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Showing posts sorted by relevance for query financial instruments. Sort by date Show all posts
Showing posts sorted by relevance for query financial instruments. Sort by date Show all posts

Thursday, March 3, 2011

How the Wall Street Reform Bill regulates derivatives

The U.S. Senate Committee on Banking and Housing approved a financial reform bill titled 'Restoring American Financial Stability Act of 2010', in March of 2010.(3) The bill was released by Senator Christopher Dodd (D) and did not initially garner enough votes to pass through the Senate in late April of 2010. A no vote from Senate Majority Leader Harry Reid (D) however, allowed the bill to return to the Senate according to an April 26, 2010 Reuters report.(1) In early May, the bill once again became active in the Senate as Democrats attempted to rally enough votes to pass the bill.

Among the objectives of the financial reform bill is the regulation of derivatives, financial instruments that's value is derived from underlying commodities or assets. Out of control derivatives spending is a culprit that led to the collapse of the U.S. Housing Market that began in 2007, and subsequently to massive financial assistance to large U.S. Banks deemed too big to fail. The Restoring American Financial Stability Act of 2010 was designed to prevent similar scenarios from becoming as damaging to the U.S. economy in the future.

Thursday, February 3, 2011

How to cultivate your money consciousness

A hallmark of money consciousness is being able to shop, save and accomplish financial goals all at the same time. The financial mentality can be built up slowly or quickly, just like a life can be built through experiences, learning, and doing. Each single action taken and every thought that is financial in nature is one step closer to a cultivated money awareness. This article will discuss a few of steps that can be used to build such a money consciousness.

Setting financial goals

By setting financial goals each month, one trains the mind to think financially. Even small goals can accomplish this. After several months, this may become habit and representative of money consciousness.

To illustrate financial goal setting, an annual plan to save 1-2% of one's household income every month may not seem like a lot but could be all that is needed to build consistent financial awareness Even if the goal is short at the end of the year, there is a good chance more will have been saved if no plan had been used.


Setting a monthly budget is something many people already do as a matter of making ends meet. However budgeting itself can be improved upon to yield greater financial results. For example, there may be little ways to cut costs such as the following:

• Pay auto insurance in 6 month installments to save on monthly premiums
• If one drives an old car, it may be a good decision to switch to liability insurance
• Performing errands all in one day can save on gas bills
• Switching to an average utility plan may even out bills for extreme temperature months.

Shopping wisely

To shop wisely means not spending too much, saving money, cutting costs and still living well. This is possible and can build money consciousness as well. For example, one may buy things that are needed every month in bulk. Even if the upfront cost is higher, the long terms savings will be greater. Shopping at discount and close out stores may even save the 1-2% example in the goals setting section of this article. This is an example of simultaneous shopping, saving money and reaching financial goals.


Another step in cultivating money consciousness is investing. Investing doesn't have to mean using a broker to buy and sell stocks. It can mean doing one small improvement to one's home every couple of months. Putting a little extra money in a savings account for rainy days, or purchasing a collectors item on ebay. There are many ways to invest big or small, whether it be time, energy or money, investing is an element in the mind of financial adepts. Even investing thought into how one can save more, do more with one's money and time is an investment.

Learn financial thought

Financial thought is a repertoire of concepts, ideas, principles, values and objectives that meld together into a financial model or paradigm depending on the context. There are many aspects to money, financial instruments, exchange, taxation etc. that can be learned and incorporated into one's knowledge to build financial awareness. For example, if one has a tax preparer do one's taxes every year, find out how it all works by studying where the Government takes money and where they give credit. Financial thought is an ongoing process that can take years to develop, but like all the above steps, each one step is movement in the direction of money consciousness.

Cultivating a money consciousness does not have to mean hard living and tremendous sacrifice, but it does take a little financial wisdom and good practice. The above techniques can be useful if practiced at least semi-continuously. Even the act of thinking about how to build money consciousness once a day can help build such an awareness that could end up being more than one thought possible.

Friday, February 11, 2011

Benefits of purchasing an annuity

Annuities are often low risk retirement investments that pay out consistent income over time. They are also tax sheltered and in some cases legally protected financial instruments. These features in addition to other unique aspects described herein, make annuities a reasonable investment option for individuals less inclined to invest independently in high risk, non-tax sheltered financial instruments. 

According to the following eHow Finance video, inaurance annuities offer high yield for low risk because they are insurance companies. Keep in mind, insurance policies do have premiums and fees that should be deducted from overall yield in order to calculate return on investment.

There are many types of annuities, all of which have distinct advantage and benefits to potentially high-risk investments albeit with a moderate yield. Annuities are typically sold through life insurance companies, but by definition can also include any investment paying a consistent amount on a periodic basis. Some school districts and other non-profit organizations may also offer annuity programs.  

Types of annuities 

To better understand the benefits of annuities it is a good idea to first know what the main types of annuities available are. There are many hybrid, specialized and customized annuities available, but most have primary common features as described below: 

Fixed annuities vs Variable annuities 

Fixed annuities are more stable than variable annuities in terms of yield. A fixed annuity is just that, fixed with a set percentage rate of return that does not change over time. The variable annuity is subject to changes and thus the return on investment may fluctuate. Immediate vs Deferred Annuities: Immediate annuities generally guarantee a future income stream in exchange for a front end cost. Immediate annuities can be fixed or variable depending on what company the annuity is bought through and what one's preference is. Deferred annuities also offer future payments, but the up front costs are distributed over time.  

Benefits of annuities 

Financial management When investing through annuities the financial expertise of the company providing the annuity is what is used to increase the value of annuity and help guarantee future income. 

 • Low risk investment Since annuities often guarantee percentage returns in the middle single digits. An investor can generally rest at ease knowing the annuity provider is responsible for this return regardless of what the financial markets do. What's more, similar investments with comparable returns may not earn tax deferred income and other unique features available through annuities. 

Tax deferred income One of the best features of an annuity that is purchased through a life insurance company is the tax status of the earnings. If the annuity is used as a retirement savings instrument, the income earned in the annuity is tax deferred until it is used. One will stay pay taxes in such an instance, but if one's income, income tax bracket or tax levels go down by the time of withdrawal there is a financial benefit in addition to having a lower taxable income at present. 

 • Retirement savings annuities can be used as a replacement for or supplement to social security, pensions and Individual Retirement Accounts. Since they have similar tax status to some IRAs and certain privileges not associated with non-tax sheltered investments, they are similar in structure to retirement investment vehicles. 

