Running Head: FINANCIAL TAXONOMY

Financial Taxonomy 1

Running head: FINANCIAL TAXONOMY

Financial Taxonomy

Ed Jennings

University of Phoenix

Financial Taxonomy 1

Financial Taxonomy

Table 1

Financial Theory Taxonomy

Financial
Theory / Primary
Author/Source / Time
Frame / Description of Theory
Capital Structure
Dividend Policy
Agency Cost
Resourceful, Evaluative, Maximizing,
Model / Modigliani & Miller
Modigliani & Miller
Jensen & Meckling
Jensen & Meckling / 1950-1960’s
1950-1960’s
1976
1994 / There is no material effect on stock price, regardless of whether the operation is funded with debt or equity. The applicability is not taking into account the funding of an equity when evaluating the stock price (Chew, 2001).
There is no material effect on the market value of the stock price, regardless of whether a dividend is paid or not. When evaluating a stock price, the dividend is accounted for in the price (Chew, 2001).
Ownership and control of the company cannot diverge too far in their interests or there will be a potential loss in value of the company. When evaluating a company, it is important to access the goals of the management with the goals of the stockholders (Chew, 2001).
The rational part of human behavior attempts to draw all of the interested parties together and focus on common interests. This serves as the model for organizational, financial and governance of the corporation. This is also useful in evaluating the goals of management and comparing the goals of the stockholder. The closer the goal, the less likely for a potential loss in value due to disparate goals (Chew, 2001).
The Theory of Stock Market Efficiency: Accomplishments and Limitations / Ball & Brown / 1968 / Ball and Brown conducted the first studies in stock market efficiency by looking at investor’s reaction to the release of corporate financial statement information. The market has a keen ability to process information directly and creatively, in a rationale manner.
However, there are anomalies in which the market overreacts to certain market conditions (Chew, 2001).
Capital Asset Pricing Model / Sharpe & Lintner / 1964 / A method used to determine an appropriate level of return on the investment of an asset, given the risk of that asset. The formula takes into account the sensitivity of risk or beta of the asset. Additionally, the expected return of the market and the expected return of the asset without risk are also taken into account. An investor has a risk reward tradeoff in which a higher risk is expected to yield a higher return (MacDonald, 2003).
Options Pricing Model / Black & Scholes / 1973 / A model used to determine the fair price of options. Input includes: price; length of time; volatility; and the free rate of return (Baril, Betancourt, & Briggs, 2005).
Dividend Discount Model
Diamond Model / Gordon
Porter / 1962
1990 / This stock valuation tool shows the present value of future dividends that a company expects to pay. This tool helps to estimate if a current stock is over or undervalued (Borgman & Strong, 2006).
Porter outlines the concepts of clusters. These clusters or groups are interconnected firms, suppliers, and institutions that arise in particular locations. This is very prominent in Japan, South Korea, Hong Kong, Taiwan, and Thailand among others. The theory outlines 4 advanced factors which occur within these interlinked companies. These factors can also be influenced by the government (Porter, 1990).
Theory of capital flight in the context of portfolio choice
Coase Theorem
Random Walk Theory
Three-Factor Asset Pricing Model / Collier, Hoeffler, and Pattillo
Coase
Fama
Fama & French / 2001
1960
1965
1992 / Investors will hold their assets between domestic and international markets based on risk and rate of return (Collier, Hoeffler, & Pattillo, 2001).
In the absence of transaction costs, private parties will bargain to make the government allocation of property rights equally efficient. More recently, the government has auctioned off radio spectrum. If one buyer needs more spectrum in the absence of transaction costs, private parties can make a deal in which the value of the radio spectrum reaches its’ value (Halteman, 2005).
Information is available to all investors inexpensively. Buyers and sellers negotiate the best price. Prices will change in the future as new information become available. Therefore, it is impossible to gain greater than market returns without taking greater than market risks (Fama, 1995).
A tool which is used for asset allocation and the performance of portfolio management. In this theory, market size, value factors in returns and the subsequent improvement in the Sharpe CAPM model, comprise the Three-Factor Asset Pricing Model (Black, 2006).

References

Baril, C. P., Betancourt, L., & Briggs, J. (2005). How to Excel at Options Valuation. Journal of Accountancy, 200, 57-64. Retrieved January 8, 2007, from

Black, A. (2006). Macroeconomic risk and the Fama-French three-factor model. Managerial Finance, 32, 505. Retrieved January 8, 2007, from

Borgman, R. H., & Strong, R. A. (2006). Growth Rate and Implied Beta: Interaction of Cost of Capital Models. Journal of Business and Economic Studies, 12. Retrieved January 8, 2007, from

Chew, D. H. (2001). The New Corporate Finance. New York, New York: Irwin.

Collier, P., Hoeffler, A., & Pattillo, C. (2001). Flight Capital as a Portfolio Choice. The World Bank Economic Review, 15, 55-81. Retrieved January 8, 2007, from

Fama, E. F. (1995). Random walks in stock market prices. Financial Analysts Journal, 51, 75-81. Retrieved January 8, 2007, from

Halteman, J. (2005). Externalities and the Coase Theorem: A Diagrammatic Presentation. Journal of Economic Education, 36, 385-391. Retrieved January 8, 2007, from

Macdonald, J. F. (2003). A Capital Asset Pricing Model with Variable Asset Supply. Review of Accounting & Finance, 2, 5. Retrieved January 8, 2007, from

Porter, M. E. (1990). The Competitive Advantage of Nations. New York, New York: Free Press.