The Economics of Financial Markets presents a concise overview of capital
markets, suitable for advanced undergraduates and for embarking graduate students
in financial economics. Following a brief overview of financial markets – their
microstructure and the randomness of stock market prices – this textbook explores
how the economics of uncertainty can be applied to financial decision making.
The mean-variance model of portfolio selection is discussed in detail, with analysis
extended to the capital asset pricing model (CAPM). Arbitrage plays a pivotal
role in finance and is studied in a variety of contexts, including the arbitrage
pricing theory (APT) model of asset prices. Methods for the empirical evaluation
of the CAPM and APT are also discussed, together with the volatility of asset
prices, the intertemporal CAPM and the equity premium puzzle. An analysis
of bond contracts leads into an assessment of theories of the term structure of
interest rates. Finally, financial derivatives are explored, focusing on futures and
options contracts.