Assignment 10 - Inv. Mgmt: Income Generation Flashcards
- type of cash-equivalents
- $-denominated acct or CD issued by branches of foreign banks in the U.S.
yankee CD
- type of inv. comp. that invests in a fixed portf. of securities, w/ a stated date for termination
- generally buy/hold a relatively fixed portf. of stks, bonds or other securities
- not actively managed
- expenses are low due to low turnover of inv.
- most have been municipal bond funds
unit investment trust (UIT)
- type of cash-equivalents
- $-denominated accts or CDs in Europe that are issued by foreign banks or foreign branches of U.S. banks
eurodollars
- type of guaranteed principal fixed income inv.
- fixed income inv. provided under a contract w/ a life ins. company or other fin. instit. where the issuer guarantees the P&I of the fund for a specified period
- relies on the fin. soundness of the issuer providing the guarantee
stable value funds
- bonds purchased in the open mkt after issuance at a price less than the face amt (sold at a discount)
- includes any kind of bond
- int. pd is still based on face amt
market discount bonds
total return from a bond over time is…..
mkt price at end of the period
minus
mkt price at beginning of the period
plus
interest paid
bond purchased at PAR is…..
mkt price of bond = value at maturity
- bonds issued at price less than face amt of the bond
- DO NOT pay interest
- bonds are issued at signif. discounts to the par value of the bond = risk of receiving no int. pmts
Original Issue Discount (OID) Bonds
also - zero coupon bonds or zeros
- bonds purchased in the open mkt after issuance at a price greater than the face amt of the bond
- investor pays more than the face amt for the bond rather than paying less than the face amt
bonds purchased at a premium
- bonds issued by private corps
- based upon the creditworthiness of the company upon which they are based
- can be called, or redeemed, prior to maturity
- inv. income is taxable
corporate bonds
- type of corporate bond
- backed by the full credit of the corp.
- 1st claim on all assets
debentures
corp. bonds which have a claim on corp. assets after senior debentures
subordinated debentures
- bond issued by a local gov’t or their agencies
- int. pmts are tax-exempt
- callable
- highly rated - just under US gov’t bonds
municipal bonds
(3) pillars of taxibility for municipal bonds
- int. on public-purpose municipals remains completely tax-free
- int. on tax-exempt private-activity municipals is exempt from regular Fed’l income taxation
- int. on taxable private-activity municipals is fully taxable for Fed’l income tax purposes (very few have been issued)
types of municipal bonds
- general obligation bonds
- special tax bonds
- revenue bonds
- housing authority bonds
- industrial development bonds
- type of municipal bond
- secured by the full faith, credit and taxing power of the issuing state or municipality
- usually offer a high state of security
general obligation bonds
- type of municipal bond
- payable only from the proceeds of a single tax, a series of taxes, or some other specific source of revenue
special tax bonds
- type of municipal bond
- issued to fin. projects such as electrical facilities, hospitals, bridges, and expressways
- payable only from the revenues produced by the projects they are financing
revenue bonds
- type of municipal bond
- issued at the local level to finance the construction of low-rent housing projects.
- top-quality inv.
- secured by the Fed’l Housing Assistance Admin.
Housing Authority Bonds
- type of municipal bond
- secured by lease pmts made by industrial companies occupying or using the facilities that the bonds finance
industrial development bonds
U.S Gov’t / Treasury Bonds….
- not callable
- taxable for Fed’l income tax
- exempt from state/local taxes
- int/coupon rate = taxable as oridnary int. income
- any cap gains realized = taxable as ordinary income
- inflation guard = treasury inflation-protected securities (TIPS)
types of treasury bonds
- T-bills
- T-notes
- T-bonds
- type of cash-equivalents
- treasury bond
- highly liquid
- issued on a discount basis
- redeemed at face value when mature
- maturity = 13 weeks, 26 weeks, and 52 weeks
T-Bills
- type of treasury bonds
- maturies from 1-10 yrs
- issued at/near par
- int. is paid semi-annually
T-Notes
- type of treasury bonds
- longer maturity periods = 10+ years
- issued at/near par
- int. pd semi-annually
T-Bonds
registered non-callable securities
U.S. Savings Bonds
types of U.S. Savings Bonds
- Series EE
- Series I
- type of U.S. Savings Bonds
- sold in face-volume denominations of $50-$10,000 w/ the purchase price of paper bonds at 50% of face amt, paying no int.
Series EE
- type of U.S. Savings Bonds
- sold at face amt and accrue earnings at a composite rate consisting of a fixed rate and an inflation rate until they are redeemed or mature in 30 yrs.
- taxed on difference b/w purchase price and the redemption value as ordinary int. income
Series I
- investor participates in a pool of mortgages whereby the investor receives a certificate denominating his int. in the pool
- P&I - returned to inv. each month
- i/r risk - if rates drop, borrowers will refinance mortgages at lower rates (decreases income to investors)
- reinvested pmts will produce lower income b/c they will be at lower rates.
pass-through or morgage and asset-backed securities
(Ginnie Mae)
types of pass-through or morgage and asset-backed securities
- mortgage-backed securities
- asset-backed securities
- collateralized mortgage obligations
- collateralized debt obligations
- equity capital of a corporation
- claim agasint assets of corp. follows bondholders, but precedes CS holders
- fixed divs received before common s/h
- corps can’t deduct from corp. income tax
- no voting rights (usually)
- can be converted into CS
preferred stock
- type of guaranteed principal fixed income inv.
- int.-bearing, redeemable evidences of time deposits issued and sold through banks
- sold in different amts w/ periods of few months to over a decade
- i/r - fixed (higher rates = higher periods)
- int. penalty for early w/drawal (penalty is deductible)
- int. pd is fully taxable as ordinary int. income
traditional CDs
example of Liquid Assets
- s/t CDs
- bank savings accts
- MMFs
- T-Bills
adv. of MF’s
- higher levels of disversification (for all types of investors - lg, sm, skilled, unskilled)
- prof. investors can easily select their own inv.
