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R02 > Ch 6 > Flashcards

Ch 6 Flashcards

1
Q

What is systematic/market risk?

A

Might be a reduction in expected returns as a result of a fall in the stock market generally

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2
Q

What is non-systematic/investment-specific risk?

A

Risk of a single financial institution defaulting or reduction in expected returns of particular company/sector

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3
Q

What is systematic risk measured by?

A

Beta

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4
Q

What is the Gov’s target for inflation? What is it measured by?

A

2%

CPI

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5
Q

What is CPI used for?

A
  • Gov’s inflation target

- Increasing benefits/state pension

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6
Q

What is CPIH?

A

CPI including costs of owning, maintaining and living in your own home

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7
Q

What is RPI still used for?

A

Contracts such as pension increases and index-linked gilts

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8
Q

How is the inflation rate calculated?

A

Change in prices of over 700 separate separate goods and services

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9
Q

In the shorter term, what does inflation cause?

A

Uncertainty and the potential for Gov’s to introduce restrictive policies

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10
Q

What asset classes are hardest hit by inflation and why?

A

Cash deposits & fixed interest securities

Erodes real value of capital

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11
Q

What causes inflation?

A

Can be caused by many factors, historically this was thought to be supply and demand.

Investor sentiment can also contribute.

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12
Q

What is deflation?

A

Sustained fall in prices

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13
Q

How can rising demand cause inflation?

A
  • Bottlenecks in production cause prices to rise/imports to flood in
  • Gov increases interest rates to control
  • Cuts in public expenditure
  • Economy enters recession and prices steady or fall,
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14
Q

Why is deflation bad for an economy?

A

Consumers delay spending in order to pay lower prices which leads to lower sales/lower economic output

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15
Q

What is stagflation?

A

Combination of stagnant growth and inflation

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16
Q

When interest rates rise, what happens to the value of fixed interest securities?

A

They fall

17
Q

When interest rates fall, what happens to the value of fixed interest securities?

A

They rise

18
Q

How is interest rate risk measured?

A

Duration

19
Q

What is modified duration?

A

Measure of sensitivity of a bond/bond portfolio to a move in interest rates.

For eg if interest rates move 1%, and a bond has a duration of 5, it will move 5%

20
Q

What are the 5 key factors of interest rate movements?

A
  1. Economic cycle
  2. Government fiscal policy
  3. Government monetary policy
  4. Inflation expectations
  5. Preference for liquid securities
21
Q

What are the different types of credit risk?

A
  • Default risk
  • Downgrade risk
  • Credit spread risk
  • Counterparty risk
22
Q

What is currency risk?

A

Where an investment is made overseas by UK-based investor, risk that Sterling will appreciate against the overseas currency

Can also affect companies that rely on exports/imports

23
Q

What is liquidity risk?

A

Risk of having to sell security at a price below its fair value due to lack of liquidity

24
Q

What is event risk?

A

Risk of the issuer of a security being unable to pay interest or repay capital due to a major unexpected event (such as industrial disaster), a corporate change (such as a takeover) or regulatory change

Also includes natural catastrophes inc earthquakes, floods etc

25
Q

What is political risk?

A

Risk that a new/changed gov will have different fiscal and monetary policies to the previous one

26
Q

What is operational risk(list the risk factors)?

A

Risks that arise from investment process:

  • Settlement/counterparty risk
  • Fraud
  • Misrepresentation
  • Trading
  • Staff errors
  • Regulatory risk
27
Q

What are the advantages of diversification?

A
  • Reduces risk of particular investment
  • Spreads opportunity for return
  • Minimises risk of overall portfolio suffering significant downturn
  • Increases probability of stable returns
28
Q

What is gearing/leverage?

A

Borrowing money with the objective of increasing to other assets, magnifying positive and negative returns.

R02 (8 decks)

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