Chapter 1 - Part 1 Flashcards
1
Q
What is the primary aim of investors?
A
To generate a satisfactory financial return on capital or, at least, a return of capital.
2
Q
What are the two main strategies investors can apply?
A
- Passive investment management
- Active investment management
3
Q
What type of funds are associated with passive investment management?
A
Index tracker funds.
4
Q
What is the efficient market hypothesis (EMH)?
A
An economic theory positing that all publicly available information about a security is reflected in its price, making it impossible to gain an advantage.
5
Q
What are common passive approaches to investing?
A
- Tracking credible and liquid indices
- Using existing indices or creating blends of indices
6
Q
What are some examples of credible indices for passive investing?
A
- FTSE 100
- S&P 500
- SSE Composite Index
- MSCI World Index
7
Q
Why is duplicating a bond index often impractical?
A
- Average maturity of a bond index declines over time
- Huge universe of bond issuers
8
Q
What are the two main methods for replicating an index?
A
- Physical replication
- Synthetic replication
9
Q
What is the traditional method used for index tracking?
A
Physical replication.
10
Q
What is a disadvantage of passive investment strategies?
A
- Performance affected by cash flow management
- Cannot meet all investor objectives
- Follows index down in bear markets
11
Q
What is indexation in investment management?
A
A variant of the ‘buy and hold’ strategy that aims to replicate the performance of a market index.
12
Q
What is complete indexation?
A
Holding all constituents of an index to match exactly the underlying components.
13
Q
What is cash flow matching?
A
A portfolio management approach where bonds are purchased to meet liabilities as they fall due.
14
Q
What is immunisation in bond portfolio management?
A
A technique to insulate a bond portfolio from future interest rate changes.
15
Q
What are the two techniques for immunisation?
A
- Cash matching
- Duration-based immunisation
16
Q
What is a bullet portfolio?
A
A portfolio with bonds aligned in value and duration to match a specific liability.
17
Q
What is active investment management?
A
An approach aiming to outperform a predetermined benchmark over a time period.
18
Q
What are the two methods of constructing portfolios using active management?
A
- Top-down active investment management
- Bottom-up active investment management
19
Q
What does growth investing focus on?
A
Companies with consistent, above-average earnings and revenue growth. This leaves growth companies with a higher P/E ratio; growth investors are willing to pay a higher price now for long-term future earnings growth.
20
Q
What is value investing?
A
A strategy based on identifying undervalued businesses through deep analysis.
21
Q
What is income investing?
A
A strategy that identifies companies providing a steady stream of income through dividends.
22
Q
What is contrarian investing?
A
A strategy that seeks high returns by going against market trends.
23
Q
What are the three forms of bond switching?
A
- Anomaly switching
- Policy switching
- Intermarket spread switching
24
Q
What is riding the yield curve?
A
An active bond strategy that takes advantage of an upward-sloping yield curve.
25
What is a quantitative fund?
An actively managed fund where computer models drive the stock-selection process.
26
What is systematic investing?
A method where stock selection is driven solely by computer models without manager judgment.
27
What does systematic investing refer to?
The reliance solely on computer models for stock selection in a quant fund.
28
Which theories do quant funds often rely on for stock selection?
* Modern Portfolio Theory (MPT)
* Capital Asset Pricing Model (CAPM)
29
What are some typical strategies of quant funds?
* Growth strategies
* Value strategies
* Statistical arbitrage strategies
* Correlation strategies
* Long/short equity strategies
* Dispersion strategies
30
How do quant funds typically perform in market downturns compared to fundamental funds?
Quant funds tend to perform better in downturns, while fundamental funds perform better in upswings.
31
What is a long position in investing?
When an investor purchases a share.
32
What is a short position in investing?
When an investor sells shares they do not own.
33
How can a short investor profit from a falling share price?
By borrowing shares, selling them, and later repurchasing them at a lower price.
34
What is quantamental investing?
An investment strategy that combines quantitative and fundamental approaches.
35
What does the core/satellite investment strategy aim to achieve?
Minimise cost, volatility, and tax liability while providing an opportunity for outperformance.
36
What is smart beta?
An investment strategy that combines active and passive investing by tracking indices based on fundamental characteristics.
37
What characterizes a smart beta fund compared to a traditional index fund?
Smart beta funds track indices based on fundamental characteristics rather than market capitalisation.
38
What is market capitalisation?
A measure of a company's value based on the number of shares multiplied by the share price.
39
What are the general categories of companies based on market capitalisation?
