
of the future cash flow.
Why Does Present Value (PV) Matter?

The concept of present value is one of the most fundamental and prevalent in the world
of finance. It is the basis bond pricing, stock pricing financial modeling, banking, insurance, and
pension fund valuation. It accounts that money we receive today can be invested to earn a return.
Present value accounts for the time value of money.
Exercise Mod 4-1 (Essay)

In simple language, what do you understand about financial instruments? What is its importance
and role to the business and to the economy?
Exercise Mod 4-2 (True or False)

1). According to Conceptual Framework for Financial Reporting (2018), a property is a resource
controlled by the entity as a result of past events and from which future economic benefits are
expected to flow to the entity.
2). Financial instruments are the main vehicle used for transactions in the financial market. For
the purposes of presentation in financial statements, financial instruments may be presented
under cash equivalents or investments.
3). The investor is the party that issues the financial instrument and agrees to make future cash
payments to the investor.
4). The issuer is the party that receives and owns the financial instrument and bears the right to
receive payments to be made by the issuer.
5). The investors usually have surplus funds that are not earning anything and are willing to bear
some risk to earn something from their surplus funds.
6). On an accounting perspective, investors recognize financial instruments as a liability.
7). At the point of issuance of the financial instrument, the issuer usually gives something of value
(usually cash) to the investor. The financial instrument then becomes the proof (hence, called as
security) of the future claim of the investor from the issuer.
8). One primary misconception is that money or currency is the security being traded in a money
market.
9). Financial instruments are the primary subject of trading in a money market
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10). Financial instruments traded in the money market are short-term and highly liquid, that it can
be considered close to being money.
11). Transactions in the money market are not confined to one singular location. Instead, the
traders organize the purchasing and selling of the securities among participants and closes the
transactions electronically.
12). Most transactions in the money market are very large, hence, they are considered as retail
markets.
13). A mature secondary market for money market instruments allows the money market to be
the preferred place for firms to temporarily store excess funds up until such time they are needed
again by the organization.
14). Investors look at the money market as a permanent investment that will provide a slightly
higher return than holding on the money or depositing it in banks.
15). If investors believe that the prevailing market conditions do not justify a stock purchase or
there might be a possible interest rate hikes impacting bonds, then they can choose to invest on
money market instruments in the meantime.
16). Money market Instruments took the form of short-term deposits, government securities,
commercial papers and certificates of deposit which form part of the Philippine interest rate
market.
17). Money market instruments are governed by Philippine regulations and are influenced by
market movements.
18). Treasury Bills are government securities issued by Bangko Sentral ng Pilipinas which mature
in less than a year.
19). There are three tenors of Treasury Bills: (1) 91 day (2) 182-day (3) 364-day Bills.
20). Treasury bills have virtually zero default risk since the government can always print more
money that they can use redeem these securities at maturity.
21). Government securities, particularly treasury bills, are the safest investment instrument in the
market. Because they are backed by the full taxing power of the government, they are practically
default risk-free.
22). When a P1,000 Treasury bill with a 91-day tenor can be purchased at 995, this means that
its Annualized Investment rate is 1.98%
23). A repurchase agreement (repo) is a financial contract involving two securities transactions,
a sale/purchase of a debt security on a near date and a reversing purchase/sale of the same or
equivalent debt security on a future date.
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24). Repos are a key component of the debt securities market that produces short-term cash or
securities liquidity critical to price-making activity of fixed income dealers.
25). Dealers of government securities commonly use repos to manage liquidity and take
advantage of expected changes in interest rates.
26). Negotiable certificates of deposit are securities issued by banks which records a deposit
made.
27). Negotiable certificate of deposit is also classified as a bearer instrument. As a bearer

instrument, whoever person or entity which possesses the instrument upon maturity will receive
the principal and interest.
28). Long term commercial paper means an evidence of indebtedness of any person with a
maturity of three hundred and sixty-five (365) days or less.
29). Since commercial papers are unsecured, only large and creditworthy corporations can issue
this security. Lenders will not accept commercial papers from small companies since they are
going to assume high level of risk since this security is not secured.
30). Banker’s acceptances refer to an order to pay a specified amount of money to the bearer on
a specified date.
31). Banker’s acceptance are usually offered to importers and exporters.
32). Banker’s acceptances are usually payable to the order. Hence, this can be subsequently
purchased and sold until it matures.
33). Money market securities may be evaluated based on the interest rates and liquidity.
34. Valuation of money market securities is important to determine at what amount an investor is
willing to pay in exchange of a security
35). As a general rule, as the interest rate rises, the value of the security becomes higher. This
means that the market risk is increases thus the impact on the value of the securities also reduces.
Exercise Mod 4-3 (Multiple Choice)

1). Using the present value approach, what is the market security value of one-year Treasury bill
is at P1,000 with an annual interest rate of 3%?
a. P 1,030.00 b. P 970.87 c. P 1,000.00 d. P942.60
2). Using the present value approach, what is the market security value of 90-day Treasury bill is
at P1,000 with an annual interest rate of 4%?
a. P 990.10 b. P 961.54 c. P 1,000.00 d. P 1,040.00
3). Using the present value approach, what is the return of one-year Treasury bill is at P1,000
with an annual interest rate of 3%?
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a. P 30.00 b. P 29.13 c. P 0.00 d. P57.40
4). Using the present value approach, what is the return of 90-day Treasury bill is at P1,000 with
an annual interest rate of 4%?
a. P 9.90 b. P38.46 c. P 0.00 d. P 40.00
5). What is the Annualized Discount rate of a P1,000 Treasury bill with a 91-day tenor that can be
purchased at 995?
a. 1.98% b. 2.02% c. 0.50% d. 1.00
6). What is the Annualized Investment rate of a P1,000 Treasury bill with a 91-day tenor that can
be purchased at 995?
a. 1.98% b. 2.02% c. 0.50% d. 1.00
7). ___________________ are the main vehicle used for transactions in the financial market. For
the purposes of presentation in financial statements, these may be presented under cash
equivalents or investments.
a. Financial Intermediary b. Financial Instruments c. Currency d. Money
8). Which of the following is not correct about financial instruments?

a. The issuing party usually needs additional funds for investment to further grow their
business.
b. The investors usually have surplus funds that are not earning anything and are willing to
bear some risk to earn something from their surplus funds.
c. At the point of issuance of the financial instrument, the issuer usually receives something
of value (usually cash) from the investor.
d. The investor is the party that issues the financial instrument and agrees to make future
cash payments to the investor.
9). Which of the following is not an economic purpose of financial instruments?

a. Allows transfer of fund from entities with excess funds (investors) to entities who needs
funds (issuer) for business purposes (e.g. to pay for tangible assets).
b. Permit transfer of fund that allows sharing of inherent risk associated with the cash flows
coming from tangible asset investment between the issuer and investor.
c. Allows the money market to be the preferred place for firms to temporarily store excess
funds up until such time they are needed again by the organization. (Refers to “Mature Secondary
Market for money market instruments” not to financial instruments)
d. All are economic purposes of financial instruments.
10). Money market securities have fundamental characteristics, except:

a. Usually sold in large denominations
b. Low default risk
c. Mature in one year or less from original issue date.
d. Money market securities commonly have an active secondary market.
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MODULE 5. DEBT SECURITIES MARKET
OBJECTIVES
 Identify different types of bonds
 Select the bond or debt security investments that will yield higher value
COURSE MATERIALS
Debt market or debt securities market is the financial market where the debt instruments
or securities are transacted by suppliers and demanders of funds. This is the:
- Money market for short term debts
- Capital market for long term debts, like equity in the stock market
DEBT INSTRUMENTS
What are debt instruments?
 A paper or electronic obligation that enable the issuer to raise funds by promising to
repay lender in accordance to terms of the contract
 Provide a way to market participants to easily transfer the ownership of debt obligations
from one party to another.
 A legally enforceable evidence of a financial debt and the promise to timely repay the
principal and interest.
Importance of debt instruments

1. It makes the repayment of the debt instrument legally enforceable
2. It increases transferability of the obligation by way of increased liquidity and a means to
trade this in the financial market.
Types pf Debt Instruments

a. Short-term debt instruments – obligations both personal and corporate that are paid
within one year.
Examples are: credit card bills, payday loans, car title loans, consumer loans, revolving
credit lines, treasury bills
b. Long term debt instruments – obligations due for payment for over a year through
periodic installment payments.
Examples are: mortgage, car loans
DEBT SECURITY
What is a debt security?
 refers to a debt instrument that has defined basic terms and can be bought or sold
between two parties.
 Also known as fixed-income securities that are traded over the counter
 Interest rate is largely determined by the perceived repayment ability of the borrower.
 The total dollar value of traded debt securities that are conducted daily is much larger
than the traded stocks.
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Examples are: collateralized securities, collateralized debt obligations (CDO),
collateralized mortgage obligations (CMO), mortgage backed securities issued by the
Government National Mortgage Association, zero-coupon rate.
Basic terms of a debt security

- Notional (estimated/theoretical) amount or amount borrowed
- Interest rate
- Maturity and renewal date
Types of debt securities

