INTRODUCTION TO FINANCIAL ENGINEERING

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Introduction ‡ What is Finance? ‡ What is Financial Engineering? 2 .

What is Finance ‡ Finance is about the bottom line of business activities ‡ Every business is a process of acquiring and disposing assets ± Real asset ±tangible and intangible ± Financial assets ‡ Objectives of business ± Valuation of assets ± Management of assets ‡ Valuation is the central issue of finance 3 .

Financial Economics Return / Risk Allocation Corporate Finance Investments (Capital Markets) Money Control Commercial Banking Non-Bank Financial Liquidity Sector 4 . Finance Monetary Economics Money / Credit Creation Money & Banking Central Bank International Finance vs.Money vs.

What is Finance? ‡ Money & Banking ² Monetary Economics ‡ International Finance ² International Economics 5 .

Multinational Corporate Finance Financial Engineering International Financial Market Corporate Finance Capital Market (Investments) Financial Economics 6 .

the development. and the implementation of innovative financial instruments and processes. 7 . ‡ Specializing: Financial Engineering is risk management via creative structural tools. and the formulation of creative solutions to problems in finance.What is Financial Engineering? ‡ Generalizing: Financial Engineering involves the design.

Unifying Principles of Finance ‡ ‡ ‡ ‡ No arbitrage Preference Optimization Market in equilibrium 8 .

Principle of Financial Engineering ‡ No arbitrage ‡ Market in equilibrium ‡ Preference ‡ Optimization ‡ Principles of Financial Engineering ‡ Principles of Finance 9 .

Unifying Equation of Valuation ‡ P=E(mx) ± Where m is state-dependent discount factor ± X is the state dependent payoff (cash flow) ‡ Consequence of no arbitrage equilibrium ± Conservation law of value of cash flow: the whole is equal to the sum of components ± Composition and de-composition of cash flow 10 .

FINANCE F.E.T. ENGINEERING 11 . I.