Session 3 - Class Notes - Regulation on Capital Markets

Session 3 - Class Notes - Regulation on Capital Markets -...

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Class 3: Regulation of Capital Markets  Hye Sun Chang ACCY 303  
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Outlines • Information asymmetry of the capital  market. • Regulation of the capital market. •  Janet O’Brien case.
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The Capital Market • Products of the capital market – Bond (Debt) – Stock (Equity) – Other financial derivatives (e.g., Options) • Characteristics of financial products – Risky – Complex
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Information Asymmetry in the Capital  Market • Economy relies on the capital market for the optimal  allocation of savings to investment opportunities.  • Information asymmetry is serious in the capital  market. – Entrepreneurs typically have better information than  savers about the value of business investment  opportunities --- selective disclosure. – Entrepreneurs communications with investors are not  completely credible because investors know  entrepreneurs have an incentive to inflate the value of  their ideas --- false disclosure. 
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An Example of Information  Asymmetry in Capital Market  • Consider a situation where one group of firms are  ‘good’ (with a positive value) and the other group of  firms are ‘bad’ (with a negative value). Suppose  investors have extra money and want to buy ‘good’  firms. But, the ‘bad’ firms will try to claim that they  are ‘good’ firms. Suppose investors cannot  distinguish between the two groups of firms, What  will happen?
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