CFA #3 Flashcards
Option (or option contract)
A financial instrument that gives one party the right, but not the obligation, to buy or sell an underlying asset from or to another party at a fixed price over a specific period of time. Also, referred to as contingent claims.
Option price, option premium, or premium
The amount of money a buyer pays and seller receives to engage in an option transaction.
Order
A specification of what instrument to trade, how much to trade, and wheter to buy or sell.
Order precedence hierarchy
With respect to the exectution of orders to trade, a set of rules that determines which orders execute before other orders.
Order-driven markets
A market (generally an auction market) that uses rules to arrange trades based on the orders that traders submit; in their pure form, such markets do not make use of dealers.
Ordinal scale
A measurement scale that sorts data into categories that are ordered (ranked) with respect to some characteristic.
Ordinary annuity
An annuity with a first cash flow that is paid one period from the present.
Ordinary least squares (OLS)
An estimation method based on the criterion of minimizing the sum of the squared residuals of a regression.
Ordinary shares (common stock or common shares)
Equity shares that are subordinate to all other types of equity (e.g., preferred equity).
Organic growth
Company growth in output or sales that is achieved by making investments interallly (i.e., exludes growth achieved through mergers and acquisitions).
Orthogonal
Uncorrelated; at a right angle.
Other comprehensive income
Items of comprehensive income that are not reported on the income statement; comprehensive income minus net income.
Other post-retirement benefits
Promises by the company to pay benefits in the future, other than pension benefits, such as life insurance premiums and all or part of health care insurance for its retirees.
Other receivables
Amounts owed to the company from parties other than customers.
Outcome
A possible value of a random variable.
Outliers
Small numbers of observations at either extreme (small or large) of a sample.
Out-of-sample forecast errors
The differences between actual and predicted value of time series outside the sample period used to fit the model.
Out-of-sample test
A test of a strategy or model using a sample outside the time period on which the strategy or model was developed.
Out-of-the-money
Options that, if exercised, would require the payment of more money than the value received and therefore would not be currently exercised.
Output gap
Real GDP minus potential GDP.
Overbought
A market condition in which market sentiment is thought to be unsustainably bullish.
Overnight index swaps (OIS)
A swap in which the floating rate is the cumulative value of a single unit of currency invested at an overnight rate during the settlement period.
Oversold
A market condition in which market sentiment is thought to be unsustainably bearish.
Owners’ equity
The excess of assets over liabilities; the residual interest of shareholders in the assets of an entity after deducting the entity’s liabilities.
Paired comparisons test
A statistical test for differences based on paired observations drawn from samples that are dependent on each other.
Paired observations
Observations that are dependent on each other.
Pairs arbitrage trade
A trade in two closely related stocks involving the short sale of one and the purchase of the other.
Panel data
Observations though time on a single characteristic of multiple obvservational units.
Parameter
A descriptive measure computed from or used to describe a population of data, conventionally represented by Greek letters.
Parameter instability
The problem or issue of population regression paramters that have changed over time.
Parametric test
Any test ( or procedure) concerned with parameters or whose validity depends on assumptions concerning the poulation generating the sample.
Partial regression coefficients or partial slope coefficients
The slope coefficients in a multiple in a multiple regression.
Participating preference shares
Preference shares that entitle shareholders to receive the standard preferred dividend plus the opportunity to receive an additional dividend in the company’s profits exceed a pre-specified level.
Partnership
A business owned and operated by more than one individual.
Passive investment
A buy and hold approach in which an investor does not make portfolio changes based on short-term expecations or changing market or security performance.
Passive strategy
In reference to short-term cash management, it is an investment strategy characterized by simple decision rules for making daily investments.
Payables turnover
An activity ratio calculated as purchases divided by average trade payables.
Payer swaption
A swaption that allows the holder to enter into a swap as the fixed-rate payer and floating-rate receiver.
Payment date
The day that a company actually mails out (or electronically transfers) a dividend payment.
Payment netting
A means of settling payments in which the amount owed by the first party to the second is netted with the amount owed by the second party to the first; only the net difference is paid.
Payoff
The value of an option at expiration.
Payoff matrix
A table that shows the payoffs for every possible action by each player for ever possible action by each other player.
Payout
Cash dividends and the value of shares repurchased in any given year.
Payout policy
A company’s set of principles guiding payouts.