Security and legal protection Annuities bought through life insurance companies enjoy a certain protection that other liquid assets do not. In some cases the event of bankruptcy, garnishment or law-suit, one's annuity investments may be safe. This is due to legal distinctions that assist the company providing financial management services to protect themselves, and their assets. 

Alternative to life insurance In the event of death, annuity income can be passed on to heirs, beneficiaries and/or trustees. Thus, the annuity can be considered as an alternative to life insurance distributions should one be unable to afford both. Tips on buying annuities with the best benefits 

Compare annuities Since there are so many types of annuity products available, some of which combine product features, it may be a good idea to assess each annuity in terms of one's own financial expectations, needs and comfort level. 

 • Investigate annuities  If an annuity package is too complicated or difficult to understand there may be some financial caveat or potentially expensive unbalance quid pro quo requirement for financial services offered. In other words, to avoid investing in the dark, have an insurance agent or financial services representative explain everything in detail. 

 • Diversify annuities  Annuties are not the only financial instrument around. While there are good retirement savings annuities out there, it may be beneficial to retain and/or keep contributing to an Individual Retirement for purposes of diversification, risk avoidance and added security. 

 •Institutional annuties Select an annuity provider carefully. Some annuities may have better features, offer higher yields and lower fees than others. Additionally, the companies that offer annuities may have financial insurance other companies do not protect them and their clients assets from potential financial obstacles.

Annuities are in their best sense a tax sheltered, legally protected, guaranteed income retirement investment tool. While even the most stable of investments are subject to risk of kind or another, annuities are a fairly stable and low risk investment. The benefits annuities provide are many which make them a conservative investment worth considering in retirement, insurance and tax planning.

Friday, October 19, 2012

5 reasons why securities transactions assist with financial goals

Securities transactions have the potential to yield a lot of money
Spread betting wagers on the outcome of future events
Securities transactions include a wide range of financial products. Carefully investing in a number of these is beneficial to financial goals in a number of ways. If this was not the case, many pensions and retirement accounts would not have the values they do. Moreover, securities transactions are essential to effective financial planning whether the transactions are made independently or not. After knowing which financial instruments to utilize, securities transactions are able to facilitate several financial objectives.

1. Profit

The first, and most important reason to participate in securities transactions is profit. Without it, investing would not be a worthwhile venture. In order to make profits, one must correctly allocate funds at risk levels proportional to one's tolerance for risk and loss. For example, the higher a particular securities transaction's risk becomes, the less amount of money is used to accommodate that risk. This helps ensure money within a portfolio is earned and not lost.

2. Hedging

Another good reason to engage in securities transactions is risk management. Hedging not only helps minimise risk exposure, but improves optimisation of one's capital allocations for potentially higher gains. To illustrate, an investor places 10 percent of his or her retirement account capital into small-cap stocks in an industry that is forecast to grow rapidly in the next five years. That same investor hedges this amount by allocating 60 percent of his retirement account's liquid assets into a bond fund consisting of of AAA rated international bonds.

3. Diversification

Diversification is used for hedging, but is different because the principle behind the diversification has less to do with how the transaction is made, and more to do with what the transaction buys. More specifically, diversification works by partaking in capital allocations across a number of industries via financial vehicles such as foreign exchange spread betting, whereas hedging is only performed via individual transaction construction such as a stop-loss order in forex, or bear put spread in stock options trading.

4. Security

Financial security is built through well implemented transactions. Over time the right money management decisions become the catalysts for financial security. However, to avoid investments leading to financial havoc, carefully planning transactions with financial professionals to meet individual or household financial planning objectives is often a good idea. With a well planned portfolio, financial security should grow to meet investment benchmarks, or provide an income via income investing strategies.

5. Retirement

Last but not least, securities transactions facilitate a good retirement. As investors move through life stages, they often make changes to their prior financial decision making, or restructure their investment plan to better meet retirement objectives. For instance, higher 401(k) contributions allow a more rapid saving, and reallocation of funds account for changes in economic conditions. Furthermore, a greater knowledge of new or specific financial products allows for a wider choice of financial transactions.

Image license: US-PDGov

Friday, February 4, 2011

How to survive and even thrive in difficult economic times

Emergency accounts help cushion the effects of difficult economic times
Economic hardship is an opportunity for resourcefulness

Surviving in difficult economic times implies a number of economic conditions and scenarios requiring financial innovation. Whether the objectives are to recover lost income or investment worth, discover more lucrative financial opportunities, or obtain new ways to create money, navigating fiscal turbulence can be done. In terms of financial planning, a number of strategies can be used to deal with periods of troubled economics.

Maximize investments

To maximize investments, a branched investment strategy may be utilized within personal finance. In such a strategy a set of goals to maximize opportunity while simultaneously increasing net worth and lowering risk can be employed. During periods of declining equity growth, high inflation and bear market conditions, a traditional strategy of financial instruments with moderate yields and low risk hedge against adverse market deterioration. Alternatively, combining inflation re-optimization techniques with income and high yield bond investments may yield a net investment gain higher than a strictly conventional investment methodology.

Thursday, October 27, 2011

Pros and cons of Constant Proportion Portfolio Insurance (CPPI)

Consant Proportion Portfolio Insurance (CPPI)
Risk management via asset allocation optimizes portfolio investing
Constant proportion portfolio insurance is a form of investment risk management that is based on asset allocation. In other words, it is investment insurance however it is not insured by a company that provides the insurance. According to Rama Cont and Peter Tankov of the University of Columbia Center for Financial Engineering, constant proportion portfolio insurance allows investors to make risky investments that can grow by using multiples i.e. having more 'risk-free' assets to counterbalance the riskier assets.

How of constant proportion portfolio insurance works

To insure against risky investments constant proportion portfolio insurance requires the following three  amounts and one allocation per Investment Week. In other words, one has to first define how much capital one has to invest, then decide how much is an acceptable amount to lose, then assign a percentage loss to the risky allocation of assets. These measurements are entered into a formula to arrive at an amount for asset allocation.

1. Capital              Ex. $200,000 (C)
2. Risk metric       Ex. $20,000   (D)
3. Maximum loss  Ex 75%          (M)
4. Asset structure. Ex. $26,000 in Stocks, $174,000 in Treasury Bonds

In order to arrive at #4's asset structure numbers 1-3 have to be entered into the CPPI formula. This formula basically determines how much money is allowed to be invested in a high-risk asset in order to not exceed more than $20,000 loss with a maximum asset price drop of 75%. In other words, 75% of $26,000 is equal to $20,000 using the formula  (1/M)x (D)=(1/.75) x ($20,000)= $26,000. 

