Equities Flashcards
How currency affect share price
Strong bad for export good for import
Weak good for export bad for import
3 ways political events affect share price
election - uncertainty eg green
Gove policy/spending - tax changes eg corporation tax
Geo politicalv- affect global supply chains eg war in russia
managing an equity portfolio in anticipation of a global recession:
Diversify - geography, sector
Defensive stocks - utilities
income stocks - strong dividend history
reduce exposure to luxury - eg travel, luxury goods
Increase fixed interest - ir goes up
increase cash - reduce volatility and increase chance to take advantage
relationship between equites/commodities and inflation
price increase/profit increase
demand increase/ price increase/profit increase
investor sentiment cycle applies to dividends and profits too
feelings - price - demand
negative and positive
how can takeover activity affect share price
acquiring - increase as offer includes premium. more so if hostile due to competition
Aquirer - short term decrease if overpaying
concern about debt
long term - increase if seen as good
The quality and track record of management affect share price
change
ability to recognise change and adapt quickly
Purpose benefit and risk of primary and secondary market
gov/co raise capital - get in early, riskier
traded between investors otc or exchange - liquidity - volatility
what is the purpose of aim
regulated market for younger companies to raise capital can’t have a full listing. less onerous requirements
4 differences aim to LSE
smaller cos
nomad
less regulation
less listing requirements
Give 5 costs involved in buying selling shares (describe)
- commission;
- stamp duty;
- stamp duty reserve tax (SDRT); and
- the Panel on Takeovers and Mergers (PTM) levy.
preference shares yield versus bond/ordinary shares 2 and 2 downside
higher than bond but lower than ordinary due to liquidation order, can be cumulative
no voting rights, fixed
Redeemable preference shares def
Fixed dividend for a short period then comany redeems
convertable pref shares def
gives the holder the option
to convert the shares
into a predetermined number of ordinary shares
at specific times or under certain conditions.
3 advantages of conv pref shares
income with growth pot if convert
Downside protection - just retain if ord share value down
Flexibility to switch when ord shares improve
4 decisions to convert pref shares to ord
If the market price of the ordinary shares exceeds the conversion price,
Positive financial performance and growth prospects of the company may encourage conversion
potential dividend yield from the ordinary shares post-conversion is higher than the fixed dividend
Favorable market conditions and bullish sentiment
what can impact dividend volatility (5)
Earnings
Economic cycles
industry specific
corporate actions
expenditure needs
impact of currency risk on portfolio
When a UK investor holds foreign equities, changes in the exchange rate between (GBP) and the currency of the country where the stocks are based can impact the value of the portfolio.
GBP strengthens against the foreign currency, the value of the foreign investments in GBP terms decreases, reducing returns.
Conversely, if the GBP weakens against the foreign currency, the value of the foreign investments increases, boosting returns.
currency risk mitigation (3)
derviatives
use currency hedged funds
diversifiy geography
define liquidity risk
Unable to sell their investments or are forced to at a price below their value
what is the bid offer spread
The bid-ask spread is the difference between the highest price a buyer is willing to pay for a stock (bid) and the lowest price a seller is willing to accept (ask).
It represents the transaction cost of buying or selling an equity, particularly relevant in markets with lower liquidity.
4 factors impacting bid offer spread
Liquidity of the Stock: wider spreads due to lower trading volumes and less competition among buyers and sellers.
Market Volatility: as market makers and traders demand higher compensation for the increased risk of holding positions.
Order Size: less liquid stocks, where executing large trades might require accepting less favorable prices
Market Hours and Trading Activity:
Bid-ask spreads tend to widen during off-market hours or at the open and close of trading sessions when trading activity is lower.
private equity feature
finance in return for an equity stake in
potentially high-growth, unquoted companies.
3 ways to access private equity
fund, fund of funds, listed co
2 advantages private equity
diversification in unlisted unquoted companies
potentially higher and faster returns at early stage
6 risks of private equity
high charges
high losses due to young cos failing
one product cos so vulnerable to recession
iliquid
volatile as trading volume low
Hard to value
Definition and use of EPS
the amount, in pence, that the company has earned during the year for each
ordinary share.
EPS enables an investor to see the trend in a company’s profitability.
dividend yield def and use
measures the dividend as a percentage return on the current share price.
to compare the current return on a share with the return that could be
obtained from bonds or deposits, or from an alternative share
3 reasons to be wary of dividend yield
- Some companies distribute a smaller proportion of the profits - Any retained earnings are not lost to shareholders
because they will finance future profits and dividends. - The yield will fluctuate with the share price and can look attractive simply because the
share price has slumped. - It is not necessarily a reliable predictor of future income, as the level of dividend could
change
dividend cover and defintion
measures how many times the dividend could be paid out of the
available current earnings.
It indicates the riskiness of the investment and the margin of
safety the company has in paying the dividend
3 implies of dividend cover
- The higher the figure, the more likely it is that the company will be able to maintain the
existing dividend if profits fall in the future. - A relatively high dividend cover implies that the company is retaining the majority of its
earnings for reinvestment in the business. - A company may pay a larger dividend than it has available profits for the year. It would
then draw on its reserves and is said to be paying an uncovered dividend,
p/e def and use
relationship between the share price and the
EPS. It is a measure of how highly investors value the earnings of a company.