Payout ratio
The percentage of total earnings paid out in dividends in any given year (in per-share terms, DPS/EPS).
Pecking order theory
The theory that managers take into account how their actions might be interpreted by outsiders and thus order their preferences for various forms of corporate financing.
Peer group
A group of companies engaged in similar business activities whose economics and valuation are influenced by closely related factors.
Pennants
A technical analysis continuation pattern formed by trendlines that converge to form a triangle, typically over a short period.
Per unit contribution margin
The amount that each unit sold contributes to covering fixed costs–that is, the difference between the price per unit and the variable cost per unit.
Percentage-of-completion
A method of revenue recognition in which, in each accounting period, the company estimates what percentage fo the contract is complete and then reports that percentage of the total contract revenue in its income statement.
Percentiles
Quantiles that divide a distribution into 100 equal parts.
Perfect collinearity
The existence of an exact linear relation between two or more independent variables or combinations of independent variables.
Perfect competition
A market in which there are many firms each selling an identical product; there are many buyers; there are no restrictions on entry into the industry; firms in the industry have no advantage over potential new entrants; and firms and buyers are well informed about the price of each firm’s products.
Perfect price discrimination
Price discrimination that extracts the entire consumer surplus.
Perfectly elastic demand
Demand with an infinite price elasticity; the quantity demanded changes by an infinitely large percentage in response to a tiny change in price.
Perfectly inelastic demand
Demand with a price elasticity of zero; the quantity demanded remains constant when the price changes.
Performance appraisal
The evaluation of risk-adjusted performance; the evaluation of inevestment skill.
Performance evaluation
The measurement and assessment of the outcomes of investment management decisions.
Performance guarantee
A guarantee from the clearinghouse that if one party makes money on a transaction, the clearinghouse ensures it will be paid.
Performance measurement
The calculation of returns ina logical and consistent manner.
Period costs
Costs (e.g., executives’ salaries) that cannot be directly matched with the timing of revenues and which are thus expensed immediately.
Periodic rate
The quoted inerest rate per period; the stated annual interest rate divided by the number of compounding periods per year.
Permanent differences
Differences between tax and financial reporting of revenue (expenses) that will not be reversed at some future date. These result in a difference between the company’s effective tax rate and statutory rax rate and do not result in a deferred tax item.
Permutation
An ordered listing.
Perpetuity
A perpetual annuity, or a set of never-ending level sequential cash flows, with the first cash flow occurring one period from now.
Pet projects
Projects in which influential managers want the corporation to invest. Often, unfortunately, pet projects are selected without undergoing normal capital budgeting analysis.
Phillips curve
A curve that shows a relationship between inflation and unemployment.
Plain vanilla swap
An interest rate swap in which one party pays a dixed rate and the other pays a floating rate, with both sets of payments in the same currency.
Platykurtic
Describes a distribution that is less peaked than the normal distribution.
Point and figure chart
A technical analysis chart that is constructed with solumns of Z’s alternating with columns of O’s such that the horizontal axis represents only the number of changes in price without reference to time or volume.
Point estimate
A single numerical estimate of an unknown quantity, such as a population parameter.
Point of sale
Systems that capture transaction data at the physical location in which the sale is made.
Poison pill
A pre-offer takeover defense mechanism that makes it prohibitively costly for an acquirer to take control of a target without the prior approval of the target’s board of directors.
Poison puts
A pre-offer takeover defense mechanism that gives taget company bondholders the right to sell their bonds back to the target at a pre-specified redemption price, typically at or above par value; this defense increases the need for cash and raises the cost of the acquisition.
Pooled estimate
An estimate of a parameter that involves combining (pooling) observations from two or more samples.
Pooling of interests accounting method
A method of accounting in which combined companies were portrayed as if they had always operated as a single economic entity. Called pooling of interests under U.S. GAAP and uniting of interests under IFRS. (No longer allowed under U.S. GAAP or IFRS.)
Population
All members of a specific group.
Population mean
The arithmetic mean value of a population; the arithmetic mean of all the observations or values in the population.
Population standard deviation
A measure of dispersion relating to a population in the same unit of measurement as the observations, calculated as the positive square root of the population variance.
Population variance
A measure of dispersion relating to a population , calculated as the mean of the squared deviations around the population mean.