To illustrate further, suppose Mr. A has $200,000 and wishes to lose no more than $20,000 and expects the riskiest assets can fall as much as 75% in value. Given these parameters constant proportion portfolio insurance can be calculated using the aforementioned formula. This however, is only half the process, as there is still the question of return on investment, and asset instruments. That is to say, what investment instruments will yield a high enough return to justify a 75% risk. First it is a good idea to look at the advantages and disadvantages of CPPI.

Advantages of constant proportion portfolio insurance

1. Does not require derivatives

Since constant proportion portfolio insurance is more of a formula or technique the financial instruments used to fulfill the requirements of that technique are flexible. This means an investor can choose investments he or she feels comfortable with rather than something more complicated or unknown.

2. Fewer management expenses

Since derivatives are not required and flexibility is allowable within the CPPI formula, financial instruments that have lower management expenses, commissions and fees can be selected to optimize the portfolios cost effectiveness.

3. Adjustable risk and reward

Another advantage of constant proportion portfolio insurance is it can be periodically adjusted. For example, if an investors risk level or total investment capital changes, the formula can easily be recalculated and assets reapportioned to suit that change.

Disadvantages of constant proportion portfolio insurance

There are a few disadvantages to constant proportion portfolio insurance. These disadvantages can be minimized with effective decision making, and accurate assessment of market risk but should be addressed to properly meet financial objectives, risk tolerance and goals.

1. Upside ROI may be unknown

Risky investments tend to not have fixed rates of return which means the portfolio could lose value and not gain a cent. For someone seeking steady consistent growth this type of asset insurance allocation is less likely to be acceptable. However, this does not have to be the case, CPPI can still be used with fixed rates of return and very low risk levels but then becomes somewhat pointless as there is nothing to really insure against.

2. Risk level estimate may be wrong

Another potential problem with CPPI is the risk level estimate may be wrong. For example, the market may drop more than the investor expects for a given asset. Moreover, a faulty risk assessment can dampen the potential ROI or cause the investor to lose more than thought possible. In light of this, it is important to balance realistic expectation  about what the market can do, and what is also most likely to occur.

3. Opportunity cost of insurance

A third problem with constant proportion portfolio insurance is the opportunity cost. Money used to insure risky assets is money not invested in other risky assets. Granted that opportunity cost may actually amount to opportunity savings if those risky assets do not perform. However, there may also be safer assets with higher returns that increase the cost of financial opportunity provided by CPPI.

Image license: US-PD

Tuesday, April 5, 2011

The importance of the TED spread

"TED spread" is a term given to the metric of credit default probability as measured by the difference between a major lending interest rate and the interest rate on a government's securities. For example, the TED spread can be calculated as the difference between London Interbank Offered Interest Rate (LIBOR) and U.S. Treasury bill interest rates. (econbrowser.com) The larger the difference between the two values, the greater the chance of a credit crisis or an existing credit crisis is. This article will discuss the TED spread in terms of the U.S. Treasury Bills and the U.S. Interbank lending rate.

To determine the intensity and level of a credit crisis, the TED spread between U.S. Treasury Bills and the Interbank lending rate of a same time period can be used. For example, the difference between the three month lending rate for both hen banks lend to each other there is risk; a quick and simple way this risk is measured is by use of the TED spread which compares federal reserve bank determined interest rate risk calculations with the interest rate of U.S. government Treasury Bills. Interest rate risk could be assessed by simply monitoring the movement of the Interbank lending rate over time, however the TED spread provides a more immediate solution to gauging market risk and is often published on financial websites and newspapers. 

Friday, March 11, 2011

Understanding high beta stocks

A high 'beta' stock has price movements similar to a larger group of stocks known as an index. The beta, also known as the 'beta coefficient', is a mathematical result calculated by recording changes in stock price over time and comparing those changes with changes a group of other stocks. For example, if XYZ has a beta value of 1 as measured against an index of stocks in the same industry, then XYZ has price movements similar to the average or weighted average of the larger group of stocks; this relationship is called correlation.

How beta is interpreted is also important as simply knowing a financial security has a high correlation with other securities only says that financial instrument performs in an average way in comparison to other financial instruments. For this reason understanding what high beta stocks are also involves interpretation of the beta value in each particular measurement.

How a high beta stock is defined

To illustrate a high beta stock, suppose there is a company with an unknown historical price performance in relation to a broad based market index. That company has a 52 week price range of $10-$40 per share which in and of itself is an indication of past price volatility. However, if that volatility closely matches that of 100 other companies all in different sectors of the economy, then the probability increases the beta is indicating an overall market movement rather than a company specific matter. The following video provides additional explanation of the beta concept:

Since beta values often range from -1 to +1 with +1 meaning high correlation, and the inverse for the negative, then a number close to +1 would be 'high beta'. I the company performs negatively when the overall market does well, then the chances the company has a specific problem increase and the beta has a lower value. Thus, beta should not only be understood as a variable in and of itself, but also in relation to other financial and economic situations.

Why high beta stock assessments are useful

Beta values are used by investors, financial analysts, and other financial aficionados to better understand risk, potential and performance of financial instruments such as individual company stocks. For example, an analyst may want to compare the beta value of XYZ company in relation ABC Index with the beta of EFG company in terms of the same ABC Index.

This allows the analyst to not only determine which company has most closely conformed with average price movements, but which company is more volatile and hence riskier. Beta values can be used in different ways for different assessments; they can be used when planning an investment strategy, in retirement planning, in forecasting performance and more.

Other uses of for high beta stock values

High beta stocks may be further analyzed using the same high beta variable discussed above. This is because the beta coefficient is also used in other financial formulas and is a resulting variable of regression analysis. In other words, the beta coefficient is both a variable and an outcome depending on the financial measurement involved. Since regression analysis measures relationships between financial variables it logically follows that the beta coefficient would be a result of that technique.

In the case of the Capital Asset Pricing Model (CAPM), pricing of an asset is determined in part by measuring volatility. Beta is a variable that measures volatility in terms of comparative price movement, and is consequently widely known to be used in CAPM. A high beta stock might cause a stock measured with CAPM to be worth more if the index against which the stock is being measured is performing well, and vice versa if the situation is otherwise. To calculate beta, the method used in the following instructional video may be used:

A high beta stock is one with a value closer to +1 or higher. This value measures comparative change over time and is a historical value. Since beta is historical, it doesn't necessarily predict future price movements with great accuracy. Nevertheless, knowing the beta of a stock can be helpful when making financial decisions, especially when understood in the context in which the value is used.