* Small cap
* Mid cap
* Large cap
40
What is a collective investment scheme (CIS)?
A financial intermediary that pools resources from many investors to create a diversified portfolio.
41
What is the difference between open-ended and closed-ended funds?
Open-ended funds can create new shares and cancel shares, while closed-ended funds have a fixed number of shares.
42
What does NAV stand for in investment funds?
Net Asset Value
43
What is liquidity risk?
The risk concerning how easily a security or financial asset can be sold without impacting market price.
44
What is dual pricing in unit trusts?
A pricing method where buying and selling prices differ, typically creating a spread.
45
What happens to unit trust pricing during upward market movements?
Prices may be set on an offer basis, increasing the price for buyers.
46
What is historic pricing in unit trusts?
Pricing based on the previous valuation point.
47
What is the role of the unit trust manager?
* Marketing the unit trust
* Managing assets
* Maintaining records
* Supplying information to trustees
* Informing regulators of breaches
48
What does 'effectively means that the buying price will be the lowest bid price' refer to?
It refers to the cancellation price under FCA's rules, reducing prices for sellers and increasing prices for buyers above the cancellation price.
49
How often are unit trusts priced?
Once daily.
50
What is historic pricing?
Pricing based on the previous valuation point.
51
What is forward pricing?
Pricing based on the next valuation point.
52
What is a key benefit of historic pricing for investors?
Investors know the price they will pay for units.
53
What is a disadvantage of historic pricing?
The value of the underlying securities may not be reflected in the price paid.
54
What must a manager do if sales exceed expected levels on a historic pricing basis?
Move to forward pricing or risk loss of money.
55
What is the FCA's requirement for managers using historic pricing?
They must move to forward pricing if the fund value has changed by 2% or more.
56
What are the four ways charges on a unit trust can be taken?
* Initial charge
* Annual management charge (AMC)
* Performance-related charges
* Exit charge
57
What is an initial charge?
A charge made up front added to the buying price.
58
What is the typical range for an annual management charge (AMC)?
0.5–1.5% of the underlying fund.
59
What is a performance-related charge based on?
The fund's growth or outperformance of the fund’s standard benchmark.
60
What is an exit charge?
A charge levied when the investor sells units.
61
What is required for a unit trust to be marketed to the public?
It must be authorised by the regulator.
62
What is the difference in tax treatment for unauthorised unit trusts compared to authorised unit trusts?
Unauthorised unit trusts are subject to income tax and CGT within the fund.
63
What is an OEIC?
Open-ended investment companies, also known as investment companies with variable capital (ICVCs).
64
What is a distinguishing feature of OEICs?
They can take the form of an umbrella fund with separately priced sub-funds.
65
What are the two types of shares within an OEIC?
* Income shares
* Accumulation shares
66
What regulations apply to OEICs in the UK?
The FCA’s Collective Investment Schemes Sourcebook (COLL) rules.
67
What is the purpose of UCITS certification?
To allow the fund to be marketed in one EU member state into another without the need for separate authorisation.
68
What are leveraged ETFs designed to do?
Achieve returns that are more sensitive to market movements.
69
What is a reverse ETF?
An ETF constructed to have short positions in underlying instruments.
70
What are Exchange-Traded Commodities (ETCs)?
Investment vehicles that track the performance of an underlying commodity index.
71
What is a key characteristic of investment trusts?
They are publicly listed companies that invest in financial assets.
72
What is the role of the authorised corporate director (ACD) in an OEIC?
Responsible for the day-to-day management of the fund.
73
What is the difference between investment trusts and OEICs regarding share issuance?
OEICs are open-ended, allowing the number of shares to be increased or reduced.
74
What is the typical pricing mechanism for OEICs?
Single-priced instruments with no bid/offer spread.
75
What is the aim of the Packaged Retail Investment and Insurance Products (PRIIPs) regulation?
To enhance comparability and comprehensibility of financial products for retail investors.
76
What is the difference between a closed-ended investment and an open-ended investment?
Closed-ended investments have a fixed number of shares, while open-ended investments can increase or decrease the number of shares.
77
What are investment trusts?
Publicly listed companies that invest in financial assets or shares of other companies, primarily found in the UK and Japan.
78
How are investment trusts structured?
They have a corporate structure run by a board of directors, who can self-manage or outsource management tasks.
79
Are investment trusts open-ended or closed-ended?
Closed-ended; they do not accept new money or redemptions during management.
80
What is the pricing mechanism for shares in investment trusts?
