Financial Instruments and Managing ● Cannot be withdrawn until maturity,

Credit Risk in Money Market unlike demand deposits, offering a

higher return.
I. Key Points: 4. Commercial Paper:
● Financial instruments are monetary ● Unsecured promissory notes issued
contracts between two parties: the by large, creditworthy companies.
issuer (who promises future ● Short-term debt instruments used to
payments) and the investor (who meet immediate financial
expects returns). obligations.
● According to IAS 32 and 39, 5. Banker's Acceptance:
financial instruments give rise to a ● •A time draft that promises payment
financial asset for one entity and a at a future date, commonly used in
financial liability or equity instrument international trade.
for another.
● These are intangible assets whose III. Risks in Financial Instruments
future economic benefits come in the
form of cash or a financial claim. 1. Interest Rate Risk:
● As interest rates rise, the value of
existing securities decreases (due to
II. Types of Financial Instruments better return prospects elsewhere).
2. Liquidity Risk:
1. Treasury Bills (T-bills): ● Some instruments may not have an
● Short-term government securities active secondary market, making it
with a maturity of less than a year difficult to sell without losing value.
(91-day, 182-day, and 364-day 3. Credit Risk:
tenors). ● The possibility that the issuer will fail
● No default risk (considered the to make interest or principal
safest investment). payments on time.
● Sold at a discount, meaning the
investor buys it at less than its face IV. The Role of Financial Instruments in
value and earns the difference at the Money Market
maturity.
2. Repurchase Agreements (Repo): Money Market Characteristics:
● Short-term loans where securities •Instruments in the money market are highly
are sold and later repurchased. liquid and short-term, with low default risk
● Common among banks to raise and maturities under one year.
short-term capital. •Common instruments: Treasury bills,
● The party selling the securities commercial papers, certificates of deposit,
agrees to repurchase them at a and repos.
higher price.
3. Negotiable Certificates of Deposit
(CDs):
● Securities issued by banks with a
fixed interest rate and maturity date.
V. Valuation of Financial Instruments
Present Value Formula:

Problem 3: Buying a Car

Problem 4: Retirement Savings

Comprehensive Present Value Problems

Problem 1: Starting a Business

Problem 5: Expanding a Business

Problem 2: Education Fund for a Child

 shares and ordinary shares. Shares
are publicly traded in the stock
market.
● Stock market is composed of two
components – exchanges and over
the counters (OTC).
● Share valuation can be computed
via different methodologies: through
dividends (zero-growth, constant
growth, variable growth), free cash
flow, book value, liquidation value
VI. Managing Credit Risk in the Money and price-earnings multiples.
Market
There are two reasons why investors
1. Evaluating Money Market Securities: should consider equity instruments:
•Interest rates and the time to maturity are
crucial in evaluating the value of securities. ● Capital Appreciation
•Money market instruments generally have - pertains to the possibility of
low risks, making them attractive for increase in value of shares often
risk-averse investors. reflected through its market price.
2. Credit Risk Management Strategies: Investors can buy and sell shares in
•Use of collateral (repos, secured loans). the secondary market, providing a
•Diversification to spread risks. mechanism that allow trading which
•Evaluation of the issuer’s creditworthiness influences the value of shares.
(credit However, since market price results
ratings). from interaction of different market
forces, this can be highly volatile
EQUITY SECURITIES MARKET which brings uncertainty to
shareholders.
Overview: ● Dividends
● Equity securities market is the type - refers to payments distributed by
of financial market wherein equity corporation to their shareholders.
instruments are traded between The amount of dividend declared is
demanders and suppliers of funds. based on the excess earnings of the
● Equity instruments is a legal company and is approved by the
agreement which serves as board of directors. Dividends can be
evidence ownership interest in a in the form of cash, property (i.e.
business. Investors include equity shares in other companies) or the
instruments in their portfolio because company’s own shares. Dividend
of capital appreciation and declaration is primarily based on the
dividends. current performance of the business
● The most common example of though this the level of declaration
equity securities is shares. Shares can be leveled by businesses to
can be classified in two – preference
 manage expectations of company is not liable to pay out
shareholders. dividend in arrears.
● Callable – Features which permits
Comparison between Equity and Debt corporations to repurchase
outstanding preference shares within
a period of time at a set price. This
feature allows corporations to cease
commitment to pay required
dividends of preference shares by
repurchasing it and is exercised
when market conditions deems it
reasonable to do so.
● Convertible – Option given to
shareholders to convert preference
shares to ordinary shares.