A high beta stock isn't necessarily a good thing as the beta may reflect a tendency to perform on average. However, in some cases a high beta may be good, such as when one sector of the economy is performing better than other sectors and the beta for a particular stock with stocks in that sector is high.

Monday, February 21, 2011

A look at Uniform Gift to Minors Act accounts

Uniform Gifts to Minors Act accounts are financial instruments made possible via The Uniform Gifts to Minors Act (UGMA) and the Uniform Transfers to Minors Act (UTMA). These two related acts are U.S. law established in the 1950's and 1980's to allow parents to transfer assets and/or financial gifts to children.

Under the UGMA and it's 1986 adjustement i.e. The Uniform Transfers to Minors Act, custodial accounts can be established to transfer assets to children. This article will illustrate how to set up a UGMA and/or UTMA account , the types of accounts and/or assets that can be transferred, in addition to advantages and disadvantages to UGMA and UTMA accounts.

How to obtain a Uniform Gift to Minors Act account

A Uniform Gift to Minors account can be established through a financial institution that allows accounts for the specific assets involved. For example, if the assets include stocks, then a custodial account can be established through a brokerage firm.

This involves simply calling the brokerage and asking them for the appropriate application documents to establish the account. To prepare for and obtain a Uniform Gift to Minors account the following steps may be helpful:

Step 1: Identify future benefits a UGMA account may offer a child
Step 2: Assess the benefits of the account
Step 3: Weigh account pros & cons in terms of disposable income, tax law, and other children
Step 4: Locate financial institutions offering UGMA 'custodial accounts'
Step 5: Compare the strengths and weaknesses of the various UGMA accounts

Types of UGMA accounts

The Uniform Gifts to Minors Act and the Uniform Transfer to Minors Act allow the establishment of what is called a 'custodial account'. This is an account that is contributed to by a benefactor and managed by a custodian until the child reaches the age of transfer mandated under State law. Custodial accounts (invest.faq.com) are offered by a number of financial institutions and can include a diverse range of financial instruments. The following list provides examples of the types of UGMA custodial accounts that may be opened for a child.

• Bank accounts
• Brokerage accounts
• Mutual funds
• Money market accounts

Alternatives to custodial accounts include life insurance polices, individual retirement accounts, trusts, and college 529 accounts. These other accounts may be just as beneficial to a child depending on both the contributors financial goals and the child's future needs and potential benefits.

Advantages and disadvantages of UGMA accounts

The benefits of the Uniform Gifts to Minors Act and Uniform Transfer to Minors Act are primarily focused on the beneficiary, in such case, the child. A disputed area of this Act is in distinguishing between gifts and support through the accounts (beginnersinvestabout.com)

That is to say, gifts that benefit children outside of the parents responsibility to support them are acceptable under the act, however the definition of support varies from household to household, and State to State. Additionally, the U.S. Internal Revenue Service (IRS) (irs.gov) contends adjustments of the "designated beneficiary" after the establishment of a UGMA account may be in violation of the Acts principles and constitute tax evasion.

That said, and assuming no disputed areas of interpretation of the Uniform Gifts to Minors Act exist, the advantages and disadvantages of UGMA accounts are fairly clear and pertain to issues such as estate tax, a child's future needs, qualification for financial aid, number of beneficiaries and contributors taxable income and net worth. These benefits and disadvantages are listed below to illustrate and inform the potential financial scenarios UGMA accounts make possible.


• Can qualify the contributor to reduced taxable income up to $12,000.00
• Assists a child in financially preparing for the future
• Makes possible the avoidance of higher estate tax
• May reduce parental financial obligations later in a child's life


• Reduces qualification for financial aid
• Money contributed through UGMA is money gone
• Taxes may still be incurred by UGMA accounts
• Estate tax inclusions for UGMA account custodians
• Can only include one child as beneficiary

The Uniform Gifts to Minors Act and the Uniform Transfers to Minors Act make possible special accounts that are composed of gifts to children that contribute to their benefit upon age of maturation. These accounts become the property of the child upon creation and are managed by the 'custodian' who is not necessarily the contributor to the account. UGMA accounts may be part of a child's future portfolio or a single account created to benefit the child in the future.

There are several other types of accounts that may be created alongside of and/or instead of UGMA accounts and therefore the decision to open a Uniform Gift to Minors account might be better weighed carefully in light of potential advantages and disadvantages as listed in this article. In essence, the UGMA account is a benefit to the child for whom the account is created. Other purposes of the account such as tax benefits can be considered secondary to the primary purpose of assisting subsequent generations succeed and benefit financially.


1. http://www.law.upenn.edu/bll/archives/ulc/fnact99/1980s/utma86.htm
2. http://invest-faq.com/articles/tax-ugma.html
3. http://www.irs.gov/irb/2008-09_IRB/ar17.html#d0e2932
4. http://beginnersinvest.about.com/od/ugma/UGMA.htm
5. http://www.investopedia.com/terms/u/ugma.asp
6. http://tinyurl.com/6bdwmpn

Thursday, February 10, 2011

Understanding futures' tick size and tick volume

Futures' tick size and tick volume
Tick size & volume are key metrics in futures exchange trading
Understanding a futures contract's tick size and tick value is essential in the trading of futures financial instruments. These financial instruments are a type of contract that lock in to prices in the present and are either sold or bought at that price in the future. Commodities and currency are often traded in the futures markets such as the Chicago Board Options Exchange (CBOE) and the Chicago Mercantile Exchange (CME)

Tick size is a metric used in futures exchanges and trading that accounts for the smallest unit measure by which the price of a financial instrument can move up or down. Not all financial instruments have the same tick sizes and even those that are similar i.e. Treasury securities, tick sizes vary.

To illustrate tick size further, according to the Chicago Mercantile Exchange (CME), the tick size for a 30 year U.S. Treasury Bond Future is 1/2 of 1/32 of a point. This means each basis point is comprised of individual ticks of .015625. If 100 basis points is one percent, then the tick size is 1/64th of a basis point which is between 1/100th and 2/100ths of a percent, or more accurately .00015625

Tick value represents cost or profit in proportion to the tick size. In other words, a move in tick size will have differing advantages and disadvantages depending on how much money one has invested. Since tick sizes can be so small, very large amounts of money or quantity are needed to influence price movement significantly enough to be worth while.