Portfolio performance attribution
The analysis of portfolio performance in terms of the contributions from various sources of of risk.
Portfolio planning
The process of creating a plan for building a portfolio that is expected to satisfy a client’s investment objectives.
Portfolio possibilities curve
A graphical representation of the expected return and risk of all portfolios that can be formed using two assets.
Position
The quantity of an aset that an entity owns or owes.
Position trader
A trader who typically holds positions open overnight.
Positive serial correlation
Serial correlation in which a positive error for one observation increases the chance of a positive error for another observation, and a negative error for one observation increases the chance of a negative error for the other observation.
Posterior probability
An updated probability that reflects or comes after new information.
Potential credit risk
The risk associated with the possibility that a payment due at a later date will not be made.
Potential GDP
The value of production when all the economy’s labor, capital, land, and entrepreneurial ability are fully employed; the quantity of real GDP at full employment.
Power of a test
The probability of correctly rejecting the null–that is, rejecting the null hypothesis when it is false.
Precautionary stocks
A level of inventory beyond anticipated needs that provides a cushion in the event that it takes longer to replenish eventory than expected or in the case of greater than expected demand.
Preference shares (or preferred stock)
A type of equity interest which ranks above common shares with respect to the payment of dividends and the distribution of the company’s net assets upon liquidation. They have characteristics of both debt and equity securities.
Preferred sock
A form of equity (generally non-voting) that has priority over common stock in the receipt of dividends and on the issuer’s asset in the event of a company’s liquidation.
Pre-investing
The strategy of using futures contracts to enter the market without an immediate outlay of cash.
Prepaid expense
A normal operating expense that has been paid in advance of when it is due.
Present (price) value of a basis point (PVBP)
The change in the bond price for a 1 basis point change in yield. Also called basis point value (BPV).
Present value (PV)
The present discounted value of future cash flows: For assets, the present discounted value of the future net cash inflows that the asset is expected to generate; for liabilities, the present discounted value of the future net cash outflows that are expected to be required to settle the liabilities.
Present value models (or discounted cash flow models)
Valuation models that estimate the intrinsic value of a security as the present value of the future benefits expected to be received from the seucrity.
Presentation currency
The currency in which financial statement amounts are presented.
Pretax margin
A profitability ratio calculated as earnings before taxes divided by revenue.
Price ceiling
A regulation that makes it illegal to charge a price higher than a specified level.
Price discovery
A feature of futures markets in which futures prices provide valuable information about the price of the underlying asset.
Price discrimination
The practice of selling different units of a good or service for different prices or of charging one customer different prices for different quantities bought.
Price elasticity of demand
A units-free measure of the responsiveness of the quantity demanded of a good to a change in its price, when all other influences on buyers’ plans remain the same.
Price floor
A regulation that makes it illegal to trade at a price lower than a specified level.
Price limits
Limits imposed by a futures exchange on the price change that can occur from one day to the next.
Price multiple
A ratio that compares the share price with some sort of monetary flow or value to allow evaluation of the relative worth of a company’s stock.
Price priority
The principle that the highest priced buy orders and the lowest priced sell orders execute first.
Price relative
A ratio of an ending price over a beginning price; it is equal to 1 plus the holding period return on the asset.
Price return
Measures only the price apprecation or percentage change in price of the securities in the index or portfolio.
Price return index (or price index)
An index that reflects only the price apprecation or percentage change in price of the constituent securities.
Price taker
A firm that cannot influence the price of the good or service it produces.
Price to book value
A valuation ratio calculated as price per share divided by book value per share.
Price to cash flow
A valuation ratio calculated as price per share divided by cash flow per share.
Price to sales
A valuation ratio calculated as price per share divided by sales per share.
Price weighting
An index weighting method in which the weight assigned to each constituent security is determined by dividing its price by the sum of all the prices of the constituent securities.
Price/earnings (P/E) ratio
The ratio of share pirce to earnings per share.
Priced risk
Risk for which investors demand compensation for bearing (e.g. equity risk, company-specific factors, macroeconomic factors).
Price-setting option
The operational flexibility to adjust prices when demand varies from forecast. For example, when demand exceeds capacity, the company could benefit from the excess demand by increasing prices.
Price-weighted index
An index in which the weight on each consitutent security is determined by dividing its price by the sum of all the prices of the constituent securities.
Primary market
The market where securties are first sold and the issuers receive the proceeds.
