SPP741: PRINCIPLES OF FINANCE AND GLOBAL FINANCIAL MARKETS

The first half of this course will introduce the principles of finance. We will explore how stocks and bonds are valued, the measurement and management of financial risk, and the lessons and limitations of finance theory. The second half of the course will examine institutions and current practices in (developed and emerging) financial markets. We will examine the use of derivative instruments to hedge currency and interest rate risk, the relationship between the development of financial markets and economic growth, and the financing of developing country debt. The overall course objective is to learn the theory and practice of modern global finance.

COURSE PREREQUISITES:

PUBPOL555, PP559 or Economics 401 (Intermediate Microeconomics), or the equivalent, and graduate standing.

COURSE REQUIREMENTS:

Assignments: There are three cases and two problem sets. These assignments involve both short essays and solving problems. You are strongly urged to form study-groups to work on these assignments. The assignments are due at the beginning of the class on the due date (these are listed on page 3 of this document). Assignments will not be graded (answer sketches will be provided) but credit will be given to all students who hand in assignments on time.

Midterm Exam: There will be an in-class Midterm exam. It will cover the first half of the course. I will distribute three questions the week before the Midterm; the Midterm will consist of one of these questions and one "new" question.

Final Exam: There will be an in-class Final exam (on the last day of class). It will cover the whole course, though with more emphasis on the second half. I will distribute three questions one week prior to the last day of class; the Final exam will consist of one of these questions and one "new" question.

Class Participation: Participation in class (and, particularly case) discussions is highly recommended.

COURSE READINGS:

The main required textbook for this class is:

Principles of Corporate Finance, by R. Brealey and S. Myers, 7th edition, McGraw-Hill, 2003.

(If students have access to an earlier edition of this book and do not want to purchase the sixth edition; that is fine.)

Many of the required and supplementary readings are available off the web. Assignments, some of the readings, and this reading list can be downloaded from the course webpage: http://www-personal.umich.edu/~kathrynd/spp741page.html

All required and supplementary readings that are not available off the web or in the textbook are included in a CoursePack available from Ulrich’s and are on reserve at Foster Library.

NOTE: Journal of Economic Perspectives (JEP) articles published prior to 2001 are available online from JSTOR http://www.jstor.org/browse/08953309?config=jstor; and JEP articles published after 2001 are available online from the JEP website: http://www.aeaweb.org/jep/contents/previss.html using IngentaSelect (click on the article you want and then click on "online viewing options for institutional subscribers"). Required JEP articles are in the CoursePack and on reserve at Foster Library.

ADDITIONAL COURSE MATERIAL:

Other textbooks on corporate finance and financial markets you may wish to consult are given below:

Fabozzi, F. and Modigliani, F. Capital Markets: Institutions and Instruments, Prentice Hall: N.J.

Levich, R. International Financial Markets: Prices and Policies, Irwin/McGraw Hill: New York.

Ross, S., Westerfield, R. and Jaffe, J. Corporate Finance, Irwin/McGraw Hill: New York.

Shapiro, A. Multinational Financial Management, Prentice Hall: N.J.

For an entertaining and accurate account of the life of a currency options trader, you may wish to read: Goldstone, N. Trading Up, Dutton: N.Y., 1988.

In addition to the listed course readings (below), students are urged to stay up-to-date with current events in international financial markets. Subscription forms for special student rates for home delivery of the WSJ, FT and Economist are available online at:

WSJ: https://users1.wsj.com/wsjreg/do/loadStudentReg?call=R_ST_EDU&KEY_EXT_CODE=75HTB

The London Financial Times: http://news.ft.com/Education/Portal/welcome_students.html

The Economist : https://www.economistacademic.com/index.cfm?action=sso

For another good source of financial news (freely available off the web) see: http://www.cnnfn.com/markets/index.html

