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Tutorial: Lecture 7

Short Answer question:


1. What distinguishes a public bourse from a banker's bourse?
In a public bourse the government appoints the brokers ensuring them a monopoly
over all stock market transactions. In a banker's bourse is owned and operated by a
corporation founded for the purpose of trading securities.

2. Distinguish between price-driven trading system and order-driven trading system.


A trading system may be order driven or price driven. What distinguishes a price
drive system is the dealers who act as market makers for certain stocks. They stand
ready to buy at a bid and sell at an ask price. The NASDAQ in the U.S. is an example
of a price driven trading system. ( Also refer to lecture slides please)

3. How are traditional exchanges (lit exchanges) competing with dark trading
venues?
Exchanges are now also setting up their own dark pools to compete with the offexchange venues. NYSE Euronext operates SmartPool, and the London Stock
Exchange operates Turquoise
4. How are ADRs differentiated? Draw particular reference to raising new funds
through ADR.
A major distinction among the three types of ADRs is whether the listing is
associated with the raise of capital in the United States. Level 1 ADRs trade over the
counter in New York and are not listed on a major U.S. stock exchange. Level II ADRs
trade on the major stock exchanges and must meet exchange listing requirements.
Level III ADRs trade on one of the major exchanges, and they are also issue to raise
capital in the U.S.

5. How have global stock markets adjusted to competitive pressure from global
investors?
Stock markets globally have increased cross-listing where companies list their shares
on several exchanges in the world. Some exchanges have merged with others.
Finally, others have demutualized, meaning they have converted from nonprofit to
for-profit investor owned exchanges.

6. What are the most import characteristics of foreign securities that lead to
diversification benefits?
Foreign securities involve claims on assets in economies whose cycles are not
perfectly in phase with the U.S. economic cycle. By contract, U.S. companies are
subject to the same cyclical fluctuations. Movements in U.S. and non-U.S. stocks
cancel each other out for the most part.
Essay question:
1) In deciding where to invest your money, you read that Italy looks like it's well
positioned to capitalize on the opening of Central Europe, especially since many of
the countries joined Italy in the European Union. But the U.K. is experiencing weak
growth high interest rates, and high inflation. Which of the two countries would be
more attractive to invest in? Explain.
Answer: Rational investors will already have factored these expectations into the
prices of assets in these countries. As events diverge from the expected, stock prices
will adjust to reflect the new expectations so that at any point in time the expected
risk-adjusted return from investing in different countries and assets will be the same.
And the fact that the risks noted in the question are likely to be uncorrelated with
each other, especially the U.K. and Central Europe, should increase the
diversification benefits from the investment in both the U.K. and the Central
European nations.
2) As more global investors shift investment funds to emerging markets, what factors
will drive expected returns?
Answer: In the past most foreign investors have avoided emerging markets for many
reasons, most notably, because of government regulations, restrictions on foreign
investments, high transactions costs and significant political risk associated with the
markets. As a result, the markets have been segmented and expected returns
lowered by the specific risks of the markets. As U.S. and other global investors
become more sophisticated in their dealings with emerging markets, the expected
returns in these markets will be based more on the contribution of the markets to
the systematic risk of the globally-diversified portfolio. The initial impact on prices
will be a price jump as expected future cash flows get capitalized at a lower rate. This
will mean future lower expected returns from investing in emerging markets.

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