1. Money market debt securities – debt securities with maturities of less than one year like
treasury bills and certificate of deposits
2. Capital debt securities – debt securities with maturities of more than one year like notes,
bonds and mortgage backed securities
Debt Security vs Debt Instrument

What is the difference between debt security and debt instrument?
Debt security
 refers to money borrowed that must be repaid and has a fixed amount, a maturity date
and interest rate.
 Can be bought or sold between two parties
 Some are discounted in the original market price.
 Examples are treasury bills, bonds, preferred stock and commercial paper
Debt instrument
 Can be paper or electronic form; a tool that an entity can utilize to raise capital
 Gives market participants the option to transfer the ownership of the debt obligation from
one party to another
 Primary focuses on debt capital raised by institutional entities.
 Examples are bonds, debentures (unsecured loans), leases, certificates, bills of
exchange and promissory notes, credit cards, loans, credit lines
A bond is a typical example of a debt instrument as it is an instrument of indebtedness of the

bond issuer to the holders. It is also a debt security, under which the issuer owes the holders a
debt and is obliged to pay them interest (the coupon) or to repay the principal at maturity date.
Debt securities have implicit level of safety because they ensure that the principal amount is
returned to the lender at maturity date or upon the sale of the security. They are classified by their
level of default risk, the type of issuer and income payment cycles. The riskier the bond, the higher
is its interest rate or return yield.
Types of bonds
1. Corporate bonds – these are bonds issued by corporations to finance operations or
expansions.
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2. Government bonds – these are bonds issued by government that provides the face value
on the agreed maturity date with periodic interest payments. This type of bond attracts
conservative investors.
3. Municipal bonds- these are bonds issued by the local government and their agencies
purposely to fund special projects.
4. Mortgage bonds – these are pooled mortgages on real estate properties which are locked
in by the pledge of particular assets. Payments may be monthly, quarterly or semi-
annually.
5. Asset-backed bonds (Asset-backed Securities ABS) – this is a financial security
collateralized by pool of assets such as loans, leases, credit card debt, royalties or
receivables.
6. Collateralized Debt Obligation (CDO) - this is a structured financial product that pools
together cash flow generating assets and repackages this asset pool into discrete
tranches (which vary substantially in their risk profile) that can be sold to investors. Like
the senior tranches are generally safer because they have first priority on payback from
the collateral in the event of default.
Characteristics of Bond
 Coupon rate – this is the fixed interest rate or return of the bond which is paid to the
bondholders semi-annually.
 Maturity date – this is the period when the bond issuer pays the investor at full-faced
value of the bond. This may be short-term or long-term.
 Current or market price – bonds can be purchased at par, below par or above par. The
market price depends on the level of interest rate in the market.
Bond Valuation
This is a technique in determining the theoretical fair value of a bond. Bond valuation
includes calculating the present value of the bond’s future interest payments, also known as its
cash flows, and the bond’s value upon maturity, also known as the face value or par value.
Approach in Bond Valuation

a. Traditional approach – where valuation is to discount every cash flow of a bond by the
same interest rate or discount rate for each period.
b. Arbitrage Free Valuation approach – this value the bond as a package of cash flows, with
each cash flow viewed as a zero-coupon bond and each cash flow discounted at its unique
discount rate.
Valuation of bonds with embedded options

There are two models:
a. The lattice model which is used to value callable bonds and putable bonds
b. The Monte Carlo simulation model which is used to value mortgage-backed securities and
certain types of asset-backed securities.
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Answer the following Exercises
Give a brief summary of your understanding of what debt securities are and their importance to
the businesses and to the economy.

1). Financial market is a forum or market that enables suppliers and demanders of funds to make
transactions.
2). Debt can be short term or long term that is why it can be within capital market definition if short
term, while in money market if long term.
3). Debt market or Debt Securities Market is the financial market where the debt instruments or
securities are transacted by suppliers and demanders of funds.
4). A debt instrument is a paper or electronic obligation that enables the issuing party to raise
funds by promising to repay a lender in accordance with terms of a contract.
5). Types of debt instruments include notes, bonds, debentures, certificates, mortgages, leases
or other agreements between a lender and a borrower.
6). The importance of a debt instrument is twofold. First, it makes the repayment of debt legally
enforceable. Second, it increases the transferability of the obligation, giving it increased liquidity
and giving creditors a means of trading these obligations on the market.
7). Without debt instruments acting as a means of facilitating trading, debt would only be an
obligation from one party to another.
8). Long-term debt instruments are obligations due in one year or more, normally repaid through
periodic installment payments.
9). Short-term debt instruments, both personal and corporate, come in the form of obligations
expected to be repaid within one calendar year.
10). In corporate finance, short-term debt usually comes in the form of revolving lines of credit,
loans that cover networking capital needs and Treasury bills.
11). Long-term debt instruments in personal finance are usually mortgage payments or car loans.
12. Debt security refers to a debt instrument, such as a government bond, corporate bond,
certificate of deposit (CD), municipal bond or preferred stock, that can be bought or sold between
two parties and has basic terms defined, such as notional amount (amount borrowed), interest
rate, and maturity and renewal date.
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13). The interest rate on a debt security is largely determined by the perceived repayment ability
of the borrower; higher risks of payment default almost always lead to higher interest rates to
borrow capital.
14). Also known as fixed-income securities, most debt securities are traded over the counter.
15). Debt securities, sometimes referred to as fixed-income securities, include money market
securities and capital market debt securities such as notes, bonds, and mortgage backed
securities.
16). Money market securities are debt securities with maturities of less than one year. Money
market securities of most interest to individual investors are treasury bills (T-bills) and certificates
of deposit (CDs).
17). Capital market debt securities are debt securities with maturities of longer than one year.
Examples are notes, bonds, and mortgage-backed securities.
18). Usually Financial Instruments and Financial Securities are interchangeably used, and these
are indeed similar.
19). All financial instruments are financial securities.
20). A security is a fungible, negotiable financial instrument that holds some type of monetary
value.
21). A security represents an ownership position in a publicly-traded corporation (via bonds), a

creditor relationship with a governmental body or a corporation (represented by owning that
entity's stock), or rights to ownership as represented by an option.
22). Financial Instruments are called securities since securities carry some value on them. When
they are exchanged in the market, the realization will be informed of cash and a benefit for the
holder of the securities.
23). Alternately we can call financial instruments are called Securities, since they are backed by
Corporations or Government.
24). Debt securities are negotiable and tradable debt instruments which carry value on them.
25). A credit card bills, and payday loans are examples of debt securities.
26). Debt securities represent a claim on the earnings and assets of a corporation, while equity
securities are investments into debt instruments.
27). A stock is an equity security, while a bond is a debt security.
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28). When an investor buys a stock, he is essentially loaning the corporation money, and he has
the right to be repaid the principal and interest on the bond. In contrast, when someone buys a
bond from a corporation, he essentially buys a piece of the company.
29). While most people are more familiar with the market for equity securities, the debt market is
nearly twice its size, globally.
30). Debt securities have an implicit level of risk simply because they ensure that the principal
amount that is returned to the lender at the maturity date or upon the sale of the security.
31). Debt market or Debt securities market is also known as bond market is a financial market in
which the participants are provided with the issuance and trading of debt securities.
32. The bond market primarily includes government-issued securities and corporate debt
securities, facilitating the transfer of capital from savers to the issuers or organizations requiring
capital for government projects, business expansions and ongoing operations.
33). In the bond market, participants can issue new debt in the market called the primary market
or trade debt securities in the market called the secondary market.
34). In bond markets, the participants are either buyers of funds (that is, debt issuers) or sellers
of funds (institutions).
35). The general bond market can be classified into corporate bonds, government and agency
bonds, municipal bonds, mortgage-backed bonds, asset-backed bonds, and collateralized debt
obligations.
36). National government provides corporate bonds to raise money for different reasons, such as
financing ongoing operations or expanding businesses.
37). Public Corporations issue government bonds and entice buyers by providing the face value
on the agreed maturity date with periodic interest payments. This characteristic makes
government bonds attractive for conservative investors.
38). Local governments and their agencies, states, cities, special-purpose districts, public utility
districts, school districts, publicly owned airports and seaports, and other government-owned
entities issue municipal bonds to fund their projects.
39). Pooled mortgages on real estate properties provide mortgage bonds. Mortgage bonds are
locked in by the pledge of particular assets.
40). Asset-backed security (ABS) is a financial security collateralized by a pool of assets such as
loans, leases, credit card debt, royalties or receivables.
41). Bond valuation is a technique for determining the true fair value of a particular bond.
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42). Because a bond's par value and interest payments are not fixed, an investor uses bond
valuation to determine what rate of return is required for a bond investment to be worthwhile.
43). When the bond matures, the bond issuer repays the investor the full discounted value of the
bond.
44). 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 premium, that is,
above par.
45). Practitioners commonly use two models in cases of bonds with embedded options: The
traditional model and Monte Carlo simulation model.

