Chapter 1: personal finance management

Question 1

Financial and personal satisfaction are the result of an organized process that is commonly referred to as

Answer 1

money management or personal financial planning.

Question 2

What is personal financial planning, what are the 6 steps?

Answer 2

managing your money to achieve personal eco- nomic satisfaction

• allows you to control your financial situation

Steps are

1. Develop financial goals
2. Determine your current financial situation
3. Identify alternative courses of action
4. Evaluate alternatives
5. create and implement a financial action plan
6. Re-evaluate and revise the plan

Question 3

describe step 1: develop financial goals

Answer 3

• should be analyzed periodically
• analyze your values you hold with respect to money (waiting to buy clothes until you have money)
• understand your attitude towards money (view it as security? means by which you can express appreciation to tohers?)
• how are financial decisions amde in your family?

Question 4

decribe step 2: Determine your current financial situation

Answer 4

• regarding income, savings, living expenses and debts
• need to match goals with current income and potential earning power

Question 5

describe step 3: identify alternative courses of action

Answer 5

• usually fall into one of the following:
  1. Continue the same course of action: amount you save each month may be determined appropriate
  2. Expand the current situation: save a larger amount each month
  3. Change the current situation: decide to use a moeny market account instead of regular savings
  4. Take a new course of action: maybe use monthly savings to pay off credit card debts
  ex: if you want to stop working and go to school you must generte alternatives under “take new courses of action

Question 6

describe step 4: evaluate alternatives

Answer 6

• evaluate possible courses of action taking into consideration your life situation, personal values and current economic ocnditions
• how will the ages of dependants affect your saving goals? how do you like to spend leisure time? How will changes in interest rates affect your financial situation?

Question 7

what is opportunity cost

Answer 7

• what you give up by making a choice
• may refer to the money you forgo by attening school rather then working, time spend shoping around to compare brands for a major purchase
• resources you give up (money or time) have a value that is lost

Question 8

time value of money

Answer 8

• every time you save money, invest and earn interest on it, it is worth more in the future

Question 9

What are different types of risks to consider

Answer 9

economic risk

• Interest Rate Risk: changing interest rates affect your costs when u borrowa dn your benefits when you invest
• Inflation Risk: Rising prices cause lost buying power
• Liquidity Risk: Some investments amy be more difficult to convert to cash ro sell w/o significant loss in value
• Product Risk: products may be flawed or services may not meet expectations

Personal Risk:

• death: cause financial hardship to family left behind
• Risk of income loss:
• Health Risk
• Asser and Liability Risk: assets may be stolen or damaged. Others may sue you for negligence or for damages caused by actions

Question 10

Describe Step 5: Create and Implement a Financial Action Plan

Answer 10

• chose ways to achieve goals (inc saving by reducing spending)
• file quarterly tax payments if concerned about end of year taxes
• fi achieve short term goals the next goals can come into focus

Question 11

Describe step 6: Re-evaluate and revise your plan

Answer 11

• completely review finaces at least once a year

Question 12

What are the factors that influence financial goals

Answer 12

Timing of Goals

• short term goals = achieved within the next year or so
• intermediate goals = 2-5 years
• long term = more than 5 years off
• Short term goals should lead to the longer term

Goals for Different Financial Needs

• consumable product goals usually occur on a periodic basis, if made unwisely can ahve neg effect on financial situation
• Durable product goals: infrequently purhcased, expensive items
• intangible purchase goals: personal relationships, health, education

Life Situation

• people in 50s spend money diff then poeple in 20s
• may have to care for dependents (children or parents)

Question 13

What should financial goals take into account

Answer 13

1. realistic: based on income and life situation
2. stated in specific measurable terms: knowing exactly what goals are allows you to create a plan to achieve them
3. have a time frame
4. indicate the type of action to be taken

Question 14

What is the influence of market forces on personal finance

Answer 14

• prices of goods and services determines by supply and demand (high demand for moeny pushed up interest rates)
• RBC responsible for maintaining adequate money supply by influencing borrowing, interest rates, and buying/selling fo fovernment securities
• make aqequate finds available for consumer spending and buisness expansion while keeping interest rates and consumer prices at an appropriate level

Question 15

describe the effect of global influences

Answer 15

• if export of canadian goods is lower then improted more canadian $ are leaving the country
• reduces funds available for domestic spending and investment
• if companies decide not to invest in canada, the domestic money supply is reduced and can cause higher interest rates

Question 16

how does consumer prices influence financial planning

Answer 16

consumer prices = value of the dollar; changes in inflation

If consumer prices increase faster than your income, cant purchase the same amount of goods and services

-higher consumer prices also cause higher interest rates.

Question 17

how does consumer spending influence financial decisions

Answer 17

consumer spending = demand for goods and services by individuals and households

• inc spending can create more jobs and higher wages
• high levels of spending and borrowing can inc consumer prices and interest rates

Question 18

how do interest rates influence financial decisions

Answer 18

interest rates = cost of money, the cost of credit when you borrow, the return on your money when you save or invest

• higher interest makes buying credit more $$
• makes saving and investing more attractive and discourages borrowing

Question 19

how does moeny supply influence financial planning

Answer 19

• money supply = dollars available for spending in our economy
• interest rated tend to decline as more poeple save and invest but higher saving may reduce job opportunities

Question 20

how does unempolyment rate influence financial planning

Answer 20

People who are unemployed should reduce their debt level and have an emergency savings fund for living costs while out of work

high unemployment reduces consumer spending and job opportunities.