- convenience and ready mktability through funds; obs to redeem shares
- reasonable inv. unit sizes for small investors
- convenience for inv., reinv., and liquidation of assets
disadv. of MF’s
- servicing expenses are a portion of the offering
- fund must align w/ an investor’s objectives, which may not always happen
- cap gains are treated as pass-throughs, and an investor cannot control these
- may not need prof. advice but paying for it
- type of MF
- # of outstanding shares of inv. are not fixed
- constantly changing as investors obtain and liquidate assets
- purchase these funds from the fund and when they sell them, they prepare to buy them back.
- pricing is based on the most recent Net Asset Value (NAV)
open-end mutual funds
Net Asset Value (NAV)
(total value of all assets in fund - fund liabilities)
_ _
outstanding shares
- type of MF
- issue a fixed # of shares, which does not fluctuate except as new stk is issued
- shares of these funds are bought/sold on open mkt (supply and demand)
closed-end MFs
level loads; annual sales fees taken against MF assets to reimburse the MF for distrib and servicing costs
12b-1 Fees
sales charge declines due to previous fund purchases.
form of volume discount taken historical purchases into consideration
accumulation discount
(right of accumulation)
contingent-deferred sales fees, low-loads, which charge fees if shares are redeemed w/in a few yrs of purch. or at any time
fees may or may not decline over time
back-end load
- type of cash-equivalents
- time drafts usually used to finance internat’l trade that are guaranteed by a bank
banker’s acceptances
- hedging by buying ONLY bonds w/ durations in the form of short maturities and long maturities
- hope is that any i/r scenario that negatively impacts one duration will not impact the other
Barbell Strategy
the purch. price at which the %age sales charge declines
occurs when an investor makes larger-$ purchases
breakpoints
- type of cash-equivalents
- s/t, unsecured loans made to creditworthy corps.
- often purchasd by MMMFs
commercial paper
- provide the security of a bond or a PS, but also provides an opportunity for cap. appreciation through anticipated appreciation of underlying CS
- gives holder right to convert into a certian # of shares of CS at a predetermined price for CS
- callable
- cost is the difference b/w yield on a convertible versus a non-convertible security
convertible bonds
where an investor pays the sales charge for an open-end fund when purchasing shares
front-end load
inv. mgmt and other expenses expressed as a %age of the fund’s net assets
charged by both load and no-load MFs
expense ratio
- type of guaranteed principal fixed income inv.
- the CVs of guaranteed-$ life ins. contracts can be viewed as guaranteed princ. fixed income inv.
guaranteed-$ life ins. CVs
or guaranteed-$ annuity CV
bonds w/ ratings below inv. grad (belwo the top 4 ratings of a ratings agency)
generally have higher yields than safer, higher-rated fixed income inv.
junk bonds
diversify a bond portf. w/ bonds of different maturity lengths
laddering
these promise the investor a stated amt of income periodically and in most cases they also promise to pay the face amt of the inv. at its maturity date
fixed income investments
tax treatment of the following bond items:
- current int. paid (state int or coupon rate)
- mkt discount
- original issue disc. (OID)
- premium price pd for bond
- earnings from bond sole or redeemed prior to maturity in excess of basis
- current int. paid (state int or coupon rate) - ordinary int. income
- mkt discount - ordinary income
- original issue disc. (OID) - ordinary income
- premium price pd for bond - amortize premium over remaining life of bond would reduce otherwise taxable int. on the bond or as an itemized ded.
- earnings from bond sole or redeemed prior to maturity in excess of basis - excess amt of basis is taxable as cap gains
an indiv. whose marginal tax rate is 31% is considering buying a public-purpose miunicipal w/ a yield of 5.5% and a corporate bond w/ a yield of 7%.
Which of the 2 inv. would provide higher A/T yield?
since int. from public-pupose municipal is exempt from Fed’l income tax, the after-tax return from the municipal bond is 5.5%
the A/T return on the corporate bond is .07(1-.31) = 4.38%
bond yield (1-marginal tax rate) = A/T return
therefore, the investor will receive a higher A/T return w/ the municipal bond.
a note that pays a fixed i/r that is applied to a principals amt that is adj’d periodically for inflation or deflation based on an adj’d consumer price index
inflation-indexed T-Note
tax status of zero-coupon bonds
- annual amt of accrued OID is currently taxable to owner as oridnary int. income for fed’l income tax purposes (even if no cash income from the bonds is received)
taxable vs. tax-exempt
zero coupon bonds
- taxable: since int. is accrued and subj to taxation, these are usually held in tax-protected vehicles such as IRAs, qualified retirement accts, variable annuities, variable life insurance since this taxable income is not taxed currently.
- tax-exempt: since accrued OID is not included in gross income, investors will hold them directly
- this type of CD is NOT redeemable before maturity.
- can be traded before maturity on to the secondary mkt
- if sold before maturity - value received may be less or more than the initial face amt (purchase price) depending on the mkt i/r
- similar bonds - full-face amt is payable at maturity
- issued by banks but usually sold through inv. firms
negotiable CD
- type of guaranteed principal fixed income inv.
- highly liquid and are financially secur
- s/t maturities
- lower yield
cash-equivalents
types of cash-equivalents
- s/t CDs
- bank savings accts
- MMFs
- T-bills
- comm. paper
- banker’s acceptances
- Eurodollars
- Yankee CDs
(3) kinds of inv. companies
- those that sell face-amt certificates - where issuer promises to pay investor a stated amt
- unit investment trusts - fund invests in a fixed portf. of securities
- mgmt companies