2. Ordinary Shares
Types of Shares - shares that represent equity in the
business. Holders of these are known as
1. Preference Shares residual owners since they will only enjoy
- shares that possess certain return once claims from creditors and
characteristics that prioritize them preference shareholders are satisfied.
over ordinary shares. Typically, Ordinary shareholders only receive dividend
dividend is already promised to upon the discretion of the company’s board
preference shareholder regardless of directors and possess voting rights
of business performance. (usually one vote, one share) to act on
Preference shares generally do not specific corporate actions such as issuance
have voting rights though some of new shares and election of company
corporations can grant this based on directors. Preemptive right - which grants
their Articles of Incorporation. the right to purchase shares during
Preference share is quasi-debt; the additional share issuance to protect their
dividend is somewhat like a stake from dilution – is given to
contractually obligated interest shareholders. Ordinary shareholders enjoy
without maturity date of debt limited liability i.e. if the company goes
agreements. Other features that under, they are only liable up to the amount
preference shares can possess they invest. In recent years, other types of
include: ordinary shares are developed such as
● Cumulative – Dividends that are not super voting shares (shares with multiple
paid in previous years (in arrears) votes) and non voting ordinary shares.
should be paid, together with the
current year dividends, prior to Stock Market
dividend distribution to ordinary - Stock market is the avenue where
shareholders. Non-cumulative shares are traded publicly. Stock
preference shares mean that the market can be physical or virtual.
 This is composed of exchanges and Share Valuation
over the counters (OTC) and can
function as primary or secondary Dividend-based Valuation
market. a. Zero-growth model – This assumes that
● Exchanges – organized physical dividend will not change in the future and is
venues for trading of shares which used for valuing preference shares.
are facilitated by floor traders. Floor
traders, often members of brokerage
firms, meet at the exchange and
collect bid and ask offers from each
other. Through this, they connect
matching deals and execute trade
orders coming from their clients or
their own firms.
● OTC market – markets where
shares are traded electronically by
dealers. Dealers or also commonly
called as market makers create
market by linking buy and sell orders b. Constant-growth model – Most popular
from their clients. They maintain approach in dividend-based share valuation
inventory of shares from different which assumes that dividends will increase
companies that they use to trade in at a constant rate indefinitely but always
the OTC market to maintain lower than the required rate of return.
equilibrium between purchase and
sell orders. Profits are earned by
dealers via the spread between bid
price and ask price or commission
through trading.
● Electric Communications Network
– network that directly connects key
brokerage firms and traders. ECN is
becoming relevant because of its
transparency, cost effectiveness and
quicker execution.
● Exchange-traded Funds – these
are formed when a portfolio c. Variable growth model – This model
containing different securities is assumes that dividend may growth at
established and a share is traded in varying rates and may go up or down
the exchange representing the depending on business and economic
portfolio. Exchange Traded funds conditions. In order to capture the variations
are value based on the market value in growth in the valuation, these four steps
of the shares within the portfolio. should be considered.
1. Compute for the value of cash dividends ✓ Book Value per Share – value per share
based on the estimated growth rate for each based on the exact book value as recorded
individual year. in the accounting records. This method
2. Compute for the present value of each does not consider future earning potential of
dividend for each year during initial growth the firm.
period.
3. Compute for the value at the end of the
initial growth period by using the expected
growth rate until infinity through the constant
✓ Liquidation Value per Share – value
growth model. Compute the present value
per share based on the current market
of this value in relation to current year.
value of assets (assuming it is sold today)
4. Add present value computed in Step B &
and all liabilities (including preference
C.
shares) are fully paid. This method is more
realistic compared to book value per share
but does not consider future earning
potential of the firm.
✓ Price/Earnings Multiples Method –
share price is computed by using the
average price/earnings ratio of comparable
companies in the same industry. This is
done by multiplying the current earnings per
share by the P/E multiple.

