Financial Instruments and Markets: A Casebook

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Introduction

This book contains material for a case-based course on financial instruments and markets. It covers the basics of financial instruments from terminology to pricing, and the markets in which these instruments trade, both organized exchanges (physical and electronic) and Over-the-Counter (OTC) markets. The securities covered in this book run the gamut of securities encountered in the financial markets, but the focus is on fixed income and derivative securities. Using real-life examples (the fundament for the case-based method), the main theme that runs throughout this book is how these securities accomplish risk transfer from actors who do not want risk to those who are willing to take it on—for a fee of course. The other main themes of this book are how to structure these risk transfers in a way that is efficient (from a tax, regulatory, etc. perspective) and how to price the risk transfers (including consideration of such frictions as liquidity risk) to arrive at a fair fee.

The book stems from a number of courses taught by the authors at the MBA and Executive Education levels at Harvard Business School (HBS), including Corporate Financial Engineering and Capital Markets.¹ The prerequisite for these courses is normally an introductory corporate finance course and an introductory investments course. These more basic courses should have covered the fundamentals of fixed-income mathematics, such as the definition and calculation of yield to maturity, and basic options ...