For example, suppose Mrs. Smith wants to take part in a foreign exchange option. She chooses a currency pair and an exchange rate with which to sell at at a future date. The currency pair is the U.S. Dollar against the Japanese Yen and the exchange rate is 81.3400, meaning one dollar can be purchased with .8134 Yen indicating the Yen is a stronger currency. Now suppose the value of the dollar rises against the Yen i.e. one dollar buys more Yen buy 1 uptick, which is 1/100th of a cent, how much does Mrs. Smith make or lose?

To answer this question we need to understand the futures tick size and value in addition to the amount invested and the strike price. If Mrs. Smith buys $100,000 Dollars with the right to sell at an exchange rate with the Yen at 81.34 within 60 days and the value of the dollar against the Yen increases by ten upticks to ¥81.44, then the value of the Yen has risen by 10,000 which after conversion to dollars at the new rate would be $8,144. In light of this not exercising the option and forgoing the option premium is a wiser choice.

Since futures markets are often highly leveraged to take advantage of relatively small tick movements the risk can be quite high. This is why understanding exactly what a futures tick size and value are is crucial because one small miscalculation could end up costing thousands of dollars if one is overly leveraged and/or a large tick movement occurs.


1. http://bit.ly/cPXRPG (Chicago Mercantile Exchange)
2. http://yhoo.it/37rUpV (Yahoo Currency Exchange Convertor)
3. http://bit.ly/bwNEzH (Commodity Futures Trading Commission)

Saturday, July 27, 2013

Banking services: More than just checking and loans

Long-term savings instruments are also offered by financial institutions
Financial institutions offer retirement planning advice
 By Kendall Moore

If you asked your parents what a bank is good for, they probably told you that it was a place to save some money, cash checks, write checks and apply for loans. All of these things are correct, but that is a very narrow view of the things that a financial institution can do for its customers. The best financial institutions have a variety of services that they provide and can help their customers navigate through the many different stages of life.

Retirement planning

Since 2008 Americans have seen the value of their retirement plans plummet, and even though there has been some recovery, there is still a lot of uncertainty about what the future might bring. It is important to save for retirement, as many estimates suggest that people will need well over a million dollars in assets to live comfortably after retirement because of the increased cost of healthcare and longer life spans. A financial institution can offer you retirement planning advice, such as how to open an IRA and how to roll over a 401(k) if you change jobs or lose your job. This protects the money that you already have set aside for retirement, because IRAs are usually not tied to the volatility of the stock market, and it gives you the best chance to have a good life when you finally get ready to stop working.

Long-term savings

A savings account is a good way to teach a child about how to save money, but the interest on those accounts is small compared to some other investment options. Sometimes you will want to invest some money for the long-term, but you want to make sure that money is safe, and available in a dire emergency. A financial institution has just what you need to invest in long-term savings. Certificates of Deposit, or CDs, are variable length savings programs that will let you put money aside and gain a higher interest rate than it would in a savings account. After the CD matures you will get the money back that you invested, plus the interest. At that point you can renew the CD if you do not need the money right away. This is great way to build a down payment for a home or other large purchase.

Financial services

Finally, there are advanced financial services that a financial institution can provide that you might have gone to other places to have done. They can wire money instantly from one place to another, putting money directly into the recipient’s account, instead of forcing them to go to a Western Union location to pick up the money. The financial institution can also issue traveler’s checks when you travel, and they can print cashier’s checks when you need to make a purchase with certified funds. 

Too often these services are overlooked, and if you are going to another vendor to get any of these financial services, you are paying far more than your bank would charge to do the exact same thing. By using your financial institution for advanced financial services you will get the most from your banking experience. The financial institution exists to serve its customers, and it is wise to see what the institution can do for you before you start seeking help from the outside.

About the author: I am Kendall Moore and I am a financial services advisor for EACU. All too often I hear people complain that they cannot find a company that can provide the banking or financial services that they want, and they are shocked to learn that EACU has all of these advanced services. For more information about what EACU can offer, visit http://www.eacu.org.

* Image license: Micromoth; RGBStock.com royalty free

Friday, February 11, 2011

Why gold goes up in value when there is a financial crisis

Gold goes up in value when there is a financial crisis because it protects against inflationary pressures, serves as a hedge against currency devaluation and assists central banks in preserving financial integrity. This is evident in a January 2010 report from the World Gold Council that recorded a sharp inflow of capital into gold related holdings during the financial crisis of 2009.(1)

Gold is a precious metal commodity
Gold holds value because of its limited supply in the world

In many cases gold holds its value better than multiple forms of liquid currency such as cash, stocks and mutual funds. However, in cases such as the Australian dollar, gold has been recorded to have a positive rather than negative correlation with currency because of the large amount of gold produced by the country.(3) This however, serves to support the notion that gold goes up in value during a financial crisis because the relationship between the Australian dollar and gold is based on the notion Australian currency is somewhat supported by gold mining output.

The relationship between gold and paper currency is established via correlation which is a statistical measure of related events and the statistical outputs themselves are tested for validity using additional indicators, for example P-values. Correlations have been measured between currency and gold numerous times, and generally indicate financial instability leads to a rise in gold prices. This is evident in history several periods of economic instability have occurred with simultaneous, or closely timed upswings in the price of gold.(2)

Since currency like the dollar is backed by the economic strength of its economy, it loses value when financial events occur that weakens its spending power. For example, printing too much money leads to an overabundance that causes inflationary pressure on costs such as a rise in the cost of goods and services. There are many factors that can lower the strength of a currency such as excess national debt, large trade deficit, government deficit spending, collapse of a key industry or economic sector or lack of competitiveness in the international marketplace. In such cases investors and consumers benefit from financial instruments that offer inflation protection.

To better understand why the value of gold goes up when there is a financial crisis it helps to be clear about what a financial crisis actually is. A Department of State Congressional Research Service study broadly concurs the definition of financial crisis is a tightening of credit to both households and businesses to the point of adversely affecting goods and services.(4) In such case the strength of an economy becomes questionable as both businesses and households experience financial difficulties that were previously not as present.

Even though central banks may try to make access to money more cost effective during a financial crisis, banks aren't necessarily as willing to follow through with the credit risk. This can exacerbate the problem of the financial crisis, leading to lower national spending due to weakened asset values which in turn can affect corporate employment statistics, and market performance. In such cases gold investing tends to increase because it is seen as a safe haven like bonds; this causes its value to rise.


