Syllabus ECON 4333: Financial Economics II Semester 1, 2013/14

Instructor: Denis Tkachenko Lecture Time and Room: Thursday 9am-12pm, AS2-0312 (Lim Tay Boh Seminar Room) Instructors Email: ecstd@nus.edu.sg Office: AS2 05-34 Office Hours: Monday 2-4pm, or by appointment

Course Description: This is a second course in financial economics. The focus of the course is on understanding and mastering the fundamental economic underpinnings of valuation of three types of securities: fixed-income (bonds), stocks, and derivative securities such as options and futures. Some topics that will be covered in this course include: basic concepts of time value of money and valuation of fixed-income instruments, term structure models, hedging interest rate risks, expected utility theory, mean-variance portfolio selection, capital asset pricing model, introductory continuous time finance, option valuation models. The students are expected to have acquired basic knowledge of financial markets at the level of EC3333 Financial Economics I. The course is quantitative by nature and will involve empirical applications of techniques and concepts learned in the course through the group project on the relevant topic of students choice. Use of Computers: Being able to apply theoretical knowledge to real world data is an important skill. Students will be expected to use some software package they are familiar with to complete the group project (e.g., Excel, Stata, EViews etc.). Students can access Stata and EViews in the computer labs in AS7. Recommended Texts: There is no single text that covers the course material appropriately. The three recommended texts dealing with the three broad topics are as follows: Martellini, L., Priaulet, P. and Priaulet, S.: Fixed-Income Securities: Valuation, Risk Management and Portfolio Strategies, Wiley, 2003. (M) Elton, E., Gruber, M. J., Brown, S. J., and Goetzmann, W. N.: Modern Portfolio Theory and Investment Analysis (8th international edition), Wiley, 2011. (EG) Hull, J. C.: Options, Futures, and Other Derivatives (8th Global edition), Pearson, 2012. (H)

All books should be available in the Forum NUS Co-op bookstore. Note that (M) is available as the e-book on the NUS library webpage (search for E-resources - books). I would recommend the purchase of 1 or 2 books based on the main interest(s) of the student: (M) provides an excellent treatment of fixed-income securities, (EG) has more focus on stock pricing and portfolio management, while (H) provides a good treatment of pricing of various derivatives. Earlier editions of (EG) and (H) may potentially be used. However, there were numerous revisions to examples and some material, and some changes in chapter numbering so the onus will be on the student to locate the relevant material when using older editions. Assessment: The weights for continuous assessment and exams are as follows: Homeworks and tutorial presentations: 20% Group Project: 20% (a group presentation of 15-20 minutes to be held in weeks 12 and 13) Midterm exam: 30% (October 3rd, 9am) Final exam: 30% (November 30th, 1pm) Homework: There will be two graded homework assignments, as well as tutorial questions that students will be asked to present in class. Completed homework assignments are to be handed in on the day and at the specified time they are due. After the time specified in the deadline it will be considered late. NO late homework will be accepted. There will be NO exceptions to this policy, other than certified religious or medical excuses. Group Work: The students are encouraged to collaborate on the problem sets in groups. The minimum group size is 2, the maximum is 4. You can finish the problem sets independently if you want. Remember, however, that group work allows you to learn from each other and discover alternative approaches to the same problem. The key to effective group work lies in collaborating on all assigned problems, not just splitting them among group members. All group members should submit their own copy of the homework, and clearly indicate the names/matric numbers of the groupmates they worked with. Group project: The idea is to get hands-on experience with applying material learnt in the course to data and practice research work and writing on small scale. Students will work in groups of 3-4 people. The choice of the topic is free and up to the student, but has to be relevant to the course. Some guidance regarding topics, material references, data sources etc. will be provided. The key to success in the project is to start thinking about a topic early (not 1 day before the deadline), work on a small well-defined task of interest (e.g., check whether certain form of CAPM holds for Singapore stock exchange). The deadline for the project will be Wednesday of Week 12. The deadline for project proposal (brief description of topic, data, and methods to be used) will be set around Week 9-10 (TBA). The group will produce a writeup of results, and present the findings in class. We will discuss more details on the project in class. Elearning week: Note week 5 is the mandatory ELearning week, so there will be no class on September 12th. The lecture will be screencasted and uploaded to IVLE. I will talk about it more closer to the date.

Exams: There will be one midterm exam, and a cumulative final exam. Arrangements to reschedule an exam must be made at the very least 48 hours prior to the exam date and time. There will be no make-up for the final exam. Both exams will be open-book. Feedback: You are highly encouraged to provide me with feedback as we progress through the course. You can come to my office hours, email me, leave anonymous feedback on IVLE, or post suggestions or requests on the EC4333 forum through IVLE.

Email Policy: I will NOT answer any email questions pertaining to the course material. Instead, these questions should be posted on the IVLE forum so that everyone can benefit from the answer and have the opportunity to discuss. I usually check the forum several times a day. Please restrict the email communication to administrative and personal matters, e.g., medical certs, consultation appointments etc.

The tentative list of topics is as follows: Part 1: Fixed-Income securities ((M) Ch. 2-6, (H) Ch. 4, (EG) Ch. 21-22) Interest rates, bond yields and prices. Term structure of interest rates. Empirics vs. classical theories. Deriving zero-coupon yield curves: (extended) Nelson-Siegel and Vasicek models, numerical methods. Hedging interest rate risk: (modified) duration, convexity, factor models.

Part 2: Stock pricing and portfolio selection ((EG) Ch. 4,5,11-16) Decision making under risk Mean variance portfolio selection Equilibrium asset pricing models: CAPM, APT Empirical evaluation of various forms of CAPM and APT

Part 3: Derivative pricing: options and futures ((H) Ch. 11-14) - Review of options and trading strategies - Introduction to continuous time finance: Wiener processes, Itos lemma. - Option valuation: review of binomial trees, Black-Scholes-Merton model. - Pricing of futures and interest rate derivatives (time permitting).

Note that not all of the material in the chapters listed above will be covered. Also, some material will be drawn from additional sources such as journal articles, other books etc. Therefore, students should primarily focus on lecture notes and read the sections in the books relevant to what was covered in class. More detailed references will appear in each chapter of lecture notes.