Principal
The amount of funds originally invested in a project or instrument; the face value to be paid at maturity.
Principal business activity
The business activity from which a company derives a majority of its revenues and/or earnings.
Principal-agent problem
The problem of devising compensation rules that induce an agent to act in the best interest of a principal.
Prior probabilities
Probabilities reflecting beliefs prior to the arrival of new information.
Private equity securities
Securities that are not listed on the public exchanges and have no active secondary market. They are issued primarily to institutional investors via non-public offerings, such as a private placement.
Private investment in public equity
An investment in the equity of a publicly traded firm that is made at a discount to the market value of the firm’s shares.
Private placement
When corporations sell securities directly to a small group of qualified investors, usually with the assistance of an investment bank.
Probability
A number between 0 and 1 describing the chance that a stated event will occur.
Probability density function
A function with non-negative values such that probability can be described by areas under the curve graphing the function.
Probability distribution
A distribution that specifies the probabilities of a random variable’s possible outcomes.
Probability function
A function that specifies the probability that the random variable takes on a specific value.
Probit model
A qualitative-dependent-variable multiple regression model based on the normal distribution.
Producer surplus
The price of a good minus its minimum supply-price, summed over the quantity sold.
Product differentiation
Making a product slightly different from the product of a competing firm.
Production quota
An upper limit to the quantity of a good that may be produced in a specific period.
Production-flexibility
The operational flexibility to alter production when demand varies from forecast. For example, if demand is strong, a company may profit from employees working overtime or from ading additional shifts.
Profitability ratios
Ratios that measure a company’s ability to generate profitable sales from its resources (assets).
Project sequencing
To defer the decision to invest in a future project until the outcome of some or all of the current project is known. Projects are sequenced throught time, so that invesing in a project creates the option to invest in future projects.
Projected benefit obligation
Under U.S. GAAP, a measure used in estimating a defined-benefit pension plan’s liabilities, defined as “the actuarial present value as of a date of all benefits attributed by the pension benfit formula to employee service rendered prior to that date. The projected benefit obligation is measured using assumptions as to future compensation if the pension benefit formula is based on those future compensation levels.”
Property, plans, and equipment
Tangible assets that are expected to be used for more than one period in either the production or supply of goods or services, or for administrative purposes.
Proportionate consolidation
A method of accounting for joint ventures where the venturer’s share of the assets, liabilities, income and expenses of the joint venture are combined on a line-by-line basis with similar items on the ventuter’s financial statements.
Protective put
An option strategy in which a long position in an asset is combined with a long position in a put.
Provision
In accounting, a liability of uncertain timing or amount.
Proxy fight
An attempt to take control of a company through a shareholder vote.
Proxy statement
A public document that provides the material facts concerning matters on which shareholders will vote.
Pseudo-random numbers
Numbers produced by random number generators.
Pull on liquidity
When disbursements are paid too quickly or trade credit availability is limited, requiring companies to expend funds before they receive funds from sales that could cover the liability.
Purchase method
A method of accounting for a business combination where the acquiring company allocates the purchase price to each asset acquired and liability assumed at fair value. If the purchase price exceeds the allocation, the excess is recorded as goodwill.
Purchased in-process research and development costs
The costs of research and development in progress at an acquired company.
Purchasing power gain
A gain in value caused by changes in price levels. Monetary liabilities experience purchasing power gains during periods of inflation.
Purchasing power loss
A loss in value caused by changes in price levels. Monetary assets experience purchasing power losses during periods of inflation.
Pure discount instruments
Instruments that pay interest as the difference between the amount borrowed and the amount paid back.
Pure factor portfolio
A portfolio with sensitivity of 1 to the factor in question and a sensitivity of 0 to all other factors.
Pure-play method
A method for estimating the beta for a company or project; it requires using a comparable company’s beta and adjusting it for financial leverage differences.
Put
An option that gives the holder the right to sell an underlying asset to another party at a fixed price ove ra specific period of time.
Put/call ratio
A technical analysis indicator that eveluates market sentiment based upon the volume of put options traded divided by the volume of call options traded for a particular financial instrument.
Putable common shares
Common shares that give investors the option (or right) to sell their shares (i.e., “put” them) back to the issuing company at a price that is specified when the shares are originally issued.