1. http://www.gold.org/assets/file/rs_archive/GID_Jan_2010.pdf
2. http://www.gold-eagle.com/editorials_05/milhouse021307.html
3. http://www.investopedia.com/articles/forex/06/CommodityCurrencies.asp
4. http://fpc.state.gov/documents/organization/103688.pdf

Image source: Kinross Gold

Tuesday, February 15, 2011

How do Fed rate cuts affect fixed deposit rates?

Fed interest rate cuts
Low interest rates are believed to stimulate lending
Federal reserve rate cuts impact fixed deposit rates because the cost of obtaining capital becomes cheaper for banks. Since the Federal Reserve Bank lends large amounts of money to banks, when they lower interest rates it becomes more cost effective for those banks to lower interest rates on consumer deposits since the bank's and/or financial institution's demand for money declines.

Deposits made to banks from consumers and/or non-financial businesses are fixed or variable. In the case of fixed deposit items such as certificates of deposit, money market funds, savings accounts and club accounts, changes in rates set by the Federal Reserve impact the interest yielded from such accounts.

How the Federal Reserve Bank changes interest rates

Generally, when the economy is growing well, interest rates rise making the acquisition of capital more expensive. The reason for this is the growing economy makes use of more capital than a recessionary economy hence the increase in demand. Since cost and demand are related via the economic principle of supply and demand, cost of deposits rises due to a greater need for capital in the economy. Inversely, when the economy is not growing fast or experiencing negative growth, the Federal reserve often makes it cheaper for financial institutions to acquire capital. It does this to help stimulate economic growth and does so through a decision making process carried out via the Federal Reserve board.

Different types of Federal Reserve interest rates

The federal reserve has a number of different lending rates including the prime rate,  the federal reserve overnight interest rate,  Federal funds rate  Money Market Investor Funding Facility (MMIFF), and the indirect cost of financing T-Bills i.e. U.S. Government Treasury notes. According to bankrate.com, when the federal reserve funds prime rate is adjusted, the affect on the market includes changes to a wide range of accounts because the amount it costs financial institutions to borrow is affected as mentioned above. Changes to these Federal reserve derived lending rates impact fixed deposit rates.

Although the secondary market for T-bills can affect interest rates on these high denomination securities, the affect on bank borrowing costs via fixed deposit rates is not as direct as the over federal funds rate i.e. the cost of inter-bank borrowing. This is so as not all U.S. banks necessarily capitalize via re-lending borrowed funds to the Government via Treasury securities. However, if market conditions and the economy are weak, and the prime rate is lower than the T-bill rate, banks and financial institutions could yield a safe profit via borrowing using the prime rate and lending using the T-bill rate.

Affect of interest rate changes on fixed deposit rates

Since the Federal reserve bank, although a privately owned institution, is in effect a national central bank, it has significant influence on the availability of capital within the United States' financial markets, and financial system. Simply put, when the banks' bank lends at a lower cost, banks don't need to borrow from consumers quite so much.

Three sources of capital for financial institutions are the Federal Reserve bank other banks and/or corporations and  the consumer market. Banks and financial institutions are businesses and therefore often borrow at the lowest cost and lend at higher costs. Thus, when the fed lowers interest rates, whether they be the prime, federal funds rate or other sources of fed influence such as via MMIFF financing, the cost to banks becomes lower with the affect of a lower interest rate on consumer accounts.

To summarize, the Federal Reserve bank is a privately owned, national central bank for the United States of America. Such being the case, the federal reserve bank lends money in large amounts and sets important interest rates for its funds and that of U.S. banks. When rates are changed, this affects the cost of capitalization for financial institutions such as banks, credit unions, savings and loans institutions such as mortgage lenders. (www.federalreserveeducation.org)

The Federal Reserve bank arrive at interest rate changes through the Federal Reserve Board and change rates with the goals of facilitation economic functionality. When rates are changed, the borrowing costs of financial institutions changes making availability of capital greater, less or the same as previous rates. These changes affect the cost of liquidity for financial institutions, and therefore affect fixed deposit rates because financial instruments funded through fixed deposit rates are also a source of capital for financial institutions.


1. http://www.federalreserveeducation.org/fed101/policy/basics.htm
2. http://www.federalreserveeducation.org/fed101/services/index.cfm
3. http://www.bankrate.com/brm/ratewatch/leading-rates.asp
4. http://en.wikipedia.org/wiki/Treasury_security
5. http://www.investorwords.com/3837/prime_rate.html
6. http://www.federalreserve.gov/monetarypolicy/mmiff.htm
7. http://tinyurl.com/4ev3sw8

Image license: Simon Cunningham, CC BY 2.0

Monday, March 7, 2011

Where to find listings of bank CD rates

Bank Certificate of Deposit (CD) listings can be found at a number of financial institutions and established financial websites like BankRate or MoneyRates.

The bank CD rates listed by these organizations vary based on the length of the locked deposit, the size of the deposit and to an extent the financial health of the issuer in the case of regulated banks. The type of CD can also affect the interest rate yield.

Financial newspapers

Financial newspapers such as the Wall Street Journal or Investors Business Daily (IBD) also list bank CD rates. These listings may also be distinguished by state so as to provide insight into regional economic performance and market conditions.

Certificate of deposit rates
The IBD newspaper lists CD rates
Naturally, banking practice often offers listings of bank CD rates for their financial institution. They may do so at the physical location of the bank and at their online website. An example of the CITI bank listing of CD rates can be viewed here.

 Since there are so many types and yields of CDs, it may be a good idea to investigate multiple CD listings if side by side listings don't have the CDs or banks you're looking to compare.

International bank CD listings

For international listings of bank CD rates, the Cannon Financial Center offers country CD interest rate comparisons like those listed at this link. However, for those seeking to avoid the hassle of researching and opening an account in another country, one may choose to invest in financial instruments set up by U.S. banks that invest in multiple global CDs to provide the investor a higher yield. Everbank has one such product called World Currency Basket CD's which can yield much higher interest rates than local banks offer.

Brokerage firms

Other financial institutions that provide banking services which include Certificates of Deposit may also list CD rates. Brokerage firms such as Fidelity Investments are an example of such a financial institution. What's more, different financial institutions can also offer varying types of Certificates of Deposits. Websites like the Federally Insured Savings Network provide both listings and an overview of diverse CDs such as callable CDs and derivative based CDs.