Shares are priced according to investor demand and can trade at a premium or discount to the NAV.
81
Define 'gearing' in the context of investment trusts.
The option for investment trust managers to borrow money to buy shares and other assets.
82
What is the primary goal of hedge funds?
To eliminate or reduce market risk and capture returns through stock selection, regardless of market conditions.
83
What is a common feature of hedge fund structures?
They often emphasize producing highly geared returns rather than controlling market risk.
84
What are the typical structures of hedge funds?
Private partnerships in the US or unauthorized collective investment schemes in offshore financial centers.
85
How are hedge funds regulated?
Typically domiciled in offshore centers with a light-touch regulatory regime.
86
List some key features of hedge funds.
* Investment flexibility
* Gearing
* Dealing restrictions
* High investment entry levels
* Low correlation to world securities markets
87
What is the typical fee structure for hedge funds?
An annual management fee of 2% and a performance-related fee of about 20%.
88
True or False: Hedge funds are highly regulated compared to traditional assets.
False; hedge funds are largely unregulated and can undertake a wider range of deals.
89
What are managed futures funds?
Actively managed portfolios offering exposure to a range of instruments, often negatively correlated to existing portfolios.
90
What are two common strategies used in managed futures?
* Market-neutral
* Trend-following
91
What role do money market instruments play?
Used primarily by Treasury operations but also significant in investment management through money market funds.
92
What is a key advantage of money market funds over standard bank accounts?
They offer higher returns and pooled investment access to a range of assets.
93
Fill in the blank: Money market funds can be classified into different types based on their _______.
[investment strategies]
94
What is a manager of managers (MoM) fund?
An investment fund that selects multiple managers to independently manage their investments.
95
What is the focus of patient capital investments?
Long-term investments, often with an emphasis on environmental or social attributes.
96
What are typical examples of patient capital?
* Pension funds
* Sovereign wealth funds
97
What is the typical investment horizon for patient capital?
Long-term, generally over ten years.
98
What are the basic principles of life assurance?
Contracts that insure a person’s life, involving a proposer and a life assured.
99
Define 'life assured'.
The person on whose life the insurance contract depends.
100
What is a single life policy?
A policy that pays out on the life assured's death or upon certain insurable events.
101
What is a joint life policy?
A policy that pays out upon the death of either of the two lives assured.
102
What are the three main structures of life assurance-based investments?
* Non-profit
* With-profits
* Unit-linked
103
What is a with-profits policy?
A policy that pays a guaranteed amount plus any profits made between policy inception and death.
104
What is a non-profit policy?
A policy for a guaranteed sum only, where the insured sum is chosen at the outset and is fixed.
105
What do with-profits policies provide?
A guaranteed amount, plus any profits made between the policy being taken out and death.
106
What are common uses for with-profits policies?
* To build up a sum of money for an annuity or pension on retirement
* To pay off the capital of a mortgage
* To insure against an event such as death in whole-of-life assurance.
107
What is the advantage of with-profits schemes?
Profits are locked in each year, reducing investment volatility.
108
How do with-profits schemes manage investment returns?
They smooth the returns by holding back gains in good years to boost returns in poor years.
109
What are unit-linked policies?
Policies where the return is directly related to the investment performance of the funds within the policy.
110
How is the value of a unit-linked policy measured?
In terms of the total number of units allocated to it, which depends on the performance of the underlying investments.
111
What types of investment options do life companies offer in unit-linked policies?
* Government or other bond funds
* Equity funds
* Other variants.
112
What is unique about the maturity value of some unit-linked policies?
They may have no minimum maturity value; the value is linked directly to the underlying funds.
113
What do with-profits endowments offer?
A benefit payable at a future maturity date, on earlier death, or on encashment by the policyholder.
114
How does a policyholder contribute to a with-profits endowment?
By paying single or regular premiums to the life company.
115
What types of investments can a life office use for with-profits policies?
* Equities
* Debt securities
* Property
* Cash
* Hedge funds
* Foreign currencies
* Other alternative investments.
116
What are the two types of bonuses in with-profits policies?
* Reversionary bonuses
* Terminal bonuses.
117
What is a reversionary bonus?
A bonus added each year that cannot be withdrawn once paid.
118
What is a terminal bonus?
A bonus awarded on maturity or earlier death.
119
How do 'Quant Funds' and 'Fundamental funds' perform with downturns and upswings?
It used to be observed that quant funds tend to perform better in market downturns, whereas more fundamental funds perform better in upswings