PUBPOL741 day-to-day schedule

Class	Date	Topic	Reading	Issued	Collected
1	9/7	Introduction	BM ch.1*
2	9/12	Foundations of Net Present Value	BM ch.2*
3	9/14	Valuation of Bonds	BM ch.3*	Case 1 Qs
4	9/19	Valuation of Common Stock	BM ch.4*
5	9/21	CASE 1: Investment Analysis And Lockheed Tri-Star			case 1
6	9/26	Introduction to Risk	BM ch.7*	case 2 Qs
7	9/28	CAPM and APT	BM ch.8*
8	10/3	CASE 2: Beta Management Co.			case 2
9	10/5	Capital Budgeting and Risk	BM ch.9
10	10/10	Financial Market Efficiency	BM ch.13*
11	10/12	Capital Structure I	BM ch.17	case 3 Qs
12	10/19	Capital Structure II	BM ch.17*
13	10/24	CASE 3: Marriott Corporation: The Cost of Capital		Midterm qs	Case 3
14	10/26	Overview of Corporate Financing	BM ch.14*
15	10/31	Midterm (in class)
16	11/2	Interest Rate Determination	BM ch.24*
17	11/7	The Foreign Exchange Market	BM ch.28.1*
18	11/9	Parity Conditions in Finance	Lamont & Thayler	Prob Set #1
19	11/14	International Interest Rates	BM ch.28.2-5*
20	11/16	Futures Contracts	BM ch.27.2-3*		Prob Set #1
21	11/21	Options	BM ch 20*
22	11/23	Swaps	BM ch.27.4*	Prob Set #2
23	11/28	Risk Management	BM ch.27.5-6
24	11/30	Governance and Financial Architecture	BM ch.34*		Prob Set # 2
25	12/5	Financial Contagion	Kaminsky et al*	Final Qs
26	12/7	Developing Country Finance	Bulow & Rogoff*
27	12/12	Final Exam (in class)

NOTE: BM denotes the Brealey and Myers textbook. An asterisk * denotes that additional readings for this topic are listed on the next page.

PUBPOL741 Reading List and Cases

Class 1: Introduction

“Capitalism and its Troubles,” The Economist , May 16, 2002

Class 2: Foundations of Net Present Value

Martin, R., “Internal Rate of Return Revisited,” http://members.tripod.com/~Ray_Martin/DCF/nr7aa003.html

“Deep Discount,” The Economist , June 26, 1999

Class 3: Valuation of Bonds

Fed Points: Understanding U.S. Government Securities Quotes http://www.ny.frb.org/aboutthefed/fedpoint/fed07.html

“Long Bonds: From Here to Eternity,” The Economist , May 31, 2005

Class 4: Valuation of Common Stock

Siegel, J. and Thaler, R., "Anomalies: The Equity Premium Puzzle", Journal of Economic Perspectives , vol.11, no.1, Winter 1997, 191-200.

Poterba, J., “Stock Market Wealth and Consumption,” Journal of Economic Perspectives , vol.14, no.2, Spring 2000, 99-118.

“Great Expectations,” The Economist , July 15, 2000

“Share Holder Value,” The Economist , January 25, 2001

“Valuation Waltz,” The Economist , May 3, 2001

“Stock Market Valuation: Great Expectations,” The Economist , Jan 31, 2002

“Stockmarkets: Looking for Directions'” The Economist , June 23, 2005

Class 5: Case 1

Investment Analysis and Lockheed Tri-Star HBS 291-031 (in CoursePack).

Class 6: Introduction to Risk

“All Fall Down,” The Economist , November 8, 1997

“Unscrambling Correlation,” The Economist , December 6, 1997

“Dancing in Step,” The Economist, March 22, 2001

“Highly Contagious,” The Economist , March 22, 2001

“Adverse to Reality,” The Economist , August 9, 2001

“An Eerie Calm,” The Economist , July 22, 2004

“A New Conundrum,” The Economist , May 17, 2005

Class 7: CAPM and APT

Perold, A., “The Capital Asset Pricing Model,” Journal of Economic Perspectives , vol. 18, no. 3, Summer 2004, pp. 3-24.

Fama, E., and French, K., “The CAPM: Theory and Evidence,” Journal of Economic Perspectives , vol. 18, no. 3, Summer 2004, pp. 25-46.

“Tales from the FAR side,” The Economist , November 16, 1996

“Time for the Chop: economics focus,” The Economist , February 25, 1995

”In Praise of Common Sense,” The Economist , June 22, 2002

Class 8: Case 2

Beta Management Co. HBS 292-122 (in CoursePack).

Class 9: Capital Budgeting and Risk

Class 10: Financial Market Efficiency

Malkiel, B., “The Efficient Market Hypothesis and Its Critics,” Journal of Economic Perspectives , vol. 17, no. 1, Winter 2003, pp. 59-82.

Shiller, R., “From Efficient Markets Theory to Behavioral Finance,” Journal of Economic Perspectives , vol. 17, no.1, Winter 2003, pp. 83-104.