Hybrid and Derivative Securities

✓ Hybrid Securities – financial

instruments which possess characteristics
of both debt and equity
Other Alternative Valuation ● Stock purchase warrants –
Methodologies instruments that give bearers the
right to purchase stated number of
✓ Free Cash Flow – cash flow available to shares of a company at a given price
creditors and shareholders after satisfying within a limited time frame. Warrants
all contractual obligations. Free cash flow are detachable and are often used
follows the premise of present value as sweeteners to bond issuances.
computation wherein annual free cash flow ● Convertible securities – bonds or
is discounted using weighted average cost preference shares that can be
of capital. Since free cash flows estimates converted to ordinary shares in the
the value of the entire company, market future.
value of debt and preference shares should ✓ Derivative Securities – securities that
be subtracted to arrive at value of ordinary are neither debt nor equity but derives value
shares. from underlying asset.
● Options – gives holders a chance to
purchase (call option) or sell (put
 option) a specific asset. Holder can ● Solution:
decide whether to exercise the • Fee = 1% of ₱200,000 = ₱2,000
option or not. • Total cost = ₱200,000 + ₱2,000 =
₱202,000
CAPITAL SECURITIES MARKETS
Platforms for Capital Markets
Introduction to Trading in Capital Definition
Markets ● Platforms for capital markets refer to
Definition methods used by investors to buy
● Trading in capital markets involves and sell securities, including
buying and selling financial conventional brokerage, online
instruments like stocks and bonds. trading, and mutual funds.
Investors aim to earn profits through Discussion
price changes or dividend payouts. ● Conventional Brokerage: Investors
Discussion work with brokers who handle trades
● Capital markets are essential for and provide investment advice.
raising capital and investing. They Brokers are knowledgeable about
offer a platform where companies market conditions, offering insights
and governments can raise funds, that can help investors make
and investors can participate in profitable decisions.
ownership or lending activities. ● Online Trading: Digital platforms
Understanding trading allow investors to trade directly at a
methods—both traditional and lower cost. Although it saves money,
online—helps investors make investors must conduct their own
informed choices based on their research and make their own
comfort and financial goals. decisions, as online platforms do not
Example provide advisory services.
● Traditional brokers might charge ● Mutual Funds: Investors pool
higher fees but provide advice. money to buy shares in a fund
Online platforms are cheaper but managed by professionals. It’s a
require self-directed diversified option, spreading risk
decision-making. across various securities based on
the fund’s objectives.
Problem Solving Examples
● Formula: Total Cost = (Shares Price ● Conventional Brokerage: A broker
× Number of Shares) + Brokerage advises an investor to buy shares of
Fee a growing tech company.
● Example Problem: If an investor ● Online Trading: An investor uses
uses a traditional broker with a 1% an app like COL Financial to trade
fee to buy stocks worth ₱200,000, stocks independently.
what is the total cost? ● Mutual Funds: An investor buys
shares in a fund focused on
renewable energy companies.
Problem Solving
● Formula: Total Cost = (Shares Price
× Number of Shares) + Transaction
Fee
● Example Problem: An investor
uses an online platform to buy 100
shares at ₱1,000 each, with a 0.5%
transaction fee. Calculate the total
cost.
● Solution:
• Purchase = 100 shares × ₱1,000
= ₱100,000
• Fee = 0.5% of ₱100,000 = ₱500 Problem Solving
• Total cost = ₱100,500 ● Formula: Market Cap = Number of
Shares × Share Price
Market Capitalization ● Example Problem: A company has
Definition 15 million shares, and each share is
● Market capitalization (market cap) is priced at ₱75. Calculate the market
the total value of a company’s capitalization.
outstanding shares, calculated by ● Solution:
multiplying the share price by the • Market Cap = 15,000,000 shares ×
number of shares. ₱75 = ₱1,125,000,000
Discussion
● Market capitalization helps classify Share Valuation Techniques
companies as small-cap, mid-cap, or Definition
large-cap, providing a snapshot of ● Share valuation techniques
their relative size and stability. It is determine the current worth of a
an essential metric for investors to stock based on future cash flows
compare the size and growth and other factors.
potential of different companies, Discussion
guiding them in their investment ● Discounted Cash Flow (DCF)
decisions. Approach: This method estimates
Examples the value of a stock by discounting
● A company with 5 million shares future cash flows back to their
priced at ₱100 each has a market present value. It helps investors
cap of ₱500 million. This would likely determine whether a stock is
classify it as a mid-cap company. undervalued or overvalued by
comparing its intrinsic value to its
current market price.
Examples
● If a stock is expected to generate
cash flows of ₱50,000 each year for
five years, an investor would use the
DCF approach to find its present
 value by applying a discount rate, the expected dividend and sale
accounting for the risk and time price, discounted at the required rate
value of money. of return. It is simple but effective for
quick evaluations.
Problem Solving Examples
● Formula: PV = Cash Flow / (1 + ● If an investor expects a ₱10 dividend
Discount Rate)^Number of Periods and the stock will sell for ₱120 after
● Example Problem: An investor one year, the model helps determine
projects annual cash flows of whether buying the stock now is a
₱100,000 for three years, with a profitable decision.
discount rate of 10%. Calculate the
present value of these cash flows. Problem Solving
● Solution: ● Formula: Intrinsic Value =
• Year 1: ₱100,000 / (1.10) = (Dividend + Sale Price) / (1 +
₱90,909 Required Rate of Return)
• Year 2: ₱100,000 / (1.10)^2 = ● Example Problem: A stock is
₱82,645 expected to pay a dividend of ₱15,
• Year 3: ₱100,000 / (1.10)^3 = and its price is forecasted to be
₱75,131 ₱200 at the end of the year. If the
• Total PV = ₱90,909 + ₱82,645 + required return is 8%, what is the
₱75,131 = ₱248,685 intrinsic value?
● Solution:
• Intrinsic Value = (₱15 + ₱200) / (1
+ 0.08) = ₱199.07