Federal interest rate listings

Depending on what bank or company is issuing the Certificates of Deposit both rates and risk can vary. For example, Federally regulated banks are subject to National rate and Rate cap requirements published by the Federal Deposit Insurance Corporation (FDIC). To view the most recently updated Certificate of Deposit interest rates set by the FDIC, click here. These rates aren't necessarily required by all banks as noted by the FDIC.

Both the U.S Securities and Exchange Commission (SEC) and the Federal Deposit Insurance Corporation recommend investing the terms of the CDs and the financial institution offering the CD's before considering purchasing them.  To read more about CD investment precautions both the SEC and FDIC tips can be viewed by visiting the site web addresses listed in the sources section of this article.


1. http://bit.ly/cAVChH (SEC)
2. http://bit.ly/aHQaEX (FDIC)
3. http://bit.ly/XsI8J (MoneyRates)
4. http://bit.ly/2bAU4s (EverBank)
5. http://bit.ly/b0bGdA (FISN)

Image license: Simon Cunningham, CC BY 2.0

Friday, March 11, 2011

Finance tips: Investing with an eye to periodic economic downturns

Investment risk management
Investments that perform well during downcycles manage risk
Investing with an eye to periodic economic downturns takes into account economic conditions can change and influence investment performance. Investors may invest with economic downturns in mind to benefit from the downturn, and hedge against the downturn. When an investor allocates assets for volatility protection, it is referred to as 'hedging', so as to avoid risk, and stabilize earnings.

When investing, accounting for economics is generally not approached as though it were an exact science, but rather, as calculated decision making. Such investment decisions may improve one's investment outcomes through familiarity with the investment process, application of investment tools, investment know how, and selection of appropriate investments.

Since economic swings are often temporary, investing for downturns alone is not the same as investing for periodic downturns. A number of strategies can be used when investing with an eye to periodic economic downturns. This article will discuss steps in economic cycle investing, tools involved in cycle investing, and the types of investments used during economic downturns.

Elements of economic cycle investing

Generally speaking, investing involves several factors whether it be for economic cycles, or multiple objectives. Each step in the investment process may incorporate the dynamics created by a nexus of individual financial circumstances that can vary from one person to another. In other words, since investors goals may vary, even when investing with an eye for periodic economic downturns, multiple variables and elements may be considered when preparing an investment plan.

• Investment objective
• Investment style
• Investment types
• Investment techniques
• Investment strategy

The above investment elements can apply to economic cycle and be shaped to fit the individual investor's unique financial situation. Once these elements are elaborated upon and better defined in terms of the investor, then the investment plan begins to take form. For example, an investor may decide his or her investment objective is long-term gains of 10% per year on average for 20 years with medium risk, planning for economic downturns, using a range of financial instruments suited to a volatile market.

Economic cycle investing tools

An important aspect of cycle investing is knowing how to identify an economic cycle in its various stages. For example, the beginning of an economic downturn may start with an increase in selling activity within securities markets in the event of a cyclical cycle downturn, or in the case of seasonal economic cycle, an increase in consumer spending within specific industries. To help with the identification of existing and future economic cycles, the following techniques may be used, but do not necessarily guarantee accuracy.

• Utilize economic indicators
• Research industry developments
• Stay aware of changes to monetary policy
• Monitor legislative developments
• Distinguish market trends and sentiments

Investing with economic variance may also involve retaining financial liquidity, and forecasting price movements of specific financial instruments so as to take advantage of value investing opportunities in the event of an economic downturn. Alternatively, the investor may assume an economic downturn well in advance and apportion money into contrarian investments during an economic upturn when down cycle investments may be of good value.

Moreover, since investing implies a longer-term time horizon, the investor who utilizes this type of strategy may not gain quite as much during a cycle to the upside depending on the type of investments used to hedge the cycle and if the investments are made for the correct type of cycle. In light of this, investing for economic downturns alone may not be refined enough for all types of economic conditions.

Investments used during economic downturns

If an investor is investing for the long-term, cycle investing may not be necessary, but may prevent volatility. Moreover, when investing with an eye to periodic economic downturn, a front-end investment strategy may be all that is used. By front end, one means the investment plan, and financial allocations are designed in such a way to account for economic downturns beforehand and may involve investment in one or more of the following investment vehicles:

• Bonds and bond funds
• Reverse index funds
• Long-term investment assets
• Low correlation emerging markets
• Treasury Inflation Protected Securities

Knowing which financial instrument(s) to invest in when investing with an eye for periodic economic downturns may be assisted with the help of a professional financial planner as several types of investments, tax strategies, risk tolerance, life stage etc. can all come into play. For example, investing for retirement may be different than investing for an estate and early life retirement may utilize different assets management strategies than retirement planning later in life.

Each type of investment carries certain risks, returns, characteristics and costs and the information contained herein is not guaranteed to lead to investment success. Moreover, fees for one fund may be higher than another, collectible investments may be less liquid than financial securities, some bonds may be tax deferred while others may be tax free etc. Thus, knowing one's financial objectives is also important as some assets may not be needed in the short-term in some cases allowing for less liquid investments or alternative investment strategies.

Image license: Public Domain Images/Pixabay, US-PD

Thursday, July 19, 2012

Features to look for in a digital brokerage platform

Stock market simulators and financial analysis tools are a benefit of online brokerages
Digital brokerage platforms allow individual's to invest

Brokerage platforms provide online investors and traders a wealth of money management opportunities. Choosing between brokers is a decision that affects financial objectives for as long as a brokerage account is used. In some cases, owning more than one brokerage account provides experienced traders with wider options. Paying close attention to account benefits, features and terms assists with evaluating the quality and potential of a digital brokerage service provider.


Service is a substantial factor weighing into the decision to open an account with a digital brokerage platform. A physical address, trained customer service support and regulatory licensing are just the beginning. Additional considerations include multiple account types, online bill paying, direct ACH money transfer and secure transmission of financial data over the internet. Additional service factors to take into account are transaction fees, minimum balances and margin interest rates.


Reliability in the carrying out of transactions and user interface speed are also important aspects of a digital brokerage platform. This is especially true for those using speed based strategies such as event driven intraday currency trading. Furthermore, fast and accurate access to the best available rate spreads help customers make competitive bid and ask decisions in addition to effectively placing orders designed to take advantage of changes within securities markets.


Access to innovative financial instruments and products is advantageous to online brokerage account holders. This is because a diversity of financial products improves maneuverability in fluid securities markets. For example, being able to select from trading mechanisms such as spread betting, arbitrage and hedging benefits customers by providing them with the right products for each type of market environment and trading strategy.


