chapter 2 3fb3 Flashcards
Q: How are financial markets traditionally segmented?
A: Financial markets are segmented into money markets (short-term, marketable, liquid, low-risk debt securities) and capital markets (longer-term, riskier securities like bonds, equities, and derivatives).
Q: What types of securities are included in money and capital markets?
A:Money Markets: Short-term debt instruments like Treasury bills and commercial paper.
Capital Markets: Longer-term instruments such as bonds, stocks, options, and futures.
Q: What are the key steps in building an investment portfolio?
A:Asset Allocation: Deciding the proportion of investments across asset classes (e.g., stocks, bonds).
2: Security Selection: Choosing specific securities within each asset class.
Q: What is the money market, and what are its key features?
A: The money market is a sub-sector of the fixed-income market, dealing with short-term, highly liquid, and low-risk debt securities such as Certificates of Deposit (CDs) and Treasury bills.
Q: What are Treasury bills and Certificates of Deposit (CDs)?
A:Treasury Bills: Simplest form of government borrowing with short maturities and high liquidity.
CDs: Short-term, low-risk investments like Guaranteed Investment Certificates (GICs), offering higher liquidity.
Q: What is the bid-ask spread, and why is it significant?
A: The bid-ask spread is the difference between the ask price (what you pay to buy) and the bid price (what you receive when selling). It represents the dealer’s profit margin
Q: What is the T-bill yield using the bank-discount method?
A: The bank-discount method calculates T-bill yield based on its face value (par value) and assumes a 360-day year
Q: What is the T-bill yield using the bond-equivalent yield (BEY) method?
A: The bond-equivalent yield method calculates yield based on the current purchase price and assumes a 365-day year:
Q: What are the key differences between the bank-discount method and the bond-equivalent yield method?
A:Bank-Discount Method: Based on par value and assumes 360 days/year.
Bond-Equivalent Yield Method: Based on purchase price and assumes 365 days/year, providing a more precise comparison for bond investments.
Q: What is commercial paper?
A: Commercial paper refers to short-term unsecured debt notes issued by well-known companies to meet short-term financing needs, typically with low default risk.
Q: What are Bankers’ Acceptances and Eurodollars?
Bankers’ Acceptances: Short-term debt instruments guaranteed by a bank, second only to T-bills in terms of default security.
Eurodollars: U.S. dollar-denominated deposits held in foreign banks or international branches of U.S. banks.
Q: What are repos, reverse repos, and key benchmark rates?
Repos: Agreements to sell securities and repurchase them later at a higher price.
Reverse Repos: Agreements to buy securities and sell them back later.
Key Rates: Bank of Canada overnight rate and U.S. Federal Funds rate influence repo agreements and short-term borrowing costs.
Q: What are the 3 features of Government of Canada Bonds?
Maturities range from 3 to 40 years.
Par value is $1,000 with interest paid semi-annually.
Quotes are expressed as a percentage of par value.
Q: What are Inflation-Protected and Provincial Bonds?
Inflation-Protected Bonds: Protect against inflation; called TIPS in the U.S. and Real Return Bonds in Canada.
Provincial Bonds: Issued by provincial governments or Crown corporations, typically to fund infrastructure or public services.
Q: What are Corporate Bonds and their 4 unique features?
Issued by private firms with semi-annual interest payments.
Can include options:
Callable: Issuer can redeem before maturity.
Retractable: Investor can force early redemption.
Convertible: Can be converted into equity (shares).
Q: What are International Bonds, and what are some examples?
A: International bonds are debt instruments issued in global markets, including:
Eurobonds: Bonds issued outside the home country in a different currency.
Maple Bonds: Foreign bonds issued in Canada, denominated in CAD.
Yankee Bonds: Foreign bonds issued in the U.S., denominated in USD.
Q: What are Municipal Bonds, and what types are available?
A: Municipal bonds are issued by cities, municipalities, or counties and generally offer higher yields. Types include:
General Obligation Bonds: Backed by the issuing entity’s credit and taxing power.
Revenue Bonds: Secured by revenues from specific projects or sources, such as toll roads or utilities.
Q: What are Mortgage-Backed Securities (MBS), and how are they guaranteed?
A: MBS provide proportional ownership in a mortgage pool and typically carry federal government guarantees:
Canada: Guaranteed under the National Housing Act.
U.S.: Backed by entities like Fannie Mae and Freddie Mac.
Q: What do equity securities (common stocks) represent?
A: Common stocks represent ownership shares in a corporation, giving shareholders voting rights (typically one share, one vote) and the ability to elect the Board of Directors.
Q: What is the concept of residual claim in common stock?
A: Residual claim means stockholders are last in line to claim the corporation’s assets and income, receiving payouts only after debts and other obligations are settled.
Q: What does limited liability mean for stockholders?
A: Limited liability ensures that stockholders can lose no more than their original investment in the corporation, even in the event of corporate failure.
Q: What are the key metrics used in stock market listings?
A: Dividend Yield: Annual dividend payment as a percentage of the stock price.
Capital Gains: Profit calculated as the sale price minus the purchase price.
Price-Earnings (P/E) Ratio: Stock price divided by earnings per share, indicating valuation.
Q: What is preferred stock, and how does it differ from common stock?
A: Preferred stock:
Pays fixed dividends, like a perpetuity.
Has priority over common stock in dividend payments and claims.
Can be redeemable (bought back by the issuer) or convertible into common stock.
Q: Why is the Price-Earnings (P/E) Ratio important in stock analysis?
A: The P/E ratio helps assess how much investors are willing to pay for each dollar of earnings, offering insights into a stock’s valuation and growth potential.