“The Unbearable Lightness of Finance,” The Economist , December 5, 1998

“Shared Values,” The Economist , December 4, 1999

“The Foresight Saga,” The Economist , December 18, 1999

“Bond Blues,” The Economist , January 25, 2001

“The Rise and the Fall,” The Economist , May 5, 2001

“Badly in Need of Repair: Company Accounts,” The Economist , May 4, 2002

“Bubble Trouble,” The Economist , May 16, 2002

“Whither Equities?,” The Economist, July 12, 2005

Class 11: Capital Structure I

Class 12: Capital Structure II

Miller, M. "The Modigliani-Miller Propositions After Thirty Years," Journal of Economic Perspectives , vol.2, no.4, Fall 1988, pp. 99-120.

“Debt is Good for You,” The Economist , January 25, 2001

Class 13: Case 3

Mariott Corporation: The Cost of Capital HBS 289-047 (in CoursePack).

Class 14: Overview of Corporate Financing

Bolton , P. and Scharfstein, D., “Corporate Finance, the Theory of the Firm, and Organizations,” Journal of Economic Perspectives , vol.12, no.4, Fall 1998, pp. 95-114.

“Finance: Trick or Treat?,” The Economist , October 23, 1999

“Stocks in Trade,” The Economist , November 13, 1999

“When Capital Markets Rule,” The Economist , May 3, 2001

“Corporate Bond Markets: A Whiff of Fear,” The Economist , May 12, 2005

“Share Buy Backs: A Valuable Alternative to Empire-Building,” The Economist , April 19, 2005

Class 16: Interest Rate Determination

Fed Points: Interest Rates http://www.ny.frb.org/education/interest_rates.html

Fed Points: Estimating Yield on Treasury Securities http://www.ny.frb.org/aboutthefed/fedpoint/fed28.html

Campbell, J. "Some Lessons from the Yield Curve," Journal of Economic Perspectives , vol.9, no.3, Summer 1995, pp. 129-152.

“Storm Clouds Ahead”, The Economist , January 27, 2005

“Bond Yields: Down but Not Out”, The Economist , June 2, 2005

Class 17: The Foreign Exchange Market

Fed Points: The Foreign Exchange Market http://www.ny.frb.org/education/addpub/usfxm/

Froot, K. and Thaler, R. "Anomalies: Foreign Exchange," Journal of Economic Perspectives , vol 4, no. 3, Summer 1990, pp. 179-192.

“The Yuan: Chinese Puzzles,” The Economist , August 11, 2005

Class 18: Parity Conditions in Finance

Lamont, O., and Thaler, R. “Anomalies: The Law of One Price in Financial Markets,” Journal of Economic Perspectives , vol. 17, no. 4, Fall 2003, pp. 191-202.

Pakko, M. and Pollard, P. "For Here or To Go? Purchasing Power Parity and the Big Mac," Review , Federal Reserve Bank of St. Louis , January-February, 1996, pp. 3-17. http://www.stls.frb.org/do c s/publications/review/96/01/9601mp.pdf

“Burgernomics,” The Economist , January 13, 2001

“Big Mac Index: Food for Thought,” The Economist , May 27, 2004.

“Fast Food and Strong Currencies,” The Economist , June 9, 2005

Class 19: International Interest Rates

About Forward Rates http://fx.sauder.ubc.ca/forward.html

“China : From T-shirts to T-bonds,” The Economist , July 28, 2005

Class 20: Futures Contracts

Wolfers, J. and Zitzewitz, E., “Prediction Markets,” Journal of Economic Perspectives , vol. 18, no. 2, Spring 2004, pp. 107-126.

The Iowa Electronic Markets http://www.biz.uiowa.edu/iem/

“A Market for Votes,” The Economist , November 4, 2000

Class 21: Options

Hall, B., and Murphy, K., “The Trouble with Stock Options,” Journal of Economic Perspectives , vol. 17, no. 3, Summer 2003, pp. 49-70.

“Barrier Grief: Hedge Funds,” The Economist , March 8, 1995

“The Nobel Prize in Economics: The Right Option,” The Economist , October 16, 1997

“Keeping All Options Open,” The Economist , August 14, 1999

“Share and Share Unalike,” The Economist , August 7, 1999

“Coming Clean on Stock Options,” The Economist , April 27, 2002

Class 22: Swaps

What is an Interest Rate Swap? http://home.earthlink.net/~green/whatisan.htm

“The Swaps Emperor's New Clothes,” The Economist , February 8, 2001

“Italian Fiddle?”, The Economist , November 8, 2001

“Credit Derivatives: Risky Business”, The Economist , August 18, 2005

Class 23: Risk Management

Stulz, R., “Should We Fear Derivatives?”, Journal of Economic Perspectives , vol 18, no. 3, Summer 2004, pp.173-192.

