Capital Assets Flashcards
List the five basic components of the investment process
Investor Characteristics, Investment Vehicles, Strategy Development, Strategy Implementation and Strategy Monitoring
Investor Characteristics
Return requirements and risk tolerance along with any constraints
Investment Vehicles
Once characteristics have been established, opportunities can be explored
Strategy Development
The investor can start to optimize based on available investment opportunities
Strategy Implementation
Problems may arise due to transaction costs or not enough market liquidity
Strategy Monitoring
Investors must constantly monitor and revaluate their investment strategy as the market is ever changing
Why different investors adopt different investment strategies
Investors will adopt different strategies based on their risk and return preferences, a low risk investor may chose to invest in low risk assets such as treasury bonds where as those with higher risk tolerance may chase riskier assets in search of higher returns. Strategies will depend on the amount of cash flow that’s desired.
Why investors adopt different investment strategies
- Changing market conditions, 2. Investment goals change, 3. Risk Tolerance may change, 4. Portfolio Diversification, 5. Investment Experience
Divisibility in terms of physical and financial assets
Financial assets are usually highly divisible and will buy and sell at small denominations. Physical assets may vary, like real estate may be not be easily divisible but assets like gold can be sold at smaller units.
Marketability in financial and physical assets
Marketability refers to the ease an asset can be bought or sold. Financial assets have a generally high marketability as they can easily be bought and sold. Marketability will vary for physical assets, for example gold is highly marketable but real estate will depend on a range of factors.
Holding period in financial and physical assets
Holding period in terms of financial asset will depend on the type of investment, day trader may hold an investment for a matter of minutes but a long term investor may hold assets for years. Physical assets will also vary but in general have a longer holding period. Real estate may be longer where things like technology may be shorter.
Information availability in financial and physical assets
Financial assets will typically have more information since they are publicly traded and highly regulated. Physical assets will vary, assets such as gold or oil have a lot of information but assets such as real estate are limited.
‘The Ownership of the Firm is Residual in Nature’
Owners have a claim on the residual profits after all expenses have been payed. They are the last in line to receive payouts. This gives shareholders incentive to monitor the performance of the company.
Conversion ratio
= number of shares
Conversion price
= par value / conversion ratio
Conversion value
= value if the bond was converted in present time. number of shares x stock price
Interest Rate Risk
risk that investor may face due to changes in interest rate, determined by supply and demand for credit.
Equity Risk
potential loss due to fluctuations in the value of stocks/ equity investments, equity represents ownership of a company and is sensitive to the companies performance.
Default Risk
risk the borrower may not be able to pay back their debt obligations.
Commodity Risk
Prices in stock may change due to changes in commodity prices, such as oil, gas and metals. Will depend on the extent that a company relies on the commodities.
“Investing in mutual funds guarantees a profit”
No, investing in mutual funds does not guarantee profit. Mutual funds are subject to market risk and their returns are no guaranteed. The performance will depend on factors such as underlying securities, economic conditions, interest rates and global events. Although mutual funds are a popular investment due to potential high returns, compared to a savings account, they also come with risk. Proper risk assessment must be done before investing. Past performance is also not a guarantee that it will continue to be a high returning investment.
How to find the NPV.
( C / (1+r) ^ n - Initial Investment )
Future Value.
FV = PV x (1+r)^n
PMT formula (Automation)
PMT = PV x r / (1-(1+r)) ^-n