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Economics 350

ECON 350: Investment Economics

Prerequisite: ECON 105

Credit Hours: (3)



Detailed Description of Content of the Course


Topic Outline

1. Nature of Investment
2. Investors and Investment
3. The Investment Environment: Time Value of Money
4. Measuring Investment Return
5. Risk Analysis
6. Risk and Return with Debt Instruments
7. Investing in Instruments to Meet Liquidity Needs
8. Monetary Policy and its Impact on the Bond and the Stock Markets
9. The Wall Street Journal
10. Sources of Financial Information
11. Analysis of the National Economy


Detailed Description of Conduct of the Course

The following teaching strategies will be employed:

Lecture, discussion, videotapes, at least one guest speaker, and overhead presentations. All students are required to apply their theoretical knowledge by investing in stocks, bonds, and options in the context of a "Stock Market Game" written by the instructor. Students are rewarded based on their choices of portfolios of assets, their timing of purchases and liquidations, and their overall records of profits and losses.


Goals and Objectives of the Course

1. Explain the importance of savings and investment.
2. Understand the difference between financial and real assets.
3. Describe the difference between real and nominal rates of return.
4. Convert nominal quantities such as income and wealth to real quantities.
5. Explain why and how households, businesses, and governments borrow money.
6. Describe the distinction between primary and secondary markets.
7. Understand the impact of recent financial innovations.
8. Analyze how changes in interest rates affect the prices of financial and real assets.
9. Explain why economists, investors, and policy makers are all interested in the effects of monetary events on economic activity.
10. Explain the time value of money.
11. Understand that interest rate is the price paid for the use of money, credit, or loanable funds.
12. Understand that there are many interest rates, not just one.
13. Understand the difference between bonds and stocks.
14. Understand that the rights of bondholders supersede the rights of stockholders.
15. Understand that bondholders can take legal action to force payment of interest and principal while stockholders cannot force payment of dividends.
16. Understand why holders of common stock are the legal owners of an incorporated firm.
17. Explain the difference between the book value and the market value of a stock.
18. Understand that a corporation does not normally distribute all its earnings.
19. Explain how the provision of limited liability may encourage small investors to become part owners of large corporations.
20. Describe how the earnings of a corporation are taxed twice.
21. Describe the role of investment bankers in underwriting, marketing, and distribution of new stock issues.
23. Explain the economic significance of stock and commodity exchanges.
24. Describe the functions of stock specialists.
25. Understand the difference between ask and bid prices.
26. Understand the meaning of the terms shown in summary form in conjunction with stock price quotations in the Wall Street Journal.
27. Explain P/E ratio and the dividend yield.
28. Describe the Dow Jones Industrial Average, The Standard and Poor's 500, and the Wilshire Indexes.
29. Compute present value of a stock using the fundamental analysis approach.
30. Explain the implications of the constant-dividend-growth model.
31. Describe the historical link between the economy and the stock market.
32. Analyze the relationship between interest rates and the level of stock prices.
33. Understand the meaning of the "announcement effect."
34. Understand the relationship between an investor's required rate of return and the rates of return available on other investments.
35. Calculate the future value of an investment under varying compounding arrangements.
36. Calculate the present value of a constant cash flow using the appropriate equation.
37. Compute the present value of a perpetual cash flow.
38. Define yield to maturity, coupon, and coupon rate.
39. Compute yield to maturity on Treasury bills, zero coupon bonds, and coupon bonds.
40. Explain the inverse relationship between a bond's price and its yield to maturity.
41. Describe the types of tax-exempt bonds issued by state and local governments.
42. Explain the effect of inflation on nominal interest rates.
43. Explain the difference between the nominal and real interest rate.
44. Define default risk.
45. Explain why differences in interest rates are partially due to differences in chances of default.
46. Explain why bond defaults have not been too widespread in the past.
47. Understand why bonds with low ratings have high yields to maturity.
48. Explain why U.S. Treasury securities are not rated.
49. Describe the intricacies of rating state and local government bonds.
