Chapter 1 - Investments: Background and Issues Flashcards
Define Active Management
Attempting to identify mispriced securities or to forecast broad market trends,.
Define Agency Problems
Conflicts of interest between managers and stockholders.
Define Asset Allocation
Allocation of an investment portfolio across broad asset classes
Define Derivative Securities
Securities providing payoffs that depend on the value of other assets
Define Equity
An ownership share in a corporation.
Define Financial Assets
Claims on real assets or the income generated by them.
Define Financial Intermediaries
Institutions that “connect” borrowers and lenders by accepting funds from lenders and loaning funds to borrowers.
Define Fixed-Income (Debt) Securities
Pay a specified cash flow over a specific period.
Define Investment
Commitment of current resources in the expectation of deriving greater resources in the future.
Define Investment Bankers
Firms specializing in the sale of new securities to the public, typically by underwriting the issue.
Define Investment Companies
Firms managing funds for investors. An investment company may manage several mutual funds.
Define Passive Management
Buying and holding a diversified portfolio without attempting to identify mispriced securities.
Define Primary Market
A market in which new issues of securities are offered to the public.
Define Private Equity
Investments in companies that are not trades on a stock exchange.
Define Real Assets
Assets used to produce goods and services.
Define Risk-Return Trade-Off
Assets with higher expected returns entail greater risk.
Define Secondary Market
Previously issued securities are traded among investors.
Define Securitization
Pooling loans into standardized securities backed by those loans, which can then be trades life any other security.
Define Security Analysis
Analysis of the value of securities.
Define Security Selection
Choice of a specific security with each asset class.
Define Systematic Risk
Risk of breakdown in the financial system, particularly dude to the spillover effects from one market into others.
Define Venture Capital
Money invested to finance a new firm.
What are the three broad types of financial assets?
Debt
Equity
Derivatives
What are two common markets on which commodities are traded?
New York Mercantile Exchange
Chicago Board of Trade
What mechanisms have evolved to address agency problems? 4
- Compensation plans that tie the income of managers to the success of a firm.
- Board of directors forcing out management teams that are under-performing.
- Security analysts and large institutional investors such as pension funds monitor firms closely and make the life of poor performers at the least uncomfortable.
- Bad performers are subject to the threat of takeovers. Unhappy shareholders in principle can elect a different board.
What is proxy contest?
Launched by shareholders that allows for the shareholders to vote to allow a firm to be taken over, presumably by someone more capable than the current management.
What is needed for markets to operate efficiently?
For investors to be acting on accurate information. To this end the markets need to be transparent for investors to make informed decisions.
What two decisions does an investor have to make when constructing their portfolios?
Asset Allocation decision - choosing among broad asset classes
Security Selection decision - The choice of which particular securities to hold within each asset class.
Which portfolio construction method starts with asset allocation?
The “Top-Down” method.
What portfolio construction method starts with finding attractively priced securities?
The “Bottom-Up” method. There is less concern for the resultant asset allocation.
What does diversification mean and what does it do?
When many assets are held in the portfolio.
It limits the exposure to any particular asset and the risk.
What are two implications of the no-free-lunch proposition?
Risk-Return Trade off
Efficient Markets
Who are the three major players in the financial markets?
Firms - Net demanders of capital
Households - Suppliers of capital.
Governments - Can be borrowers or lenders depending on if they run a deficit or surplus.
What is securitization?
The process of buying large quantities of mortgage loans and bundling them into pools that could be trades like any other financial asset.
