15.415 FINANCE THEORY

Course Syllabus

Course Description

This course covers modern capital market theory and its applications to corporate finance.

Textbooks

Required: Brealey and Myers, Principles of Corporate Finance, 5th ed., McGraw Hill.
Recommended: Bodie, Kane, and Marcus, Investments, 3rd ed., Irwin.
The Wall Street Journal.

Course Requirements

Problem Sets: There are 11 problem sets. Problem sets can be done on an individual or group basis. A group can contain at most 3 students. The problem sets are due at the beginning of class on their due dates. Late problem sets are not accepted. To do some problem sets you will need to get information from the Wall Street Journal. For some problem sets knowledge of a spreadsheet software such as Excel will be very useful.
Exams: There is a midterm and a final exam. Both exams are closed book, but it is allowed to bring one (two-sided) sheet of notes for the midterm and two sheets for the final.
The course grade is determined by a 15/35/50\% weighting on problem sets/midterm/final.

Lectures

Lectures are in room E25-111 on Mondays and Wednesdays from 12:00 to 2:00 (Professor Vayanos) and 2:00-4:00 (Professor Willard). Attendance is mandatory.

Recitations

Recitations are on Fridays from 2:30 to 4:00. The room is TBA. The TA is Li Jin. Attendance is not mandatory.

Office Hours

Professor Vayanos has office hours on Tuesdays from 3:30 to 5:00 at room E52-437. Professor Willard has office hours on Tuesdays from 3:30 to 5:00 at room E52-436. Li Jin has office hours on Tuesdays from 1:00 to 2:30 at room E52-442.

Secretary

Madeleine Um, E52-430, 253-9747.

Course Outline

The lecture dates are approximate. The readings from Brealey-Myers (BM) are required,
and the readings from Bodie, Kane, and Marcus (BKM) are recommended but not required.

September 3	Introduction Corporate financial decisions, overview of the course Read: BM Chapter 1; BKM Chapters 1-4
September 8	Present Values Time value of money, net present value, future value, perpetuities, annuities, compounding Read: {BM Chapters 2, 3 (3.1-3.4)
September 10	Capital Budgeting under Certainty Net present value, payback, internal rate of return Read: BM Chapter 5
September 15	Valuation of Fixed-Income Securities I Discount bonds, term structure of interest rates, forward interest rates, coupon bonds, bootstrapping spot rates Read: BM Chapters 3 (3.5), 23 (23.1, 23.2); BKM Chapters 13, 14
September 17	Valuation of Fixed-Income Securities II Duration and interest-rate risk Read: BM Chapter 23 (23.3); BKM Chapter 15
September 24	Valuation of Fixed-Income Securities III Theories of the term structure, corporate and municipal bonds Read: BM Chapters 23 (23.4, 23.5), 24; BKM Chapters 13, 14
September 29	Valuation of Common Stocks Discounted cash flow model, price-earnings ratios Read: BM Chapter 4; BKM Chapters 17, 18
October 1	Measuring Risk Variance, covariance, beta, historical returns Read: BM Chapter 7
October 6	Portfolio Theory Diversification, portfolio theory, aggregate vs. idiosyncratic risk Read: BM Chapters 7, 8 (8.1); BKM Chapters 5, 6, 7
October 8	The Capital Asset Pricing Model (CAPM) Derivation of the CAPM Read: BM Chapter 8 (8.2, 8.3, 8.5); BKM Chapters 8, 9
October 15	Capital Budgeting under Uncertainty Risk-adjusted discount rates, measuring betas Read: BM Chapter 9
October 20	Other Applications of the CAPM Required rate of return, performance evaluation, is $\beta$ dead? Read: BM Chapters 8 (8.4), 9; BKM Chapters 10, 11, 24
October 22	Market Efficiency Notions of market efficiency, tests of market efficiency, implications of market efficiency Read: BM Chapter 13; BKM Chapter 12
October 27	Midterm Exam
October 29	Capital Structure I Debt vs. equity, MM theorem Read: BM Chapter 17, UST
November 3	Capital Structure II Taxes and bankruptcy costs, agency and information costs Read: BM Chapter 18
November 5	Valuation I WACC and APV methods Read: BM Chapter 19
November 12	Valuation II Valuation in practice Read: American Chemical
November 17	Valuation III Valuation in practice Read: American Chemical
November 19	Derivatives I Examples of derivatives, trading strategies involving derivatives, uses of derivatives Read: BM Chapters 20 (20.1), 25 (25.1-25.3); BKM Chapters 19, 21, 22
November 24	Derivatives II Forward and futures prices, arbitrage relations for call and put prices Read: BM Chapters 20 (20.2), 25 (25.2, 25.3); BKM Chapters 19, 21, 22
November 26	Derivatives III The binomial option pricing model, dynamic replicating strategies Read: BM Chapter 20 (20.3, 20.4); BKM Chapter 20
December 1	Derivatives IV The Black-Scholes model, pricing exotic options Read: BM Chapter 20 (20.5, 20.6); BKM Chapter 20
December 3	International Finance I Exchange rates, interest rate parity, forward rates, hedging Read: BM Chapter 34 (34.1-34.3); BKM Chapter 26
December 8	International Finance II Capital Budgeting in an International Setting Read: BM Chapter 34 (34.4-34.9)
December 10	Wrap-up and Review

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Created by Leonid Kogan, September 2, 1997.