1). Which of the following approaches is appropriate for bonds with embedded options?
a. Traditional valuation b. Arbitrage free valuation c. Risk free valuation d. Lattice model
2). The fixed return that an investor earns periodically until bond matures.
a. coupon rate b. cost of capital c. return of investment d. coupon bond
3). The date when bond issuer repays or pays the investor the full-face value of the bond.
a. payment date b. repayment date c. maturity date d. bond amortization date
4). This is the prevailing value of bond based on the level of interest in the environment. This
maybe at par, premium or at discount.
a. Current Price (or Market Price) b. Premium Price c. Discounted Price d. Par Value
5). This technique of determining the theoretical value of bond includes calculating the present
value of the 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.
a. Net Present Value b. Capital Budgeting c. Bond Valuation d. Theoretical valuation
6). Which of the following is not correct about the importance of a debt instrument?
a. It makes the repayment of debt legal. (legally enforceable)
b. It increases the transferability of the obligation, giving it increased liquidity and giving
creditors a means of trading these obligations on the market.
c. Without debt instruments acting as a means of facilitating trading, debt would only be an
obligation from one party to another.
d. When a debt instrument is used as a trading means, debt obligations can be moved from
one party to another quickly and efficiently.
7). A credit card bill is an example of

a. short term securities b. money market securities c. short term debt instruments d. short
term equity instruments
8). Which of the following is not a debt security?

a. pay day loans evidenced by loan agreement
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b. government bond
c. preferred stock
d. collateralized debt obligations
9). Which of the following are money market debt securities?

a. Treasury bills and Certificate of Deposits
b. Treasury bills, notes and bonds
c. Certificate of Deposits and Preferred stocks
d. Credit Card bills and Pay Day Loans
10). Which of the following are capital market debt securities?

a. Treasury bills and Certificate of Deposits
b. Treasury bills, notes and bonds
c. Certificate of Deposits and Preferred stocks
d. Treasury notes and bonds
11). What is the difference between debt instrument and debt security?
a. They can be interchangeably used hence similar.
b. Not all debt instruments are debt securities, however debt securities are all debt
instruments.
c. Not all debt securities are debt instruments, however debt instruments are all debt
securities.
d. Debt instruments are negotiable and tradable debt securities.
12). What is the difference between debt securities and equity securities?
a. Equity securities represent a claim on the earnings and asset of the corporation while debt
securities are investments into debt instruments.
b. Equity securities are in the form of stocks like preferred stock while debt securities are in
the form of bonds
c. Equity securities represents investment in debt instruments while debt securities are
investment in preferred stocks.
d. Both are negotiable and tradable securities, hence similar.
13). Which of the following is the safest (least risky) investment?

a. treasury bills b. investment of common stock with voting rights c. preferred stock non-
cumulative d. corporate bonds
14). Debt securities are typically classified by the following except:

a. level of default risk b. type of issuer c. income payment cycles d. interest rate
15). Which of the following is incorrect about bond market?

a. Also known as debt securities or credit market
b. The bond market primarily includes government-issued securities and corporate debt
securities, facilitating the transfer of capital from savers to the issuers or organizations requiring
capital for government projects, business expansions and ongoing operations.
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c. In the bond market, participants can issue new debt in the market called the initiate public
offering or trade debt securities in the market called the secondary market.
d. The goal of the bond market is to provide long-term financial aid and funding for public and
private projects and expenditures.
16). Corporations provide _____________ to raise money for different reasons, such as financing
ongoing operations or expanding businesses.
a. corporate bonds b. institutional bonds c. private bonds d. pubic bonds
17). National governments issue government bonds and entice buyers by providing the face value
on the agreed maturity date with periodic interest payments.
a. corporate bonds b. institutional bonds c. private bonds d. government bonds
18). Local governments and their agencies, states, cities, special-purpose districts, public utility
districts, school districts, publicly owned airports and seaports, and other government-owned
entities issue ________________ to fund their projects.
a. corporate bonds b. municipal bonds c. private bonds d. government bonds
19). ____________ are locked in by the pledge of particular assets.

a. corporate bonds b. municipal bonds c. mortgage bonds d. government bonds
20. _____________ is similar to a mortgage-backed security, except that the underlying securities
are not mortgage-based.
a. Asset backed bonds b. non-mortgage backed security c. mortgage bonds d.
collateralized debt obligation
21). is a structured financial product that pools together cash flow-generating assets and
repackages this asset pool into discrete tranches that can be sold to investors.
a. Asset backed bonds b. non-mortgage backed security c. mortgage bonds
d. collateralized debt obligation
22). _____________ manage and measure bond portfolio performance. Many __________ are
members of broader indices that may be used to provide and measure the performances of global
bond portfolios.
a. bond indices b. debt security indices c. consumer price indices d. market indices
23). A corporate bond was issued by X Corporation to an Y Corporation. From this investment, Y
Corporation will earn 5% every year for 5 years. Y Corporation has paid for this Php1,000.00
value bond for only Php990.00. What do you call the 5% that will be earned by Y Corporation?
a. coupon rate b. cost of capital c. cost of debt d. cost of bond
24). Following above, the Php 990.00 referred is called ___________

a. current price b. face value c. bond value d. coupon value
25). Following above, the Php 1,000.00 referred is called ____________.

a. current price b. face value c. bond value d. coupon value
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MODULE 6. EQUITY SECURITIES MARKET
OBJECTIVES
 Describe the different types of market capitalization
 Determine value of stocks based on the financial information made available to them
 Describe the rules and regulations applicable for a listed corporation
COURSE MATERIALS
Equity Securities Market is the avenue where equity instruments are traded. Equity
instrument is a type of financial instrument that can be traded in the financial market.
If we say Equity, this is the shareholders’ equity portion in the statement of financial
position which is the residual value of the company after deducting the liabilities from the assets.
Definition of Terms
Equity instrument
It is a type of financial instrument wherein the issuer agrees to pay an amount to the
investor in the future based on the future earnings of the company. The earnings used as basis
of the amount to be paid to equity instrument is determined after setting all required payments of
business. The most common example of equity instruments is shares.
Authorized capital stock

This refers to the maximum amount stated in the articles of incorporation as authorized by
SEC that can be subscribed by investors of a corporation if the shares have a par value. Par value
is the nominal value of the share that is indicated in the face of the stock certificate. A corporation
cannot issue additional shares in excess of the authorized capital stock unless it files amendment
of the articles of incorporation and seeks approval from SEC.
Outstanding shares
This refers to the total shares of stocks issued to subscribers or shareholders, whether
partially paid or fully paid up. This does not include treasury shares.
Treasury shares
These are shares that are repurchased or bought back by the company from its
shareholders.
Issued shares
These refer to all shares that were issued by the company, whether outstanding or
treasury shares.
Why invest in equity instruments?

The earnings of the equity instruments are through the following:
 Capital appreciation
This refers to the rise in the value of an asset in relation to the increase in its market price.
Since shares can be sold in the secondary market, investors may sell shares they originally
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bought from a corporation to prospective investors at an agreed price. Example: Mr. A bought
1,000 shares at P10. Six months later, the price of the shares appreciates to P12. This means
that if Mr. A sells its shares, he will earn a realized income of P2 per share.
 Dividends
- these are payments made by corporations to shareholders representing increase
earnings of the company.
- dividends are usually pad our quarterly, but some companies pay it semi-annually or
annually.
- these are recommended by management and approved by the board of directors.
- These can be in the form of cash, property or own shares of the company.
Dividends are not dependent on capital appreciation of the shares; it is based on the
current performance of the business. It may be declared even if the share price is going
down as long as long as approved by the board of directors. The company should also
maintain retained earnings of below 100% than its paid-up capital per Sec 42 of the
Corporate Code or else, the company will be penalized for improperly accumulated
earnings tax (IAET) of 10% on the excess of total retained earnings as against the paid-
up capital. This penalty is on the premise that if earnings are declared and paid to
shareholders, a 10% final tax will be collected.
Types of Shares
 Preference share
These are the features of the preference shares:
- Its holders have the distinct rights to be prioritized over ordinary shares in terms of
liquidation.
- It has fixed periodic dividend payments.
- It has no voting rights, but holders of these shares can also have voting rights at the
option of the corporation.
- These are treated as quasi-debt where dividends associated to the shares are like
interest payments on a debt.
- Preference shares can be:
a. Cumulative – dividends in arrears and the current dividend should be paid to
preference shares holders before paying the ordinary shares holders.
b. Callable – allows the issuing corporation to retire or repurchase outstanding shares
within a predetermined period of a time at a specified price. Usually the call price
is higher that the issuance price but gradually decreases over time.
c. Convertible – allows shareholders to convert the preference shares to a stated
number of ordinary shares after a certain date.
 Ordinary shares
These represent the true ownership of the corporation which is called the residual
value to be received by the common stock shareholders after all claims of creditors
and preference shareholders on the net assets are satisfied.
These are the salient features of ordinary shares:

