Free cashflow means cashflows generated by a company in excess of all its operating and investing needs. It’s not free in the sense of “costless”, rather it’s available for distribution to capital owners, or for re-investment in the business. * … Continued
This page brings together a number of posts that I call key financial concepts. Each is explained simply for non-experts, mostly without any diagrams or equations. They are intended to be helpful to students or anybody just curious about finance. … Continued
A key question in corporate finance is, how should companies decide when to invest the funds at their disposal? The best answer provided by financial economics is to use the net present value (NPV) rule. Here I want to show … Continued
The two foundational concepts in financial economics are: i) risk and return tend to go together, which we explore here; and ii) diversification is a good thing. * The old European proverb, don’t put all your eggs in one basket, captures the benefits … Continued
There are two basic, common-sense principles at the heart of finance theory. The first is that risk and return tend to go together, in other words, if somebody offers you an investment which promises to be both low risk and high return there’s probably something wrong with it. And the second … Continued
The cost of equity is the return that equity investors need to be paid, or to expect to be paid, as compensation for bearing equity risk. That’s the the systemic, undiversifiable risk risk you have to bear if you hold a well-diversified equity portfolio,. It’s a … Continued
A key concept in the theory of finance is the risk-free rate of interest, a rate that an investor can achieve at zero risk of a loss. It is the minimum return to compare with the higher expected returns on … Continued
Bubbles are an enduring feature of financial and commodity markets. But it is when they are driven by debt that their bursting becomes dangerous * The best book I’ve read on financial bubbles is William Quinn and John D. Turner’s … Continued
Real assets are the assets that companies seek to acquire, to build and to invest in. Financial assets are the resources that they raise to allow that to happen. The distinction underpins what we call corporate finance – the financing of corporations. * When economists … Continued
A particular case of asymmetric information is where one person, who we call the principal, wants to get another person, who we call the agent, to do something on their behalf. This situation is known as the principal-agent problem, or more simply … Continued
Asymmetric information is where two people doing business together have different levels of information about something important to the transaction, meaning that one may be able to take advantage of the other. It is very common in economic life. * Information is … Continued
Ahead of teaching corporate finance each year, I like to try to explain what a corporation actually is. * A corporation is a particular way of organising economic activities. What is called a corporation in the US is called a … Continued
Climate change is a systematic risk * In the standard theory of portfolio diversification, we divide risk into systematic and idiosyncratic or diversifiable risk. We argue that idiosyncratic risks can be diversified away, so there is no market reward for … Continued
Each year on the Master of Finance core course on Financial Institutions and Markets, I do a session on the Great Financial Crisis of 2007-09. One thing I emphasise is the many different causes of this highly influential event, which … Continued
Debt rating agencies have no particular expertise or special information on sovereign debt, especially for developed economies, so their views don’t matter * News that Fitch downgraded the US sovereign debt rating from AAA (the highest rating) to AA+ (the … Continued