Ewards, Franklin, “Hedge Funds and the Collapse of Long Term Capital Management,” Journal of Economic Perspectives , vol 13, no. 2, Spring 1999, pp.189-210.

Bishop, M. “A Survey of Corporate Risk Management: Too hot to handle? (parts 1-9), The Economist , various issues, February 1996 (part2, part3, part4, part5, part6, part7, part8, part9)

“A Hitchhiker's guide to Hedge Funds,” The Economist , June 13, 1998

“When the Sea Dries Up,” The Economist , September 25, 1999

“Future Perfect,” The Economist , November 27, 1999

“Too Clever by Half,” The Economist , January 22, 2004

“Financial WMD?,” The Economist , January 22, 2004

“Be Prepared,” The Economist , January 22, 2004

“Borrowing and Betting,” The Economist , June 10, 2004

“From Alpha to Omega: Hedge Funds,” The Economist , July 15, 2004

“Hedge Funds: Looking for Trouble”, The Economist, June 30, 2005

“The Perfect Storm,” The Economist , September 6, 2005

Class 24: Governance and Financial Architecture

Mahoney, P., “Manager-Investor Conflicts in Mutual Funds,” Journal of Economic Perspectives , vol.18, no.2, Spring 2004, pp. 161-182.

Demski, J., “Corporate Conflicts of Interest,” Journal of Economic Perspectives , vol. 17, no. 2, Spring 2003, pp. 51-72.

Lev, B., “Corporate Earnings: Facts and Fiction,” Journal of Economic Perspectives , vol. 17, no. 2, Spring 2003, pp. 27-50.

Healy, P. and Palepu, K., “The Fall of Enron,” ,” Journal of Economic Perspectives , vol. 17, no. 2, Spring 2003, pp. 3-26.

“Insider Trading: The Cost of Inequality”, The Economist , June 20, 2000

“A Rash of Rules,” The Economist , June 24, 2004.

“European Shareholder Democracy,” The Economist , March 23, 2005

Class 25: Financial Contagion

Kaminsky, G., Reinhart, C. and Vegh, C., “The Unholy Trinity of Financial Contagion,” Journal of Economic Perspectives , vol. 17, no. 4, Fall 2003, pp. 51-74.

Obstfeld, M., “The Global Capital Market: Benefactor or Menace?” Journal of Economic Perspectives , vol 12, no. 4, Fall 1998, pp.9-30.

Rogoff, K., “International Institutions for Reducing Global Financial Instability” Journal of Economic Perspectives , vol 13, no. 4, Fall 1999, pp.21-42.

“Is Contagion a Myth?” The Economist , October 31, 1998

“Close Correlationships,” The Economist , December 16, 2000

“The Money Trail,” The Economist , September 21, 2001

“New (Capital Market) Dangers,” The Economist , May 16, 2002

“The Regulator Who Isn't There,” The Economist , May 16, 2002

“Better Than the Alternatives,” The Economist , May 16, 2002

“Sudden Storms,” The Economist , May 1, 2003

“Emerging Markets: Different This Time?” The Economist , August 23, 2005

Class 26: Developing Country Finance

Bulow, J. and Rogoff, K. "Cleaning up Third World Debt without Getting Taken to the Cleaners," Journal of Economic Perspectives , vol. 4, no. 1, Winter 1990, pp. 31-42.

McMillan, J. and Woodruff, C., “The Central Role of Entrepreneurs in Transition Economies,” Journal of Economic Perspectives , Vol. 16, no. 3, Summer 2002, pp. 153-170.

IMF Fact Sheet: How the IMF helps Poor Countries http://www.imf.org/external/np/exr/facts/poor.htm

“Can Debt Relief Make a Difference?” The Economist , November 18, 2000

“When Countries Go Bust,” The Economist , December 6, 2001

“A New Approach to Sovereign Debt Restructuring,” Anne Krueger, IMF, November 26, 2001

“The Sisters at 60: the World Bank and the IMF,” The Economist , July 22, 2004.

“Dealing with Default,” The Economist , May 8, 2003.

“A Remedy for Financial Turbulence?” The Economist , April 15, 2004.

“ Argentina 's Debt Restructuring: Tough Deal,” The Economist , March 3, 2005

“To Give or Forgive,” The Economist , June 16, 2005

Economist articles on Debt and Development: http://www.economist.com/research/articlesBySubject/display.cfm?id=348915 also see up-to-date information on Professor Nouriel Roubini's “global macroeconomics” website: http://www.stern.nyu.edu/globalmacro/

PUBPOL741: PRINCIPLES OF FINANCE AND GLOBAL FINANCIAL MARKETS