- Dividends are not guaranteed unlike the preference shareholders.
- Ordinary shareholders have limited liability where their obligation is up to the amount
they have invested.
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- High returns in terms of dividends when the company is earning.
- It has voting rights to decide on certain corporate decisions. One share is equivalent
to one vote.
- It has pre-emptive rights where ordinary shareholders are permitted to retain their
proportionate share in the company in case of new share issuances, protecting them
from being diluted of ownership.
- It has stock right to exercise the pre-emptive right. A stock right is a financial instrument
which permits shareholders to buy additional shares from the company at a cheaper
price than the market price, in direct proportion of the shares they own.
Ordinary shares can be:

a. Privately owned – owned by private investors and shares are not publicly traded.
b. Closely owned – owned by an individual investor or a small group of private investors
like a family.
c. Publicly owned or publicly traded – owned by mixed of public and private investors
and the shares are actively traded in the stock market.
d. Widely owned – owned by many unrelated individuals or institutional parties.
Rights versus Warrants

What Are Stock Rights? (source: Investopedia)
Stock rights are instruments issued by companies to provide current shareholders with the
opportunity to preserve their fraction of corporate ownership. A single right is issued for each
share of stock, and each right can typically purchase a fraction of a share, so that multiple rights
are required to purchase a single share.
What Are Warrants? (source: Investopedia)

Warrants are long-term instruments that also allow shareholders to purchase additional
shares of stock at a discounted price, but they are typically issued with an exercise price above
the current market price. A waiting period of perhaps six months to a year is thus assigned to
warrants, which gives the stock price time to raise enough to exceed the exercise price and
provide intrinsic value. Warrants are usually offered in conjunction with fixed income securities
and act as a "sweetener," or financial enticement to purchase a bond or preferred stock.
In short, Rights are issued to get investors to buy more of a company's stock and often provides
voting rights in some business decisions. 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.
STOCK MARKET
The stock market is composed of exchanges and over the counters where shares are
issued and traded publicly. This can be:
- Physical and virtual
- Primary and secondary
The physical site where shares are purchased and sold face to face on a trading floor is
called a stock exchange. The most well-known organized exchange is the New York Stock
Exchange where buyers and sellers who participate in organized exchanges meet in a specified
location and uses an open out-cry auction model to trade securities. Organized exchanges
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employ floor trades that oversee and facilitate the trading of specific shares. The floor traders are
representatives of different brokerage firms.
An over-the-counter market refers to the market wherein shares can be traded by dealers
that are connected electronically by computers. Dealers (also called as market makers) operating
in an OTC market try to make a market by matching the buy and sell orders they received from
investors.
New models to trade stocks have surfaced due to advancement of technology and
changing appetites of the investors. These are Electronic Communications Network (ECN).
This form of network directly links major brokerage firms and traders and removes the need for a
middleman.
The ECN provides the following:
- Transparency – can easily be viewed
- Cost reduction – no commissions for middleman
- Faster execution – because it is fully automated
- After-hours trading – trading can continue anytime of the day
Exchange Traded Funds (ETF) happens when a portfolio containing various securities is
purchased and a share is created based on this specific portfolio which can be traded in the
exchange.
The overall performance of a stock market is measured through stock market indexes
which represents the average of stock prices currently being traded. Investors use stock market
indexes to gain some insights on how a group of stocks could have performed in the market.
PHILIPPINE STOCK EXCHANGE (PSE)

- The national and sole stock exchange of the Philippines.
- One of the oldest stock exchanges in Asia starting in 1927 when it was still called
Manila Stock Exchange.
- Composed of 15-man board of directors
- It was created in 1992due to the merger of the country’s two former stock exchanges
namely: Manila Stock Exchange (MSE) which was established in Aug 8, 1927 and
Makati Stock Exchange (MkSE) which was established in May 27, 1963.
The PSE has been granted a “Self-Regulatory Organization (SRO) status by the SED in
June 1988 where it can implement its own rules and set penalties on erring trade participants and
listed companies.
The PSE through the Philippine Central Depository (PCD0 uses the computerized book
entry system to transfer ownership of securities from one investor to another thus eliminating the
need for physical exchange of scrip between the seller and the buyer.
The PSE regulates trading activities through the Capital Markets Integrity Corporation
(CMIC), a spin-off of the Market Regulation Division of PSE, to monitor and penalize trading
participants that violate the Securities Regulation Code and its implementing rules and
regulations, the Anti-Money Laundering Law and the Code of Conduct and Professional Ethics
for traders and salesmen, CMIC Rules and other relevant laws and regulations.
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Other initiative to safeguard interests of the investors include:
a. Enforcement of static and dynamic thresholds to protect against unusual share price
fluctuations.
b. Disclosure requirement for publicly listed companies – material information is disclosed
within 10 minutes after its occurrence.
c. Securities Investors Protection Fund, Inc (SIPF) protects the investing public from extra
ordinary losses arising from fraud.
Corporate Compliance
Companies who plan to list publicly in the PSE:
a. Comply with the laws, regulations and full disclosure rules and policies of the Philippine
government
b. Have standard of quality, operations and size under efficient and effective management.
c. Conduct issuance, offering and marketing of securities in s fair and orderly manner and
ensure that securities are widely and equitably distributed to the public.
d. Give adequate fair and accurate information about the company and its securities to the
general public to enable them to make informed investment decisions.
e. Ensure that directors and officers act in the interest of all security holders as a whole,
particularly where the public represents only a minority of the security holders or where
director or security holder owning a substantial amount of shares has a material interest
in a transaction entered into by the company.
Answer the following exercises
What is your understanding, in general, about the equity securities market?

1). Fundamentally, equity represents ownership of a firm. Same with debt, investors can put out
cash to purchase equity and trade these in financial markets through equity instruments.
2). Equity instrument is a type of financial instrument wherein the issuer (company) agrees to pay
an amount to the investor in the future based on the future earnings of the company, if any.
3). The most common example of equity instruments is shares.
4). Authorized capital stock refers to the total maximum amount stated in the Articles of
Incorporation that can be subscribed to or paid by investors of a corporation if the shares have a
par value.
5). A company can issue additional shares in excess of its authorized capital stock.
6). If the shares do not have a par value, the corporation does not have an authorized capital
stock but it has an authorized number of shares it may issue.
7). Outstanding shares refer to the total shares of stock issued under binding subscription
agreements to subscribers or stockholders, which are fully paid.
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8). Outstanding shares include treasury shares. Treasury shares are shares that are repurchased
or bought back by the company from its stockholders. Issued shares refer to all shares that were
issued by the company, whether outstanding or treasury shares.
9). Among the three forms of business organization, only corporations can issue shares. Investors
prefer to put their money on shares because of the concept of unlimited liability.
10). Limited liability, i.e. legal provision that protects shareholders from losing more than they
invested in the company, exists. Responsibility of shareholders to creditors is only up to the extent
of their capital contribution.
11). Investors may earn from equity instruments through dividends only.
12). Capital appreciation refers to the rise in the value of an asset in relation to the increase in its
market price.
13). Dividends are payments made by corporations to shareholders representing excess earnings
of the company.
14). The IAET is a penalty tax imposed on corporations who intend to accumulate excess earnings
to enable its shareholders to avoid paying the 10% final tax on dividends that they might have
received if these were declared.
15). According to Section 43 of the Corporation Code, stock corporations are not allowed to
maintain retained earnings more than 200% of its paid-up capitalization at par (any additional
paid-up capital or excess over par is excluded).
1). The 10% IAET is patterned to the 10% final tax on dividends which the government should
have received if the dividends were declared properly.
17). There are two types of shares that corporations can issue: preference (or preferred) shares
and ordinary (or common) shares. Both shares represent ownership of the corporation but differ
in several aspects.
18). Normally, preference shareholders do not have voting rights, but corporations can opt to give
them voting rights explicitly in the Articles of Incorporation.
19). Preference shares are treated as debt; the required dividend associated with preference
shares is like the interest on debt.
20). Ordinary shareholders generally possess the voting rights to decide on certain corporate
decisions like electing the board of directors, issuance of new shares or change in fundamental
corporate direction.
21). A preemptive right is a financial instrument which permits shareholders to buy additional
shares from the company at a price cheaper than the market price, in direct proportion of the
number of shares they own.
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22). The PSE regulates trading activities through the Financial Markets Integrity Corporation
(FMIC).
23). In conventional brokerage, investors buy or sell shares by opening an account with a
stockbroker. The broker will buy and sell shares in behalf of the investor in exchange for payment
called commission.
24). Online brokers typically charge lower commission compared to conventional brokers and
they offer investment advice and other services that a traditional broker also gives.
25). Market capitalization refers to the total market value of all outstanding shares of a company.
This is calculated by multiplying the total outstanding shares by the prevailing par value per share.

