INTERNATIONAL FINANCIAL MARKETS

Lecture Notes

Jiří Witzany

Oeconomia, 180 pages, VŠE Praue, 2007, ISBN 978-80-245-1274-7

CONTENTS

Preface 5

1. Introduction 6

1.1 Overview and main participants of International Financial Markets 6

1.2 Classification of Financial Markets and Instruments 8

2. Foreign Exchange Markets 10

2.1 Why Foreign Exchange? 10

2.2 Basic FX Instruments 11

2.3 Currency Risk Management 22

2.4 Exchange Rate Determination 25

3. Bond Markets 36

3.1 Money Market 36

3.2 Global Bond markets 40

3.3 Interest Rate Swaps 44

3.4 Term Structure of Interest Rates 49

3.5 Structured Notes 60

4. Equity Markets 66

4.1 International Equity Markets 67

4.2 Stock Market Indexes 73

4.3 Investing in Foreign Shares 76

4.4 Valuation of International Stocks 80

4.5 Country Risk Analysis 89

5. Derivatives and Other Investments 91

5.2 Options 111

5.3 Other Derivatives 127

5.4 Alternative Investments 132

6. International Financial Institutions 138

6.1 Global Investment Industry 138

6.2 Intergovernmental Financial Institutions 141

7. International Asset Diversification 149

7.1 Risk and Return 149

7.2 Capital Asset Pricing Model (CAPM) 156

7.3 International Capital Asset Pricing Model (ICAPM) 163

7.4 International Asset Diversification 170

Bibliography 178

Internet Resources 179

PREFACE

The aim of this text is to provide an English written and financially accessible introductory material for students attending the courses International Financial Markets (1BP425), International Investments (BP601), or Financial Derivatives (1BP426) at the University of Economics in Prague. After an overview of the financial markets the text describes the foreign exchange markets, equity, bond, derivatives, and alternative assets markets. An emphasis is given to the foreign exchange markets and their importance in international investments analysis of risk and expected return. The textbook also includes an overview of the most important inter-governmental financial intuitions and of the key players in the global investment process. I believe that the lecture notes remain quite elementary, maybe with the exception of the chapters on derivatives and international asset diversification. The more technically difficult parts can be skipped by the International Financial Markets students but may be more interesting for the students attending the course on Financial Derivatives. Czech speaking students are advised to use also the other Czech written textbooks on financial markets and derivatives that go into more details in many of the topics, in particular Musílek [8,9], Durčáková-Mandel [2], Jílek [5], Dvořák [1], or Krabec [6]. International students may use for example Solnik [11], Shapiro [10], Hull [3], or Elton [4]. I would like to express my gratitude to the reviewers, ing. Karel Brůna, Ph.D. and ing. Radek Pluhař, Ph.D. whose comments have helped to improve the quality of the text significantly. I will welcome any further remarks or recommendations sent to my e-mail address witzanyj@vse.cz.

Jiří Witzany

Prague, November 2007