Business VIII Flashcards
Example of problem with increasing rate of return with risk:
- if you want to double your money (and you start now) you can do so over a 10 year period by earning a 7% return.
- if you wait 8 years before you start to invest, so you have to double it in the remaining 2 years, then you have to earn 40% annually!!! (which is almost impossible without taking huge risks).
- instead of trying to get rich quickly, become comfortably well-off slowly.
What are the three factors that determine how much you have left at the end of your investment horizon?
- time
- how much you invest
- rate of return on your investment
What happens when you try it increase your rate of return?
You increase your risk.
- it’s easier to concentrate on the two factors that contribute to how much you have left at the end of your time horizon:
- time
- how much you invest
Zero-based budgeting
- A budgeting method where all expenses must be justified for each new budget cycle.
- this is in contrast to traditional types of budgeting where department managers only have to justify increases or decrease in the prior period budget
How does zero based budgeting work?
- In zero based budgeting every function is analyzed and justified from a “zero-base” as if the company was starting anew.
- from this zero-base perspective all the company’s departmental budgets are examined to see if their function contributes to the company’s needs in the upcoming period.
How is zero-based budgeting beneficial?
It forces managers to be more cost effective. It also identifies:
- budgets that have become bloated over time
- wasteful and obsolete processes
- areas where outsourcing may be a better alternative.
Downside to zero-based budgeting?
It favors departments that generate revenue over departments such as
- HR
- accounting
where the benefits are less tangible.
Same-store sales
(aka “comps”, “comparable store sales”)
A statistic used in retail industry analysis that compares:
- the sales of stores that have been open for at least one year.
Same store sales compare:
- revenues earned by a retail chain’s established outlets for a certain time period, such as fiscal quarter or on a seasonal basis, for the current period and the same period in the past (usually the same period of the previous year).
- same store sales allow investors to determine what portion of new sales has come from:
- sales growth
and what portion can be attributed to:
- the opening of new stores.
Holdings
The contents of an investment portfolio held by an individual or entity such as a mutual fund or pension.
Who manages the investment portfolio of closed-end funds?
Investment advisors.
Net interest income
The difference between the revenue that is generated from a bank’s assets and the expenses associated with paying out its liabilities.
A bank’s assets include:
- personal loans
- commercial loans
- mortgages
- securities
A bank’s liabilities are:
- customer deposits
The excess revenue that is generated from the spread between interest paid out on deposits and interest earned on assets is the “net interest income”.
What comprises over half of most banks revenues?
Net interest income.
General provisions
A balance sheet item representing funds set aside by a company to pay for losses that are anticipated to occur in the future.
For Example: a bank would set aside funds in the case of a set of questionable loans.
Risk asset
Any asset that carries a degree of risk (has a significant degree of price volatility). Such as:
- equities
- commodities
- high yield bonds
- real estate
- currencies
What is a “risk asset” in banking?
An asset owned by a bank whose value may fluctuate due to changes in:
- interest rates
- credit quality
- repayment risk, etc
Balance
1). The remainder or rest.
(Ex: “he carried what he could and left the balance for his brother to bring”)
2) . Unpaid difference represented by an excess of debits over credits.
3) . Money remaining in an account
Asset management
(aka “asset management account”)
1) . The management of a client’s investments by a financial services company, usually an investment bank. The company will invest on behalf of its clients.
2) . An account at a financial institution that includes that includes:
- checking services
- credit cards
- debit cards
- margin loans
- automatic sweep of cash balances into money market fund
- brokerage services
FI
Financial Institution
An entity that is in business to (among other things):
- accept deposits
- make loans
- exchange currency
- broker investment securities
(Not every financial institution provides all these services)
Where is the definition of Financial Institution given?
Title 31 of the United States Code (holds federal laws relating to money and finance)
Give examples of financial institutions
- Commercial banks
- credit unions
- savings and loans
- securities broker dealers
- insurance companies
Financial intermediary
An entity that acts as the middleman between two parties in a financial transaction.
Examples of financial intermediaries
- commercial banks
- investment banks
- insurance companies
- mutual funds
- pension funds
Spread
1) . The difference between the bid and ask price of a security or asset.
2) . An options position established by purchasing one option and selling another option of the same class but of a different series.
Market maker
A broker-dealer firm that accepts the risk of holding a certain number of shares of a particular security in order to facilitate trading in that security.
What do market makers actually do?
They compete for customer order flow by:
- displaying buy and sell quotations for a guaranteed number of shares.
- once an order is received, the market maker immediately sells from its own inventory and seeks an offsetting order.
Market makers example
The NASDAQ is an example of an operation of market makers.
- there are more than 500 member firms that act as Nasdaq market makers.
- these firms keep the financial markets running efficiently because they are willing to quote both bid and offer prices for an asset.
Cash liquidity
The degree to which an asset or security can be bought or sold in the market without affecting the asset’s price.
Why is cash considered the standard for liquidity?
It can most quickly and easily be converted into other assets.
Ex: Joe wants to buy a tv. He has no cash, but he has a fridge. He can’t trade the fridge for a tv. He has sell the fridge and use that money to buy a tv.
But he may have to sell the fridge at a discount (the fridge is therefore an “illiquid” asset).
Illiquid
An illiquid security or asset is one that:
- cannot be sold or exchanged for cash without substantial loss in value (you have to sell it at a discount).
- cannot be sold quickly because of a lack of ready buyers.
Illiquid asset examples
- houses
- cars
- antiques
- private company interests
What are the most liquid types of investments?
- stocks
- funds (mutual fund, ETF)
- bonds
- commodities
Bid
(aka “bid price”)
The price a potential buyer of a security offers to pay for that security.
Ask
(aka “ask price”)
The price the seller of a security is willing to accept to part with the security.