1). Which of the following is not a form of business organization in the Philippines?
a. corporation b. private limited company c. partnership d. sole proprietorship
2). Capital Appreciation happens when there is __________________.

a. increase in par value of stocks b. increase in market value of stocks
c. Increase in market capitalization d. Decrease in market capitalization
3). Capital Depreciation happens when there is __________________.

a. decrease in par value of stocks b. decrease in market value of stocks
c. Increase in market capitalization d. Decrease in market capitalization
3). Dividends maybe in the form of the following except:

a. Cash b. Stock c. Property d. Bonds
4). Improperly Accumulated Earnings Tax (IAET) is imposed for excess in Retained Earning
beyond _______________________.
a. 100% of Capital Stock
b. 100% of Authorized Capital Stock
c. 100% of Paid up Capital Stock at par value
d. 100% of Outstanding Stocks less Treasury shares
5). The following are distinctions of equity and debt except:

a. voice in management b. claims on asset and income c. maturity d. all of the above
6). Which of the following are 2 major types of shares?

a. Ordinary and Preferred shares
b. Callable and Convertible shares
c. Participating and Non-Participating shares
d. Cumulative and Non-Cumulative shares
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7). __________ is a financial instrument which permits shareholders to buy additional shares from
the company at a price cheaper than the market price, in direct proportion of the number of shares
they own.
a. Preemptive rights b. Stock rights c. Voting rights d. Preferential rights
8). _____________ allow existing shareholders to maintain their current voting influence and
protect them from dilution of earnings i.e. reduction of claim on earnings as a result of lowering of
its fractional ownership.
a. Preemptive rights b. Stock rights c. Voting rights d. Preferential rights
9). Which of the following is not correct about stock market?

a. The stock market is composed of exchanges and over the counters where shares are
issued and traded publicly.
b. The actual stock market is both physical and virtual as electronic trading of stocks has been
increasingly relevant due to the easy access to technology.
c. The stock market can be considered both a primary and secondary market.
d. However, since most of the transactions are buying and selling existing stocks of investors
(compared with new share issuances), the primary market is considerably bigger than the
secondary market. (Secondary market is bigger than primary market)
10). Electronic communications network (ECN) is a network which directly links major brokerage
firms and traders and removes the need for a middleman. ECN has been gaining ground lately
because of the following reasons, except:
a. transparency b. cost reduction c. faster execution d. elegance
11). Which of the following is correct about Philippine Stock Exchange?

a. One of the largest stock markets in the world
b. One of the oldest stock exchanges in Asia
c. It is a merger of two stock exchanges: Manila Stock Exchange and Malabon Stock
Exchange.
d. It is unlisted company since it is the one implementing rules and set penalties on erring
trade participants and listed companies.
12). Companies who plan to be listed in PSE should, except:

a. Comply with the laws, regulations and full disclosure rules and policies of the Philippine
government
b. Ensure that directors and officers act in the interest of all security holders as a whole,
particularly where the public represents only a minority of the security holders or where a director
or security holder owning a substantial amount of shares has a material interest in a transaction
entered into by the company.
c. Give adequate, fair and accurate information about the company and its securities to the
general public to enable them to make informed investment decisions
d. Have to be ISO certified so to ensure company has standards of quality, operations, and
size under efficient and effective management.
13). To be admitted for admission to listing in PSE, the following are general criteria except:
a. Track Record of Profitable Operations
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b. The company has been operating for at least ten (10) years prior to the filing of the
application and has a cumulative EBITDA of at least ₱50 Million for at least two (2) of the three
(3) fiscal years immediately preceding the filing of the listing application.
c. The company is a newly formed holding company which uses the operational track record
of its subsidiary.
d. At listing, the capitalization of the company must be at least ₱500 Million. (Market
Capitalization not only capitalization)
1). Which of the following is not correct about Disclosure rules?

a. All companies listed in the PSE is required to comply with its disclosure rules. The basic
principle of the Exchange is to ensure full, fair, timely and accurate disclosure of material
information from all listed companies.
b. Corporate disclosures are classified into two: the structured and the unstructured corporate
disclosures.
c. Structured continuing disclosures are reportorial requirements submitted within specific
time frames such as annual, quarterly and monthly reports. Unstructured continuing disclosures
are communications of corporate developments as they happen and are intended to update the
investing public on the activities, operations and business of the company.
d. Unstructured continuing disclosures include the Annual report (SEC Form 17-A) – To be
submitted within 105 days after end of fiscal year and Three Quarterly Reports (SEC Form 17-Q)
– To be submitted within forty-five (45) days from end of the first three (3) quarters of the fiscal
year. (Structured Continuing disclosures)
15). Which of the following is not a platform for Capital Market?

a. Conventional Brokerage b. Online Trading c. Mutual Funds d. All of the above
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MODULE 7. PLATFORMS FOR CAPITAL MARKET
OBJECTIVES
 Describe how to trade in capital market
 Make their own online trading account
 Identify the advantages and disadvantages of conventional and online trading
 Stock Valuation (use of Market Value Ratios)
 Determine the stock valuation (the use of Market Value Ratios)
COURSE MATERIALS
Platforms for Capital Market
In trading or doing business in capital market, there are different ways on how to
conveniently facilitate the trading in the Capital Market.
Conventional Brokerage
In conventional brokerage, investo4s buy or sell shares by opening an account with a
stockbroker who will then buy and sell shares in behalf of the investor in exchange for payment
of commission. Since brokers are exposed to the working of the stock market, they can provide
sound investment advice to their client-investors on what stock trading decision to take.
Online Trading
This is by way of a digital platform to trade shares. Online brokers typically charge lower
commission compared to conventional brokers; however, they do not offer any investment advice
and other services like a traditional broker.
Mutual Funds
This another form of investment wherein an investor buys shares in mutual funds. Mutual
funds are an investment company that pools money from various investors and invests them to
different securities based on the investment objective of the fund. This is a form of diversification
in investment since mutual funds old shares in different companies.
Market Capitalization
This refers to the total market value of all outstanding shares of a company which allows
investors to benchmark the relative size of a company against another. This is calculated by
multiplying the total outstanding shares by the prevailing market price per share.
Share Valuation
There are various types of share valuation techniques that an investor can choose to
identify how much cash flow can be received in the future by an investor who purchases it today.
The value of a share is equivalent to the present value of the future cash flows that can be received
from an investment. This approach is known as the Discounted Cash Flow approach.
Other share valuations such as:

One Period-Dividend Discount Model (source: https://corporatefinanceinstitute.com/)
The one-period dividend discount variation is used to determine the intrinsic value of a
stock that is planned to be held for one period only (usually one year).
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The formula is:
or
Where:
 V0 – the current fair value of a stock
 D1 – the dividend payment in one period from now
 P1 – the stock price in one period from now
 r – the estimated cost of equity capital
Example:
Assume that ABC Corp. will pay $3 in dividends per share, while the selling price at the
end of the holding period can reach $120 per share. The estimated cost of equity capital is 5%.
Currently, the stock of ABC Corp. trades at $118 per share.
In order to assess the viability of the investment, you should determine the intrinsic value
of the company’s stock. It can be found using the one-period dividend discount model. By inputting
the known variables into the formula above, the intrinsic stock value can be calculated in the
following way:
The intrinsic value of the company’s stock is $117.14, which is less than the company’s
current stock price ($118). Therefore, we can say that the stock is currently overvalued.
Multiple Period-Dividend Discount Model (source: https://corporatefinanceinstitute.com/)

A multiple-period dividend discount model is a variation of the dividend discount model. It
is often used in situations when an investor is expecting to buy a stock and hold it for a finite
number of periods and sell the stock at the end of the holding period.
Similar to the general dividend discount model, the multiple-period model is based on the
assumption that the intrinsic value of a stock equals the sum of all future cash flows discounted
back to their present values.
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The formula is:
Where:
 V0 – the current fair value of a stock
 Dn – the dividend payment in the nth period from now
 Pn – the stock price in the nth period from now
 r – the estimated cost of equity capital
Example:
You’ve forecasted that ABC Corp. will pay dividends of $2.50 in the first year, $3 in the
second year, and $3.25 in the third year. You expect that at the end of the third year, the selling
price of the company’s stock will be $125 per share. The estimated cost of capital is 5%. The
current stock price is $110 per share.
In order to assess the viability of the investment, you should determine the intrinsic value
of the company’s stock. It can be found using the multiple-period dividend discount model. By
inputting the known variables into the formula, the intrinsic stock value can be calculated in the
following way:
The intrinsic value of the company’s stock is $115.89, which is more than its current stock
price ($110). Therefore, we can say that the stock is currently undervalued.
Zero-Growth Model
This assumes that the dividend will be fixed and will not change anymore in the future.
The formula is:
Example:
Investor ABC wants to buy 1,000 preference shares, p200 par value from Korean
Company. According to his sources, the preference shares come with a constant dividend of P30
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per share. Investor ABC intends to hold the preference shares long-term and has no plans on
selling this I the near future. Investor ABC requires a 15% return on his investment. What is the
value of each preference share?
P30
P= 15% P = P200 per share
The value of each preference share of Korean Company is P200.
Assuming that ABC is also looking at the preference shares of Chinese Company that has
par value of P100 with 20% dividend rate. What is the value of each preference share of Chinese
Company?
P20
Dividend P100 x 20% = P20 per share P= 15% P = P133.33 per share
The value of each preference share of Chinese Company is P133.33.
Constant (Gordon) Growth Model (source: Investopedia)