Multiple-Period Dividend Discount Model

Definition
● This model extends the one-period
model by evaluating multiple years
of dividends and a final sale price, all
discounted to the present.
Discussion
● The multiple-period model is suitable
One-Period Dividend Discount Model for long-term investors. It calculates
Definition the sum of dividends and the stock’s
● This model calculates a stock's sale price over several periods,
value based on the expected adjusted for the required return. This
dividend and price at the end of one model is often used when the
period, usually a year. holding period is defined, and
Discussion investors aim to calculate the total
● The one-period model is useful return over that time.
when an investor plans to hold a Examples
stock for a short time, usually a year. ● If an investor plans to hold a stock
It estimates the value by considering for three years, receiving dividends
 of ₱10 each year, and selling the
stock for ₱150 at the end of year
three, this model helps determine its
present value.

Problem Solving
● Formula: Intrinsic Value = Σ
(Dividend / (1 + r)^t) + (Sale Price /
(1 + r)^n)
● Example Problem: A stock is
expected to pay dividends of ₱20 for
three years, with an estimated sale
price of ₱250 at the end of the third
year. If the discount rate is 6%, what
is the stock’s intrinsic value?
● Solution:
• Year 1 PV: ₱20 / (1.06) = ₱18.87
• Year 2 PV: ₱20 / (1.06)^2 = ₱17.80
• Year 3 PV: (₱20 + ₱250) / (1.06)^3
= ₱218.13
• Total PV = ₱18.87 + ₱17.80 +
₱218.13 = ₱254.80