Put-call parity
An equation expressing the equivalence (parity) o fa portfolio of a call and a bond with a portfolio of a put and the underlying, which leads to the relationship between put and call prices.
Put-call-forward parity
The relationship among puts, calls, and forward contracts.
p-Value
The smallest level of significance at which the null hypothesis can be rejectetd; also called the marginal significance level.
Qualifying special purpose entities
Under U.S. GAAP, a special purpose entity structure to avoid consolidation that must meet qualification criteria.
Qualitative dependent variable
Dummy variables used as dependent variables rather than as independent variables.
Quantile (or fractile)
A value at or below which a stated fraction of the data lies.
Quantity theory of money
The proposition that in the long run, an increase in the quantity of money brings an equal percentage increase in the price level.
Quartiles
Quantiles that divide a distribution into four equal parts.
Quick assets
Assets that can be most readily converted to cash (e.g., cash, short-term marketable investments, receivables).
Quick ratio, or acid test ratio
A stringent measure of liquidity that indicates a company’s ability to satisfy current liabilities with its most liquid assets, calculated as (cash + short-term marketable investments + receivables) divided by current liabilities.
Quintiles
Quantiles that divide a distribution into five equal parts.
Quote-driven market
A market in which dealers acting as principals facilitate trading.
Random number
An observation drawn from a uniform distribution.
Random number generator
An algorithm that produces uniformly distributed random numbers between 0 and 1.
Random variable
A quantity whose future outcomes are uncertain.
Random walk
A time series in which the value of the series in one period is the value of the series in the previous period plus an unpredictable random error.
Range
The difference between the maximum and minimum values in a dataset.
Ratio scales
A measurement scale that has all the characteristics of interval measurement scales as well as a true zero point as the origin.
Ratio spread
An option strategy in which a long position in a certain number of options is offset by a short position in a certain number of other oprtions on the same underlying, resulting in a risk-free position.
Rational expectation
The most accurate forecast possible, a forecast that uses all the available information, including knowledge of the relevant economic forces that influence the variable being forecasted.
Real business cycle theory
A theory of the business cycle that regards random fluctuations in productivity as the main source of economic fluctuations.
Real exchange rate
The relative price of foreign-made goods and services to U.S.-made goods and services.
Real risk-free interest rate
The single-period interest rate for a completely risk-free security if no inflation were expected.
Real wage rate
The quantity of goods and services that an hour’s work can buy. It is equal to the money wage rate divided by the price level and multiplied by 100.
Realizable value (settlement value)
With reference to assets, the amount of cash or cash equivalents that could currently be obtained by selling the asset in an orderly disposal; with reference to liabilities, the undiscounted amount of cash or cash equivalents expected to be paid to satisfy the liabilities in the normal course of business.
Realized capital gains
The gains resulting from the sale of an asset that has appreciated in value.
Rebalancing
Adjusting the weights of the constituent securities to an index.
Rebalancing policy
The set of rules that guide the process of restoring a portfolio’s asset class weights to those specified in the strategic asset allocation.
Recardo-Barro eequivalence
The proposition that taxes and government borrowing are equivalent–a budget deficit has no effect on the real interest rate or investment.
Receivables turnover
An activity ratio equal to revenue divided by average receivables.
Receiver swaption
A swaption that allows the holder to enter into a swap as the fixed-rate receiver and floating-rate payer.
Recessionary gap
The amount by which potential GDP exceeds real GDP.
Reference base period
The period in which the CPI is defined to be 100.
Regime
With reference to a time series, the underlying model generating the times series.
Regression coefficients
The intercept and slope coefficient(s) of a regression.
Regulatory risk
The risk associated with the uncertainty of how derivative transactions will be regulated or with changes in regulations.
Rejection point (or critical value)
A value against which a computed test statistic is compared to decide whether to reject or not reject the null hypothesis.
Relative dispersion
The amount of dispersion relative to a reference value of benchmark.
Relative frequency
With reference to an interval of grouped data, the number of observations in the interval divided by the total number of observations in the sample.
Relative strengh index
A technical analysis momentum oscillator tha compares a security’s gains with its losses over a set period.
Relative strength analysis
A comparison of the performance of one asset with the performance of another asset or benchmark based on changes in the ratio of the securities’ respective prices over time.
Renewable natural resources
Natural resources that can be used repeatedly without depleting what is available for future use.