The Gordon Growth Model (named after Myron Gordon) values a company's stock using
an assumption of constant growth in payments a company makes to its common equity
shareholders. The three key inputs in the model are dividends per share (DPS), the growth rate
in dividends per share, and the required rate of return (RoR).
Dividends per share represent the annual payments a company makes to its common
equity shareholders, while the growth rate in dividends per share is how much the rate of
dividends per share increases from one year to another. The required rate of return is a minimum
rate of return investors are willing to accept when buying a company's stock, and there are
multiple models investors use to estimate this rate.
Formula and Calculation of the Gordon Growth Model:
D1 =(DO X 1=G)
P = (r – g)
where:
P = Current stock price
G = Constant growth rate expected for dividends, in perpetuity
R = Constant cost of equity capital for the company (or rate of return)
D1= Value of next year’s dividends
Example:
Consider a company whose stock is trading at P110 per share. This company requires an
8% minimum rate of return (r) and will pay a P3 dividend per share next year (D1), which is
expected to increase by 5% annually (g).
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The intrinsic value (P) of the stock is calculated as follows:
P3,00
P = (.08-.05) P = P100.00
According to the Gordon Growth Model, the shares are currently P10 overvalued in the
market.
Variable Growth Model

Four steps involved:
1. determine the value expected cash dividends at the end of each year using the initial
growth rate assumptions. To compute, apply the growth rate assumption on the current
dividend and do the same procedure every year.
2. Compute for the present value of the expected dividends during the initial growth period.
3. At the end of the initial growth period, determine the value of the stock (from that point of
infinity) using the constant growth model.
4. Add the computed present value of the expected dividends during the initial growth period
and the computed value of the stock at the end of the initial growth period.
Example:
Vic Company is contemplating whether to buy shares in Vin Company which paid recently
dividends of P3 per share. After carefully evaluating the business of Vin Company, Vic came up
with the estimate that dividends may grow at 5% annual rate in the next 3 years. At the end of 3
years, Vic expected that the market will mature and organic growth will only lead to a constant
3% dividend growth in the foreseeable future. Vic uses 12% required return in evaluating his
investments.
Compute for the value of the shares n Vic Company.

 Dividend from previous year x (1+growth rate in the initial period = Expected Dividend
Year 1 P3 x 1.05 = P3.15
Year 2 P3.15 x 1.05 = P3.31
Year 3 P3,31 x 1.05 = P3.47
 Present value of dividends expected to be received for each year using require return of
12%
Year 1 P3.15 x 0.8928 = P2.81
Year 2 P3.31 x 0.7972 = P2.64
Year 3 P3,47 x 0.7118 = P2.47
 Value of stock at the end of Year 3 (last year of initial growth period) using the constant
growth model.
Expected dividend on Year 4 : P3.47 x 1.03 = P3.57
D
--------- P3.57
P = (r – g) P = (12%-3%) P = P39.67
The value of the stock at the end of the initial growth period is P39.67.
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Other approaches to share valuation are:
a. Free Cash Flow which refers to the cash flow that are available to creditors and
shareholders after all other operating obligations.
b. Book Value per Share which refers to the amount per share that will be received if all of
the company’s assets are sold based on its book value where proceeds will go to the
ordinary shareholders after satisfying the creditors and preference shareholders.
c. Liquidation Value per Share which pertains to the actual amount per share that will be
received if all assets are sold based on their current market value where all creditors and
preference shareholders are paid first and the excess will be divided among the remaining
shareholders.
d. Price Earnings (P/E) Multiples which uses the price-earnings ratio to compute for the
share price as basis to determine the value of a company.
1). Mutual fund is an investment company that pools money from various investors and invests
them to different securities based on the investment objective of the fund.
2). Market capitalization refers to the total market value of all outstanding shares of a company.
This is calculated by multiplying the total outstanding shares by the prevailing par value per share.
3). Market capitalization allows investors to benchmark the relative size of a company against
another.
4). Knowing different share valuation techniques equip investors with the right knowledge that will
help them choose the best stocks that fit their investment appetite.
5). Share valuation techniques are commonly grounded in identifying how much cash flow can be
received in the future if the investor purchases the share now.
6). The constant growth model or the Gordon growth model (named after Myron Gordon) is the
most widely known model used in share valuation.
7). Since future growth rates may go up or down as a result of changes in economic conditions,
a variable growth model was developed to incorporate changes in growth rate in the valuation.
8). The market price of shares signifies the collective actions that sellers and buyers undertake
based on currently available information.
9). Book Value per Share which refers to the amount per share that will be received if all of the
company’s assets are sold based on its book value where proceeds are only for the ordinary
shareholders.
10). Dividends per share represent the annual payments a company makes to its preference
shareholders, while the growth rate in dividends per share is how much the rate of dividends per
share increases from one year to another.
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1). Using one period or multiple period valuation model, what is the current value/true value of the
shares in the below problem?
Investor HAM want to buy shares of Flix Company. When he looked it up at the stock
exchange, Flix Company can be bought at P30 per share. Further research showed that dividends
are stable at P5 per year and it is expected to be resold at P40 per share after a year. Investor
HAM expects a 10% return on his investments and only expects to hold Flix Company shares for
a year. What is the value of the shares based on Investor HAM’s computation?
a. P40.91 b. P36.36 c. P4.55 d. P40.00 e. none of the above
2). Using Dividend based valuation technique (zero growth model), what is the current value/true
value of the shares in the below problem?
Investor CDE wants to buy 1,000 preference shares, P200 par value from Korean
Company. According to his sources, the preference shares come with a constant dividend of P30
per share Investor CDE intends to hold the preference shares long-term and has no plans on
selling this in the near future. Investor CDE requires a 15% return on all of his investment. What
is the value of each preference share?
a. P200.00 b. P230.00 c. P215.00 d. P250.00 e. none of the above
3). The following are Dividend based valuation technique model except:
a. Zero growth model b. constant growth model c. variable growth model
d. time value discounting model e. none of the above
4). Which is not correct about the limitation of Share Valuation?

a. Increase in expected dividends brought upon by positive management actions will increase
the firm’s value under the assumption that associated risk is unchanged.
b. Actions taken by management that will increase risk will cause share value to decline.
c. Knowing different share valuation techniques equip investors with the right knowledge that
will help them choose the best stocks that fit their investment appetite. (Not referring to a limitation)
d. Since share price is highly dependent on required return, any minute error in risk
estimations may result in a different share price.
5). Which of the following is not a platform for capital market?

a. conventional brokerage b. mutual funds c. online trading d. market capitalization
e. none of the above
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MODULE 8. INTERNATIONAL FINANCIAL MARKET AND INNOVATIONS
OBJECTIVES
 Describe the different factors that affect the strategies in doing international financial
market
 Describe the roles of international agencies that may affect the financial market
 Identify the risk that may affect the financial market strategies
COURSE MATERIALS
Nature of International Financial Markets
(source: efinancemanagement.com)
International financial markets consist of mainly international banking services and
international money market. The banking services include the services such as trade financing,
foreign exchange, foreign investment, hedging instruments such as forwards and options, etc. All
these banking services are provided by international banks. International money market includes
the Eurocurrency markets, Euro credits, Euro notes, Euro commercial Paper etc.
International financial markets, as we saw, can broadly be classified into international

banking and international money market. International markets are accessed by multinational
corporations more than anybody else. Traders or businesses having import and export transaction
also have frequent access to these markets.
Motives for Using International Financial Market

Motives for Investing in Foreign Market
 Economic conditions - investors may expect in a particular foreign country to achieve
more favorable performance than those in the investors’ home country which is highly
favorable for good investments.
 Exchange rate expectations - some investors purchase financial securities denominated
in a currency that is expected to appreciate against their own country’s currencies.
 International diversification – when an investor’s entire portfolio does not depend solely
on a single country’s economy, cross-border differences in economic conditions can allow
for risk-reduction benefits.
Motives for Providing Credit in Foreign Markets

 High foreign interest rates – foreign creditors may attempt to capitalize on higher rates
when some countries experienced a shortage of loanable funds resulting to high interest
rates, thereby providing capital to overseas markets.
 Exchange rate expectation – creditors may consider supplying capital to countries
whose currencies are expected to appreciate against their own currencies.
 International diversification – creditors can benefit from international diversification
which may reduce the profitability of simultaneous bankruptcy across borrowers.
Motives in Borrowing in Foreign Markets

 Low interest rates – countries with large supply of available funds compared to the
demand of funds will result to low interest rates. Borrowers will take advantage of these
low interest rates by borrowing funds from these countries.
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 Exchange rate expectations – this involves exchange rate risk in terms of a foreign
subsidiary remittance to its parent company in another country. The lower the exchange
rate, the higher the remittance will be.
Foreign Exchange Transactions