It can be
viewed as a reflection of the market’s optimism or pessimism about the potential for future
growth in earnings
4 notes on p/e
- P/E ratios should only be used to compare companies in the same sector and should be considered in relation to the average of the sector.
- higher than the average for an industry sector, the shares of that company are in demand. The shares will be relatively more expensive, but investors would expect to be compensated by higher than average
earnings in the future. - A lower ratio than average would suggest that a company is not greatly favoured by
investors, probably because it has poor growth prospects. - a share with a higher P/E ratio is not automatically
a better buy than a share with a lower ratio. The higher growth expectations may already
have been taken into account in the share price, or it may just be that it is overpriced.
Nav def and use
value of the tangible assets that are
attributable to the ordinary shareholders.
the capital provided by the shareholders plus all of the profits the company has
retained in the business
5 notes on nav
- When calculating NAV, it is the nominal value of preference shares that is used £1
*useful guide to the price at which shares should trade for companies whose assets are generally readily realisable, such as property companies or investment
trusts. However, the share price will also be influenced by supply and demand.
- It is less useful for companies that are valued on their earnings potential, where the shares would generally trade above the NAV. This is because investors are willing to pay
something for the goodwill inherent in the business. - The NAV is a useful valuation figure in key circumstances:
– If a takeover bid is made, shareholders can compare the bid price to a realistic NAV to
check if the assets are being given away too cheaply.
– If a liquidation seems a possibility, the NAV provides shareholders with an indication of
the amount they might receive, and helps them to judge whether to hold onto or sell
the shares.
4 limitations of investment ratios
- Different accounting policies can be used to calculate profits and value assets, making comparisons between companies in the same industry difficult.
- The management may decide to change the accounting policy of a company over the
years, making comparisons over time misleading. - Many ratios have to be calculated using historical data from accounts. This may not be the best guide to future performance and investment potential.
- When considering trends over several years, periods where there has been high inflation can produce misleading figures. The reported figures may show an upward trend but, in real terms, they could be static or even declining.
Price-weighted index
Market-capitalization weighted index
Equal-weighted index
In a price-weighted index, the weight of each stock is based on its share price. Higher-priced stocks have a greater impact on the index value.
Example: The Dow Jones Industrial Average (DJIA) is a well-known price-weighted index.
market-capitalization weighted index, stocks are weighted according to their market capitalization (i.e., the total market value of a company’s outstanding shares). Larger companies have a greater influence on the index.
The S&P 500 is a prominent market-capitalization weighted index.
equal-weighted index assigns the same weight to each stock, regardless of its price or market capitalization. Each company contributes equally to the index’s performance.
Example: The S&P 500 Equal Weight Index is an example of an equal-weighted index.
Features of ftse 100 (3)
100 largest
market cap weighted
reviewd quarterly and cos can be added removed
3 advantages and 3 disadvantages of narrow main indices
Provides a snapshot of the performance of the largest and most liquid companies in the UK.
Widely recognized and used as a benchmark for UK equity investments.
The market-cap weighting approach ensures that the index reflects the overall market sentiment.
Heavily influenced by a few large companies, which can skew the index performance.
Does not represent the entire UK market, as it excludes smaller companies.
Sector biases may exist, particularly in industries where large companies dominate.
passive v active factors (5)
Fees
Outperformance / underperformance
market risk v manager risk
passive more diversified as whole of market
Goals - A passive approach may suit those seeking market returns with minimal cost, while an active approach might appeal to those looking for potential outperformance.
4 used of indices in portfolio construction
benchmarks to measure the performance
Indices help in determining the geographic and sector allocation of the portfolio.
Risk Management: Indices provide a reference for managing risk by ensuring diversification across different regions and sectors. .
Passive vs. Active Management: A fund manager may choose to replicate an index (passive management) or seek to outperform it (active management) by selectively investing in stocks that are expected to perform better than the index constituents.
3 Benefits and 4 Drawbacks of Using a Single Global Index as a Benchmark:
Benefits:
Diversification: A global index provides broad diversification across multiple regions and sectors, reducing the risk associated with any single country or market.
Simplicity: Using a single index simplifies the investment process and performance evaluation, as it provides a clear, unified benchmark.
Global Exposure: It allows investors to gain exposure to global economic growth and different market dynamics, including both developed and emerging markets.
Drawbacks:
Over-diversification: A single global index might lead to over-diversification, where the impact of individual stock or sector performance is diluted, potentially limiting upside potential.
Sector Biases: Global indices might have inherent sector biases (e.g., technology or financials dominating the index), which may not align with the investor’s desired exposure.
Currency Risk: Investing in a global index exposes the portfolio to currency fluctuations, which could affect returns depending on the investor’s base currency.
Tracking Error: If a fund aims to outperform the index, there may be a tracking error if the fund manager’s stock selection does not align well with the index performance.
narrower versus broad indices
Advantages:
Mid-Cap Focus: This makes it a better benchmark for funds targeting growth through mid-sized companies.
Diversification: The FTSE 250 includes a broader range of sectors and companies,
Limitations:
Market Capitalization not be appropriate for funds that invest significantly in large-cap stocks, as those would be better benchmarked against the FTSE 100.
Liquidity Concerns:
Sensitivity: Mid-cap companies may be more sensitive to economic downturns, making the FTSE 250 more volatile