Question 21

how does housing stats influence financial planning

Answer 21

housing stats = number of new homes being built

• inc home building = more job opps, higher wages, more spending and overall exonomic expansion

Question 22

how does gross domestic product influence financial planning

Answer 22

GDP = The total value of goods and services produced within a country’s borders, including items produced with foreign resources

• indicated a nations economic viability resulting in employment and opportunites for personal financial wealth

Question 23

how does trade balance influence financial planning

Answer 23

• trade balance = diff between countries exports and imports
• if exports are more then imports, interest rates may rie and foreigh goods will cost more

Question 24

S&P/TSX composite insex and other stock market index

Answer 24

• are the relative value of stocks represented by index
• provide an indication of the general movement of stock prices.

Question 25

what is the effect on inflation

Question 26

what economic conditions heavily influence your personal financial decisions?

Answer 26

consumer prices, consumer spending and interest rates

Question 27

describe the influence of consumber spending

Answer 27

• relates to economic conditions
• as spending inc financial resources of current and prospective empolyees expand
• improves situation of other households
• reduced spending causes unempolyment

Question 28

impact of interest rates on personal finance

Answer 28

• economic condition
• earnings you recieve as a saver or investor reflect currect interest rates as well as a risk premium based on facotrs like length of time your funds are used by others, expected inflation, extent of uncertainty about getting your money back
• poor credit means youll pay a higher interest rate

**every dollar of interst you earn must be added to taxable income, if income tax rate is 30% you only get 70 cents/dollar

Question 29

what does it mean by opportunity costs and the time value of money

Answer 29

• you always give up soemthign when you make a choice
• in every financial decision you sacrifice one thing to obtain antoher to deem more desirable

opportunity costs may be views in terms of personal adn financial resoureces

Question 30

What are personal opportunity costs

Answer 30

• involves time that when used for one activity cannot be sued for others (studying, shopping)
• allocating time should be viewed like any decision: allocate to meet needs, achieve goals and satisfy personal values

Question 31

describe financial opportunity costs

Answer 31

• increasing your amount of money as a result of interst earned
• saving a dollar results in a future amount greater than a dollar
• every time you spend, save, invest or borrow consider the time value of that money as an opportunity cost
  ex: setign asind money in savings plan with little or no risk has the opportunity cost of potentially higher returns of an invest with greater risk

Question 32

how is simple interest calculated?

Answer 32

you need 3 variables:

the amont of savings (principal), annual interst rate, length of time moeny is on deposit

• there is simple and compound interst

simple interest: I = P x R x T

ex: $500 on deposit at a 2 percent annual interest rate for two years will earn $20 ($500 × 0.02 × 2)

Question 33

what is compounding interest

Answer 33

• earn interest on previously earned interest
• every time interest is added to principal the next intered is compounded on the new balance

$500 on deposit at a 2 percent annual interest rate for two years will earn $20.20 ($500 × 0.02 = $10 the first year, and [$500 + $10] × 0.02 = $10.20 the second year— $10.20 + $10 = $20.20)

Question 34

What is future value, how do you calculate it?

Answer 34

Future value = amount current savings will increase based on certain interest rate

• typically involve compounding
• just take the initial savings, calculate interest for that first year, add that then do again

Future value (year 1) = $100 + ($100 × 0.02 × 1 year) = $102 Future value (year 2) = $102 + ($102 × 0.02 × 1 year) = $104.04

*use a future table

Question 35

How is a future table used

Answer 35

• look up the interest 8% in a table and see the value after __ years
• >$650 at 8 percent for 10 years has a future value of $1,403.35 ($650 × 2.159).

Question 36

what is intra period compounding

Answer 36

• shorter compounding intervals (start to earn interest on your interest sooner than the 1 year mark)
• can be semi anually, quarterly etc.

Question 37

future value of a series of deposits

Answer 37

• make deposits regularly

Annuity is a series of equal amounts (dep or withdrawls) made at reg time intervals

• use table attached, must be earning a constant interest rate fo rthat to be true

Question 38

explain present value of a single amount

Answer 38

• determining the current value of a desired amount in the future
• Present value is the current value for a future amount based on a certain interest rate and a certain time period

*calculations are called discounting

• let you determine how much to deposit

Question 39

explain present value of a series of deposits

Answer 39

same thign, use the chart to find out how much you need to put aside now to earn X amount

ex: if want to take out $400 from an investment account every year for 9 years and money is earning 8%

find number in chart x $400 and that the initial invest you need to make

Question 40

what are the 5 parts to personal financial planning

Answer 40

1. obtaining and planning
2. saving, borrowing and spending
3. managing risk
4. investing
5. retirement and estate planning

Question 41

How do you create a personal balance sheet

Answer 41

• list of things you own (assets) and value of what you owe (liabilities), the

diff = net worth or equity

• 4 types of assets: liquid, real estate, personal possessions and investments
• liquid = can be quickly and easily conv into cash without sig loss of prinicipal

personal = jewlery, clothing, car etc.

• liabilities are divided into short and long term

*bills you pay off on time are not debt

net worth = asset - liabilities

Question 42

What is a Cash flow statement

Answer 42

• picture of financial inflows and outflows over a period of time
• list all sources of income in that time period (don forget to notice if ur taking into acount pay deductions, typically use net pay)
• list cash outflows, divide into fixed expenses (difficult to change short term ie debt, phone, internret, insurance) and variable expenses (food, clothing, entertainment)
• then find the net, if expenses are greater much cover through borrowing or savings