Lernzettel: Financial Markets and Institutions Overview

Financial Markets & Institutions 2 - Sheet

1. 📌 Essentials

• Money functions: medium of exchange, store of value, unit of account.
• Money evolved from barter, commodities, precious metals, to fiat and electronic forms.
• Money supply components: currency, deposits, financial assets.
• Key aggregates: M1 (cash + overnight deposits), M2 (M1 + short-term deposits), M3 (M2 + long-term deposits).
• Money creation occurs via the fractional reserve banking system; multiplier depends on reserve ratio and public cash preference.
• Basel III sets capital (CET1, Tier 1, Tier 2) and liquidity (LCR, NSFR) requirements.
• Debt instruments include bonds and money market securities; valuation via discounted cash flows.
• Equity ownership grants voting rights; valuation models include P/E, P/B, DCF.
• Derivatives (futures, options) are used for hedging and speculation; Greeks measure sensitivities.
• Private equity involves long-term investments in unlisted firms, with high risk and return.

2. 🧩 Key Structures & Components

• Money — accepted medium of exchange, store of value, unit of account.
• Money forms — fiat, fiduciary, electronic (cryptocurrencies).
• Money supply components — currency (cash), deposits, financial assets.
• Money aggregates — M1, M2, M3.
• Fractional reserve banking — system enabling money creation via reserve ratio.
• Financial institutions — commercial banks, investment banks, shadow banking, venture capital, hedge funds.
• Debt instruments — bonds, treasury bills, commercial paper.
• Markets — money markets (short-term), bond markets (medium/long-term).
• Equities — stocks, ownership rights, voting, governance.
• Derivatives — futures, forwards, options, exotic options.
• Private equity — venture capital, buyouts, long-term unlisted investments.

3. 🔬 Functions, Mechanisms & Relationships

• Money facilitates exchange, valuation, and savings.
• Money supply expands through fractional reserve banking; influenced by reserve ratio and cash preference.
• Money multiplier: m = (1 + c) / (r + c) where:
  • r = reserve ratio
  • c = public cash preference
• Basel III capital buffers absorb shocks; CET1 is core capital.
• Debt valuation: PV of future cash flows, yield curves, bootstrapping.
• Equities are valued via P/E, dividend discount models, and discounted cash flow.
• Derivatives hedge risks or speculate; Greeks (delta, gamma, vega) measure sensitivities.
• Private equity stages: venture, growth, buyout, turnaround; long-term, high risk/return.
• Market relationships: supply/demand, interest rates, risk premiums.
• Risk management: diversification, hedging, capital adequacy.

4. 📊 Comparative Table

Item	Key Features	Notes / Differences
Money (forms)	Fiat, fiduciary, electronic (cryptocurrencies)	Electronic money is digital, decentralized
Money aggregates	M1, M2, M3	M1: cash + overnight deposits
Basel III requirements	CET1, Tier 1, Tier 2 capital, LCR > 100%, NSFR > 100%	Capital and liquidity standards
Debt instruments	Bonds, treasury bills, commercial paper	Valued via discounted cash flows
Equity valuation	P/E ratio, P/B ratio, DCF, dividend yield	Reflects growth and profitability
Derivatives	Futures, options, exotic options	Used for hedging and speculation
Private equity	Venture, expansion, buyout, turnaround	Long-term, high illiquidity, high risk

5. 🗂️ Hierarchical Diagram

Financial System
 ├─ Money
 │    ├─ Functions: exchange, store, measure
 │    ├─ Forms: fiat, fiduciary, electronic
 │    ├─ Supply components: currency, deposits
 │    └─ Aggregates: M1, M2, M3
 ├─ Financial Institutions
 │    ├─ Commercial banks
 │    ├─ Investment banks
 │    ├─ Shadow banking
 │    └─ Venture capital, hedge funds
 ├─ Instruments
 │    ├─ Debt: bonds, bills
 │    ├─ Derivatives: futures, options
 │    └─ Equities
 └─ Regulation
      ├─ Basel III: capital, liquidity
      ├─ European: SSM, SRB, EDIS
      └─ Crisis tools: resolution, bail-in

6. ⚠️ High-Yield Pitfalls & Confusions

• Confusing money forms: fiat vs. electronic cryptocurrencies.
• Misinterpreting the money multiplier; it’s affected by reserve ratio and cash preference.
• Overlooking Basel III buffers; CET1 is core, Tier 2 is supplementary.
• Valuation of debt instruments: PV, yield curves, bootstrapping.
• Equities: intrinsic value vs. market price; growth expectations matter.
• Derivatives: Greeks are sensitivities, not prices.
• Private equity: long horizon, illiquidity, high risk, and high return.
• Mistaking liquidity ratios: LCR and NSFR both > 100% are required.
• Confusing different market types: money vs. bond vs. equity markets.
• Underestimating the importance of diversification in risk reduction.

7. ✅ Final Exam Checklist

• Understand the functions and forms of money.
• Know the components and definitions of M1, M2, M3.
• Explain the fractional reserve banking process and the money multiplier.
• Recognize Basel III capital and liquidity requirements.
• Identify key debt instruments and their valuation methods.
• Describe equity rights, valuation models, and management strategies.
• Differentiate between futures, forwards, and options; understand Greeks.
• Summarize stages and characteristics of private equity investments.
• Understand the role of financial regulation and supervision.
• Be familiar with the main market segments: money, bond, equity.
• Know how to value debt and equity securities.
• Recognize common derivatives strategies and their purposes.
• Comprehend the structure and risks of hybrid bonds and hedge funds.
• Appreciate the long-term nature and risks of private equity.
• Be aware of common pitfalls and confusions in financial concepts.

End of Revision Sheet