50. Explain the relationship between bond quality and the rating assigned by rating agencies.
51. Describe the financial ratios bond rating agencies use for determining bond quality.
52. Understand the relationship between the yield on a bond and the probability of default by issuer.
53. Describe the reasons behind the sweeping acceptance of junk bonds in the 1980s.
54. Explain why tax incentives have contributed to rising corporate indebtedness over the years.
55. Analyze the reasons for the deterioration in the quality of corporate bonds in recent years.
56. Explain how the prime rate is determined by large commercial banks.
57. Analyze the reasons for the strong correlation between banks' prime rates and the commercial paper rates.
58. Understand that long-term bonds have capital risk in that changes in interest rates affect their market value.
59. Understand that interest rates fluctuate considerably, causing large changes in bond prices and substantial capital gains or losses for bondholders.
60. Understand that short-term bonds have income risk because future interest rates cannot be predicted with any degree of certainty.
61. Understand that fixed income securities, especially long-term ones, have inflation risk.
62. Understand that the term structure of interest rates describes the yields to maturity on zero-coupon bonds that have the same default risk.
63. Understand that the yield curve compares the yields to maturity on coupon-paying bonds with different maturities.
64. Understand that variations in the term structure may be explained by interest rate expectations.
65. Analyze the implications of the Hicks equation.
66. State the assumptions behind the Expectations Hypothesis.
67. Describe the relationship between short-term and long-term interest rates using the Expectations Hypothesis.
68. Compute the present value of a coupon bond given annual coupon payment, years to maturity, and maturation value.
69. Compute a bond's yield to maturity given its price, years to maturity, and its maturation value.
70. Understand why the yield to maturity on zero-coupon bonds does not necessarily coincide with the yield to maturity on coupon bonds of similar maturity and default risk.
71. Explain why it is difficult to forecast interest rates.
72. Compute an asset's duration and its sensitivity to changes in interest rates.
73. Describe how an asset's duration may be used to gauge its capital risk.
74. Define futures and forward contracts.
75. Understand the difference between "long" and "short" positions.
76. Explain the difference between futures and options contracts.
77. Understand why both the buyer and the seller of a futures contact are protected against unforeseen changes in the market price of a commodity or a financial asset.
78. Understand the meaning of speculation.
79. Describe how futures and options are used for hedging, speculation, and arbitrage.
80. Explain the advantages of a standardized futures contract.
81. Explain the terms used to quote the particulars of a futures contract for a commodity or a financial asset.
82. Understand the meaning of such terms as open interest, settlement price, and daily limits.
83. Describe the purpose behind marking to market.
84. Compare the role of margin in the stock market and in the futures market.
85. Explain why the futures price is equal to the spot price on the delivery date.
86. Analyze the objectives of program trading.
87. Explain the distinction between index arbitrage and portfolio insurance.
88. Articulate the major causes of the stock market collapse on October 19, 1987.
89. Describe a call option and a put option.
90. Describe exercise price, exercise value, and exercise date.
91. Describe the meaning of such terms as "in the money" and "out of the money."
92. Understand that an index option is an option contract based on the value of an index of asset prices.
93. Understand that the basis is the difference between the futures price and the current spot price.
94. Explain the relationship between futures price, spot price, and cost of carry.
95. Explain the interest-rate parity equation.
96. Describe the cause of speculative bubbles.
97. Describe the historical and economic events that led to the crash of the stock market in 1929 and 1987.
98. Compare and contrast the stock market crash in 1929 with that in 1987.
99. Explain the three forms of the efficient-market hypothesis and their implications.
100. Describe the empirical evidence for and against the three forms of the efficient‑market hypothesis.


Assessment Measures

  • Test I 100 points
  • Test II 100 points
  • Test III 100 points
  • Test IV 100 points
  • Quizzes 20 points
  • Stock-Market Game Reports 10 points

Total Value: 430 points.



Other Course Information



Review and Approval

Date Action Reviewed by
December 2004 Made alterations to syllabus N. Hashemzadeh, Chair
April 16, 2012 Revised