Without specialised financial tools, traders of financial instruments would not be able to make informed decisions, perform technical analysis or carry out multiple trading techniques. Online tools such as stock screeners and historical charting allow enhanced assessment of financial securities with the click of a button, or the touch of a screen. Other useful tools including heat maps, trading simulators and programmable orders further empower the securities trading process.


Many firms that offer digital brokerage platforms also provide traders with educational tutorials and access to research studies or reports. Outside of an account these resources are not necessarily free, and are therefore a considerable advantage of brokerage accounts that provide them. Historical data such as fundamental statistics, intraday pricing patterns, relevant economic data and up to date news alerts are all informational assets when placing one's money into a brokerage account.

Tuesday, March 1, 2011

Understanding the meaning of market risk

Market risks are threats investors face that are derived from conditions external to the investor him or herself. Market risk is sometimes referred to as systematic risk but is different from systemic risk.(2) To be more specific, market risk includes inherent uncertainties that can occur at any time regardless of preventative measures, whereas systemic risk is more influenced by controllable business variables rather than adjustments to individual investment strategy.

Why market risk is mostly unavoidable

Market risk is unavoidable in any situation where an investor places money in a financial instrument such as stocks or bonds. Some financial instruments are exposed to less market risk than others, but all investments are not immune from market risk. For example, even government issued inflation protected securities are subject to risks having to do with the currency in which the securities pay interest. Inflation protection may be incorporated into the securities, but if that currency devalues against many other currencies, the purchasing power against those currencies can still decline.

Types of market risk

A number of market risks exist, some of which are more probable than others depending on the type of investment and the market environment in which the investments are made. (1) For example, the above section states currency risk depreciates the value of inflation protected securities, but what if the currency is stable, or goods purchased with the currency are cheaply made and acquired domestically? The answer is other risks such as interest rate risk may also apply. Since interest rates are subject to economic conditions, in the case of floating rate inflation protected securities, they could still decline in interest payments even if inflation rises.

How market risk affects investments

Market risk affects investments by making them worth less, but risk sometimes can preclude higher returns. Risk can also be priced into securities so that the more cautious investor feels they are exposing themselves to less market risk. An example of this is a risk premium added to bonds that are rated lower than investment grade; another word for these bonds is 'junk bonds'.  Market risk can also cause volatility in the value of an investment such as stocks. For example, if economic conditions change, and the industry in which stocks are held is affected by that change in economic climate, then the risk of business failure or profit decline emerges.

Methods for dealing with market risk

Apart from industry regulation,(5) market risk can be limited through risk management methods such as investment techniques, calculated selection and market analysis. Just as one would not go out in a hurricane to buy a bag of apples, investing in certain market conditions is like walking into a hurricane. By studying the market, the specific risks that investments pose and ways to hedge against those risks, market risk can be reduced. Common techniques for risk reduction in include diversification and investment in FDIC insured accounts. The reasons why diversification is thought to be effective in reducing market risk is because it spreads out investment over a number of industries or businesses. However, it is important to note than in macro-economic instability, even diversification can fail.

Measuring market risk

Market risk can be measured in a number of ways. According to the Financial Times, Systematic indices exist that keep track of risk levels of various investments.(3) Moreover, these indices specifically measure performance of investments that are known to be vulnerable to different kinds of risks. For example, a fund that trades currencies is not necessarily subject to the same risks as a fund that invests in precious metals.  Several other methods of measuring risk also exist, and for example, they may involve risk formulas(4) or qualitative evaluation of business management. Another measure of market risk is the market risk premium. This calculation is illustrated in the video below:

Market risk varies between financial instruments and the amount of risk individual investors or investment firms take depends on their financial investment model and objectives. In any case, taking market risk in to account when making financial decisions is commonly practiced by non-speculative investors and is an important part of the financial planning process.


1. http://bit.ly/aEUUxt (FINRA)
2. http://bit.ly/cJfwfw (Investopedia)
3. http://bit.ly/b2MMMm (Financial Times)
4. http://bit.ly/bogSd2 (University of Wisconsin)
5. http://bit.ly/anZomF (SEC)

Wednesday, August 15, 2012

How book building works

Financial statement numbers are impacted by book building activity
Securities underwriters "book build" when financial securities are issued

Book building is the valuation of  new financial securities carried out by securities underwriters known as book runners. When a company issues new bonds or shares, they have to be priced. This pricing is performed by the book builder(s) who market the new financial instruments for the issuing company. This price assessment is partially based on a measured demand for the security by both institutional, private and public investors. However, book value for securities is also determined using financial formulas such as the discounted value of future cash flows.

Book building and securities valuation

An initial public offering (IPOs) such as the Dunkin' Brands Group, Inc. IPO in July 2011 serves as an illustration of how  additional issuer based valuation influences book building. The IPO had shares offered at $19 per a July Wall Street Journal report. Arriving at this initial offering price is theoretically the role of book building, but is also be influenced by the issuers capitalization needs. In other words, if the IPO is designed to raise money, the amount of money to be raised can influence the IPO price per share regardless of book building valuations.

Business influences on book building

In light of the competing motives behind IPOs the process of book building involves capitalization requirements, buyer demand for financial securities, and actual valuation of corporate worth as represented by the financial security. Some financial observers also believe book building undervalues valuation. For example, in academic research published by New York University and authored by two professors named Boyan Jovanovic, and Bal√°zs Szentes, it is suggested than an initial public offering be pre-valued below actual worth before soliciting bids from buyers in an effort to share 'super-normal' returns with preferred clients for business purposes. 

Securities valuation and regulatory protection

The actual value of shares to be offered via an IPO are only issued shortly before the offering takes place according to research in the Journal of Corporate Finance. Moreover, according to this research, yet another variable affects the valuation of book building. Specifically, regulatory environment as evident in the form of opt out rules. In other words, the author of the study demonstrates that since book-builders can withdraw their offering of securities if demand is not high enough, the undervaluation that can take place during IPOs is accepted due to the surety made possible via the opt out option.

The function of book building is fundamentally straightforward, however what actually happens when organizational entities seek to raise funds by issuing financial securities via book-building isn't quite so simple. This process and the valuation of securities is carried out by book-builders that are securities underwriters or book-runners. However, the actual price of the securities offered, IPOs in particular, are affected by several factors including book-builder financial motives, the issuer's financial security, and investor demand.

Image attribution: Freedigitalphotos.net; standard royalty free license