 Spot Market – this is the most common type of foreign exchange transaction for
immediate exchange at the so-called spot rate.
 Forward transactions
A forward contract specifies the amount of a particular currency that will be purchased
or sold by an MNC (Multinational Company) at a specified future point in time and at
specified exchange rate. MNC’s commonly use the forward market to hedge future
payments that the expect to make or receive in a foreign currency.
 Currency futures and options
Currency futures contract specifies a standard volume of a particular currency to be
exchanged on a specific settlement date.
Currency options contracts, there are two classifications:

o Currency call option provides the tight to buy a specific currency at a specific
price (called the strike price or exercise price) within a specific period of time.
o Currency put option provides the right to sell a specific currency at a specific
price within a specific period of time, which is used to hedge future receivables.
 Eurocurrency Market
The eurocurrency market is the money market for currency outside of the country
where it is legal tender. The eurocurrency market is utilized by banks, multinational
corporations, mutual funds, and hedge funds. They wish to circumvent regulatory
requirements, tax laws, and interest rate caps often present in domestic banking,
particularly in the United States.
The term eurocurrency is a generalization of Eurodollar and should not be

confused with the EU currency, the euro. The eurocurrency market functions in many
financial centers around the world, not just Europe.
 Asian Dollar Market- this is a market located in East Asia used for loans or bank deposits
that are denominated in US dollars. Banks in Asia sometimes offer dollar market services
as well.
 Eurocredit Market comprises banks that accept deposits and provide loans in large
denominations and in a variety of currencies. The banks that constitute this market are the
same banks that constitute the Eurocurrency market; the difference is that Euro credit
loans are longer-term than so-called Eurocurrency loans.
 Eurobond Market is a market based in Europe, comprising a web of international banks
and money brokers, which is engaged in the borrowing and lending of FOREIGN
CURRENCIES such as US dollars outside their countries of origin, as a means of financing
trade and investment transactions.
 International Stock Market refers to all the international markets that negotiate stocks
from their domestic companies. Most countries have their own stock exchange. The
indexes track the fluctuations in the value of stocks of one market.
Foreign Direct Investments (FDI)

This is an investment made by a firm or individual in one country into business interests
located in another country. FDI takes place when an investor establishes foreign business
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operations or acquires foreign business assets, including establishing ownership or controlling
interest in a foreign company.
Types of Foreign Investments

- Horizontal direct investment which refers to the investor establishing the same type
of business operation in a foreign country as it operates in its home country.
- Conglomerate or vertical direct investment is a type of foreign direct investment

where a company or individual makes a foreign investment in a business that is
unrelated to its existing business in its home country.
Country Risk Premium (CRP) is the additional return or premium demanded by investors to
compensate them for the higher risk associated with investing in a foreign country, compared to
investing in the domestic market. Oversees investment opportunities are accompanied by higher
risk because of the plethora of geopolitical and macroeconomic risk factors that need to be
considered. Country risk encompasses numerous factors, including:
a. Political instability
b. Economic risks such as recessionary conditions, higher inflation, etc.
c. Sovereign debt burden and default probability
d. Currency fluctuations
e. Adverse government regulations
In determining the CRP. Two common approaches were observed, as follows:

 Sovereign Debt Method – CRP for a particular country can be estimated by comparing the
spread n sovereign debt yields between the country and a mature market like the U.S.
 Equity Risk Method – CRP is measured on the basis of the relative volatility of equity
market returns between a specific country and a developed nation.
Cryptocurrency
. A cryptocurrency is a digital or virtual currency that uses cryptography for security. The
first blockchain-based cryptocurrency was Bitcoin, which still remains the most popular and most
valuable. This cryptocurrency that captured the public imagination was launched in 2009 by an
individual or group known under the pseudonym, Satoshi Nakamoto.
Cryptocurrencies are systems that allow for the secure payments of online transactions
that are denominated in terms of a virtual “token” representing ledger entries internal to the system
itself. “Crypto” refers to the fact that various encryption algorithms and cryptographic techniques
such as elliptical curve encryption, public-private key pairs, and hashing functions, are employed.
Cryptocurrencies hold the promise of making it easier to transfer funds directly between
two parties in a transaction without the need for a trusted third party such as a bank or credit card
company; these transfers are facilitated through the use of public keys and private keys for
security purposes.
Offshore Banking Units (OBU)

This is a bank shell branch, located in another international financial center. Offshore
banking units make loans in the Eurocurrency market, when they accept deposits from foreign
banks and other OBU’s. Some investors may consider moving money into OBU’s to avoid taxation
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and/or retain privacy, obtain better interest rates. OBU’s also often do not have currency
restrictions.
The World Bank

The World Bank Group (WBG) was established in 1944 to rebuild post-World War II
Europe under the international Bank for Reconstruction and Development (IBRD). It is one of a
variety of organizations seeking to shape the world economy.
The World Bank functions as an international organization that fights poverty by offering
developmental assistance to middle-income and low-income countries, by giving loans and
offering advice and training in both the private and public sectors .
Sectors of the World Bank Group

 The International Bank and Construction and Development (IBRD) aids middle
income and poor, but creditworthy countries.
 The International Development Association offers loans to the world’s poorest
countries. These loans come in the form of “credits” and are essentially interest free and
offer a 10-year grace period and hold a maturity of 35 years to 40 years.
 The Multilateral Investment Guarantee Agency (MIGA) supports direct foreign
investment into a country by offering security against the investment in the event of political
turmoil, comes in political risk insurance guarantee.
 The International Centre for Settlement of Investment Disputes facilitates and works
towards a settlement in the event of a dispute between a foreign investor and a local
country.
 The International Finance Corporation (IFC) works to promote private sector
investments by both foreign and local investors. It provides investment and asset
management services to encourage the development of private enterprise in nations that
might be lacking the necessary infrastructure or liquidity for businesses to secure
financing. The IFC was established in 1956 as a sector of the World Bank Group, focused
on alleviating poverty and creating jobs through the development of private enterprise.
Exercise Mod 8-1 (True or False)
1). When international trade in financial assets is easy and reliable, due to low transactions costs
in liquid markets, we say international financial markets are characterized by high capital mobility.
2). The existence of perfect markets has precipitated the internationalization of financial markets.
3). Motives for Investing in Foreign Market: Economic conditions. Investors may expect firms in a
particular foreign country to achieve more favorable performance than those in the investor’s
home country.
4). Motives for Investing in Foreign Market: Exchange rate expectations. Some investors
purchase financial securities denominated in a currency that is expected to appreciate against
their own.
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5). Motives for Investing in Foreign Market: International diversification. Investors may achieve
benefits from internationally diversifying their asset portfolio.
6). Motives for Providing Credit in foreign markets: Low foreign interest rates. Some countries
experience a shortage of loanable funds, which can cause market interest rates to be relatively
high, even after considering default risk. Foreign creditors may attempt to capitalize on the higher
rates, thereby providing capital to overseas markets.
7). Motives for Providing Credit in foreign markets: Exchange rate expectations. Creditors may
consider supplying capital to countries whose currencies are expected to appreciate against their
own.
8). Motives for Providing Credit in foreign markets: International diversification. Debtors can
benefit from international diversification, which may reduce the probability of simultaneous
bankruptcy across borrowers.
9). Motives in Borrowing in Foreign Markets: Low interest rates. Some countries have a large
supply of funds available compared to the demand for funds, which can cause relatively low
interest rates.
10). Motives in Borrowing in Foreign Markets: Exchange rate expectations. When a foreign
subsidiary of a U.S.-based MNC remits funds to its U.S. parent, the funds must be converted to
dollars and are subject to exchange rate risk.
11). The foreign exchange market allows currencies to be exchanged in order to facilitate
international trade or financial transactions.
12). Companies normally exchange one currency for another through a commercial bank over a
telecommunications network.
13). The most common type of foreign exchange transaction is for immediate exchange at the so-
called forward rate. The market where these transactions occur is known as the spot market.
14). A currency futures contract specifies the amount of a particular currency that will be
purchased or sold by the MNC at a specified future point in time and at a specified exchange rate.
15). MNCs commonly use the forward market to hedge future payments that they expect to make
or receive in a foreign currency. In this way, they do not have to worry about fluctuations in the
spot rate until the time of their future payments.
16). A currency futures contract specifies nonstandard volume of a particular currency to be

exchanged on a specific settlement date. Some MNCs involved in international trade use the
currency futures markets to hedge their positions.
17). Futures contracts are somewhat similar to forward contracts except that they are sold on an
exchange whereas forward contracts are offered by commercial banks.
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180. Currency options contracts can be classified as calls or puts. A currency call option provides
the right to buy a specific currency at a specific price (called the strike price or exercise price)
within a specific period of time. It is used to hedge future receivables.
19). A currency put option provides the right to sell a specific currency at a specific price within a
specific period of time. It is used to hedge future payables.
20). U.S.-dollar deposits in banks located in Europe and on other continents as well became
known as Eurodollars.
21). The Eurocurrency market is composed of several large banks (referred to as Eurobanks) that
accept deposits and provide loans in various currencies.
22). The syndicate of banks is usually formed in about six weeks, or less if the borrower is well
known because the credit evaluation can then be conducted more quickly.
23). Although the Eurocurrency market can be broadly defined to include banks in Asia that accept
deposits and make loans in foreign currencies (mostly dollars), this market is sometimes referred
to separately as the Asian dollar market.
24). The only significant difference between the Asian market and the Eurocurrency market is the
purpose and set up.
25. Loans of one year or longer extended by Eurobanks to MNCs or government agencies are
commonly called Eurocredits or Eurocredit loans.
26). MNCs can access long-term funds in foreign markets by issuing bonds in the international
bond markets. International bonds are typically classified as either foreign bonds or Eurobonds.
27). The adoption of the euro by many European countries has encouraged MNCs based in
Europe to issue stock. Investors throughout Europe are more willing to invest in stocks when they
do not have to worry about exchange rate effects.
28). Some foreign stock markets are much smaller than the U.S. markets because their firms
have relied more on equity financing than debt financing in the past.
29). The spot market, forward market, currency futures market, and currency options market are
all classified as foreign stock markets.
30). Financial markets can also affect an MNC’s value by influencing the cost of borrowing for
foreign customers of the MNC. Changes in foreign interest rates can affect economic growth,
which in turn affects the demand for products sold by foreign subsidiaries of the MNC.
Exercise Mod 8-2 (Multiple Choice)

