清华大学经管学院--金融工程1.pptx

1、INTRODUCTION TO FINANCIAL ENGINEERING,Fred SongSeptember 2001,1,Introductory,What is Finance?What is Financial Engineering?Whats the role of Financial Engineering in New Economy?,New economy,Financial engineering and e-commerce,2,What is Finance?,Money&Banking Monetary Economics,International Financ

2、e International Economics,3,Corporate Finance,Capital Market(Investments),Financial Economics,Multinational Corporate Finance,International Financial Market,Financial Engineering,4,What is Financial Engineering?,Generalizing:Financial Engineering involves the design,the development,and the implement

3、ation of innovative financial instruments and processes,and the formulation of creative solutions to problems in finance.Specializing:Financial Engineering is risk management via creative structural tools.,5,FINANCE,I.T.,ENGINEERING,F.E.,6,CHAPTER ONE:MM Theory and No Arbitrage,MM Theory,Two measure

4、ments of valueAccounting:book value historic cost,Finance:market value net present value,7,Assets=Liabilities+Equity,Accounting Equality:duel entity systemBook value measurement,Fund use,Fund source,Finance Equality:Fund use=Fund sourceMarket value measurement,8,Corporate Finance Assets Liabilities

5、and Equity Asset 1 Asset 2 Liabilities Asset 3.Equity.Asset nTotal Assets Total Liabilities and Equity,Accounting:Yes!Finance:No!,Capital Market,Real Economy,NPV,Firm Value,+NPV,9,Liabilities Value Equity Value,Liabilities Value Assets Value,Capital Structure,Financial leverage:,or,Has a change of f

6、inancial leverage any impact on the firm value?,10,M&M Theory,M&M assumptions:Frictionless assumptionsNo income taxesNo transaction costsNo information asymmetryNo cost to resolve interest conflicts among stakeholdersAll liabilities are risk-free,11,Notes:,A mini-case,Two companies EBIT Capital stru

7、cture Firm value,$10 million p.a,bonds:$40 million,8%shares:600,000,As share price:$100 per share,expected return:10%,1 million shares$100 million,B,?,A,Bs bond:risk-free the share number is supposed share expected return:,?,12,(Risk-free),No,Position Immediate Cash Flow Cash Flow in the Future,Repl

8、ication of As Stock Using Bs Stock and Bonds,Bs Total Payments=Bs Net Earnings+Interest Payments,=(EBIT-$3.2 million)+$3.2 million=EBIT,Suppose price of Bs stock=$90 per share,Short sell 1%As shares at$100 per share,Buy 1%Bs shares at$90 per share,Buy 1%Bs bonds,+$1,000,000,1%of EBIT,$540,000,1%(EBI

9、T$3,200,000),$400,000,1%$3,200,000,Net Cash Flow,$60,000,0,Arbitrage,Price of Bs stock=$100 per share,13,M&M Proposition 1,Proposition 1:Under M&M Assumption,i.e.,in the frictionless environment,the total market value of a firm is independent of its capital structure.,Think of the firm as a gigantic

10、 pizza,divided into quarters.If now,you cut each quarter in half into eights,the M&M proposition says that you will have more pieces,but not more pizza.,Merton Miler,14,Probability Distribution of EBIT and EPS for the Two Companies,State of the Economy,EBIT,Company A Company B EPS Net EPS(1 million

11、shares)Earnings(600,000 shares),Bad business$5 million$5$1.8 million$3.00Normal business 10 10 6.8 11.33Good business 15 15 11.8 19.67Mean 10 10 6.8 11.33Standard deviation 4 6.81Beta 1.0 1.0 1.67NOTE:Each state of the economy is equally likely.,15,The cost of capital depends on its use and not on i

12、ts source.,Proposition!,16,Weighted Average Cost of Capital,Cost of capital of the firm without liability,Risk premium of WACC,Financial leverage,M&M Proposition 2:The cost of capital of a firm equals the cost of capital of the firm without liability and the risk premium of WACC multiplied by financ

13、ial leverage.,17,All transactions in financial markets are zero NPV transaction activities.,Proposition!,18,Implication of M&M Theory,Frictionless environment does not exist in the real world.TaxesTransaction costsInformation asymmetryCosts resolving interest conflictLiabilities are risk-bearing,19,

14、Tax Shield,Company A:,Tax rate:T=33%,Company A Company B,Claimant,CreditorsShareholdersGovernment Tax Authority,Total Firm Value before Taxation,$100 million$100 million,0,67 million,33 million,Company B:(1T)(EBITInterests)+Interests=(1-T)EBIT+TInterests,40.0 million,40.2 million19.8 million,$13.2 m

15、illion,20,WACC with Taxes,Other M&M assumptions hold,Has a change of financial leverage any impact on the firm value?,Answer:Yes!,Discount rate for cash flow of the firm,21,Stock Price,Share Number Total Equity Share Price,Company A:,1 million,67.0 million,$67,Company B:,600,000,40.2 million,$67,?,I

16、f Company A were to announce an issue of$40 million debt to be used to repurchase and retire common stock,As capital structure=Bs capital structure,Market reaction:price of As share would go up to reflect the$13.2 million tax shield:$(67.0+13.2)million/1 million=$80.2 per share.,Where is the benefit

17、 of the tax shield?,22,State Prices,Risk-free security,Risk-free interest rate,Bond A,Bond B,23,Basic Securities,Basic Security 1 Basic Security 2,=?,=?,Portfolio Basic Security 1,Basic Security 2,replicating,Bond A,=,No Arbitrage,24,Replicating risk free security,Portfolio Basic Security 1,Basic Se

18、curity 2,replicating,=,Let,State Prices,25,Replicating Bond A and Bond B,No Arbitrage,Questions?,Do there exist such kind basic securities in the real world?Are there enough basic securities that can be used to replicate all the payoff of securities in the market?,Answers:,Find some equivalent instr

19、uments instead of basic securities.It involves in market completeness.,26,Replication via equivalent instruments,Portfolio Bond A,market value risk-free security,replicating Bond B,27,Market Completeness,Whenever the number of different instruments used to replicate securities equals the number of s

20、tates so that we can attain any payoff of securities in future,in such a circumstance,the market is a complete one.Otherwise,themarket is incomplete.,Completeness is a core concept of finance theories!,28,Summary of Chapter One,No Arbitrage EquilibriumReplication MethodologyState Prices Technology,2

21、9,CHAPTER TWO:Time Value of Money and Term Structure of Interest,Discounted Cash Flow Formula,Yes!is the expected rate of return,i.e.,the mean of the discount rates for different terms,Let,No!is the discount rate that cannot be used for so long period,?,30,Determination of Interest,Capital productio

22、n ability the more the capitals expected return,the higher the interest rates and vice versa.Uncertainty of capital production ability the more the uncertainty,the higher the risk premium required and the higher the interest rates and vice versa.Time preference of consumption the stronger preference

23、 to current consumption,the higher the risk premium required and the higher the interest rates and vice versa.Risk aversion the more the risk aversion,the higher the risk premium required and the lower the risk-free interest rates.,Four basic factors,31,The Benchmark of Interest,Yield to Maturity(YTM),YTM varies with different financial instruments,because the exposure of financial instruments are quite different and the required risk premiums differ from each other.,Risk-free interest varies with terms.Its called the term structure of interests.,Risk-free interests,?,?,No!,Yes!,32,