1). Which of the following is not a motive for Investing in the Foreign Market?
a. Economic Conditions
b. Exchange rate expectations
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c. International Diversification
d. High foreign interest rates (Motive in providing credit in the foreign market)
2). Which of the following is not a motive for providing Credit in Foreign Market?
a. Low foreign interest rate (Motive in borrowing in the foreign market)
b. Exchange rate expectations
c. International Diversification
d. High foreign interest rates
3). Which of the following is a motive for Borrowing in Foreign Markets?

a. Economic Conditions b. Exchange rate expectations
c. International Diversification d. High foreign interest rates
4). MNCs rely on the ____________________________ to exchange their home currency for a
foreign currency that they need to purchase imports or use for direct foreign investment.
a. Foreign Currency Market b. Financial Exchange Market
c. Foreign Exchange Market d. Financial Currency Market
5). ____________ is the most common type of foreign exchange transaction.

a. Spot Market b. Forward Market c. Futures Market d. Option Market
6). A ______________ specifies the amount of a particular currency that will be purchased or
sold by the MNC at a specified future point in time and at a specified exchange rate.
a. Spot Contract b. Forward Contract c. Futures Contract d. Option Contract
7). _______________ are somewhat similar to forward contracts except that they are sold on an
exchange whereas forward contracts are offered by commercial banks.
a. Spot Contract b. Forward Contract c. Futures Contract d. Option Contract
8). A currency call option provides the right to buy a specific currency at a specific price (called
the strike price or exercise price) within a specific period of time. It is used to hedge
_____________.
a. future payables b. future receivables c. contingent payable d. contingent receivables
9). A currency put option provides the right to sell a specific currency at a specific price within a
specific period of time. It is used to hedge _______________.
a. future payables b. future receivables c. contingent payable d. contingent receivables
10). Which of the following statements is incorrect related to Eurocurrency market?

a. The Eurodollar market was created as corporations in the United States deposited U.S.
dollars in European banks.
b. The growth of the Eurodollar market was stimulated by U.S. regulations in 1968, which
limited foreign lending by U.S. banks.
c. Eurodollar deposits were not subject to reserve requirements.
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d. The Eurocurrency market is composed of several large banks (referred to as Eurobanks)
that accept loans and provide deposits in various currencies. (should be…that accept deposits
and provides loans in various currencies)
10). Although the Eurocurrency market concentrates on large-volume transactions, at times no

single Eurobank may be willing to provide the amount needed by a particular corporation or
government agency. In this case, a _______________ of Eurobanks may be organized.
a. group b. joint venture c. corporation d. syndicate
11). Loans of one year or longer extended by Eurobanks to MNCs or government agencies are
commonly called ______________ loans. These loans are provided in the so-called
_________________ market.
a. Foreign credit b. Eurocredit c. Eurobonds d. Eurocurrency
12). Which of the following statement is not correct?

a. Loans of one year or longer extended by Eurobanks to MNCs or government agencies are
commonly called Eurocredits or Eurocredit loans.
b. Because Eurobanks accept short-term deposits and sometimes provide longer term loans,
their asset and liability maturities do match. (should be…. liability maturities do not match)
c. To avoid this risk, Eurobanks now commonly use floating rate Eurocredit loans. The loan
rate floats in accordance with the movement of some market interest rate, such as the London
Interbank Offer Rate (LIBOR), which is the rate commonly charged for loans between Eurobanks.
d. The premium paid above LIBOR will depend on the credit risk of the borrower.
13). MNCs can access long-term funds in foreign markets by issuing bonds in the international
bond markets. International bonds are typically classified as either foreign bonds or
_____________.
a. Foreign credit b. Eurocredit c. Eurobonds d. Eurocurrency
14). Which of the following is not correct about International Stock Market?
a. MNCs and domestic firms commonly obtain long-term funding by issuing stock locally. Yet,
MNCs can also attract funds from foreign investors by issuing stock in international markets.
b. the issuance of stock in a foreign country can enhance the firm’s image and name
recognition there.
c. The recent conversion of many European countries to a single currency (the euro) has
resulted in few stock offerings in Europe by U.S.- and European-based MNCs. (should be …..
resulted in more stock offerings ….)
d. The stock offering may be more easily digested when it is issued in several markets.
15). In recent years, ECNs have been created to match orders between buyers and sellers. ECNs
do not have a visible trading floor, as the trades are executed by a computer network. ECN stands
for _______________________.
a. Electric Communications Network b. Extended Communications Network
c. Electronic Communications Network d. Expanded Communications Network
16). International Financial Markets involve cashflows that can be classified into four corporate
functions. Which of the following is not?
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a. Foreign Trade with Business Clients b. Direct Foreign Investment
c. Short Term Investment d. long term Investment (long term financing)
17). Which of the following is not within the function of long-term financing?
a. Eurobond b. Eurocredit
c. International Stock Market d. Commercial Paper (usually short term)
18). Which of the following is not correct?

a. The use of international financial markets can affect the value of an MNC
b. To the extent that issuing stock in a foreign market creates more name recognition in a
foreign country, an MNC may be able to increase its presence in that country, which can lead to
higher cash flows generated from that country and a lower valuation. (…and a higher valuation)
c. Financial markets can also affect an MNC’s value by influencing the cost of borrowing for
foreign customers of the MNC. Changes in foreign interest rates can affect economic growth,
which in turn affects the demand for products sold by foreign subsidiaries of the MNC.
d. An MNC’s parent may be able to achieve a lower weighted average cost of capital by
issuing equity in some foreign markets rather than issuing equity in its local market. If the MNC
achieves a lower cost of capital, it can achieve a lower required rate of return and a higher
valuation.
19). MNC stands for?

a. Multinational Companies b. Multicurrency Companies
c. Multiportfolio Companies d. Multilocation Companies
20). Country risk encompasses numerous factors except:

a. Economic risks such as recessionary conditions, higher inflation, etc
b. Sovereign debt burden and default probability
c. Currency fluctuations
d. none of the above
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Bachelor of Science in Accountancy (BSA)

ACCO 20083 - FINANCIAL MARKETS

Benjamin A. Abarquez Jr.

Book Reference: Fundamentals of Financial Markets (2019 ed)

Module 1 Introduction to Financial System and Financial Market………3 - 10

Module 2 Philippine Financial System……………………………………11 - 21

Module 3 Managing Credit Risk in Money Market………………………22 - 31

Module 4 Financial Instruments…………………………………………...32 - 38

Module 5 Debt Securities Market………………………………………….39 - 47

Module 6 Equity Securities Market………………………………………..48 - 56

Module 7 Platforms for Capital Market……………………………………57 - 63

Module 8 International Financial Markets and Innovations……………..64 - 72

MODULE 1. INTRODUCTION TO FINANCIAL SYSTEM AND FINANCIAL MARKET

There are two functions in a financial management:

Indirect financing – where borrowers and lenders transact thru intermediaries.

ELEMENTS OF FINANCIAL SYSTEM

TYPES OF FINANCIAL MARKET

Based on instruments traded

Why do companies deal with money market?

Based on Market Type

Four types of issue methods

Who are the players?

LENDERS BORROWERS THE DIFFERENCE

THE DIFFERENCE BUYERS SELLERS

Exercise No. Mod 1-2 (Case Study)

Exercise No. Mod 1-3 (Case Study)

Exercise No. Mod 1-4 (True or False)

2). Financial system is composed of network of inter-related systems of financial markets,

Exercise No. Mod 1-5 (Multiple Choice)

2). Which of the following is not correct about Financial System?

5). Which of the following is not an element of the Financial System

6). Which of the following is not correct about Financial Market?

12). Which of the following is not an economic function of Secondary Market

Market Drivers being regulated

 Bangko Sentral ng Pilipinas

 Securities and Exchange Commission (SEC)

 Bureau of Investment (BOI)

Money Supply and Payment System

There are two types of inflation rate:

History of Philippine Currencies and Notes

Long before the Spaniards

The Philippines is naturally rich

Barter rings made from pure

The cobs or macuquinas of

The Spanish dos mundos were

Due to the shortage of fractional

In the early part of the 19th

General Emilio Aguinaldo, the

With the coming of the

The coins issued under the

The outbreak of World War II

The Philippine Republic

A nation in command of its

With the establishment of the

As the repository and custodian

Exercise No. Mod 2-1 (Essay)

Exercise No. Mod 2-2 (True or False)

The following are the three major rating companies: