Exam II Flashcards
What is the generic yearly long-term return for stocks?
9-10%
What does the Gerald Loeb faction of investors believe?
Put all your eggs in one basket
What does the Andrew Tobias faction of investors believe?
Don’t put all your eggs in one basket, it might have a hole in it
What are the benefits of owning more stocks?
- More stocks you own, the more likely one will be a tenbagger
- The more stocks you own, the more flexibility you have to rotate funds
- Spreading your stocks around several categories can minimize downside risk
What does Peter Lynch refer to when he says “Watering the weeds, and pulling the flowers?”
When people sell their winning stocks and holding onto losers
What does Lynch want investors to convince themselves, and what does he want to banish?
Convince yourself, “when I’m down 25% I’m a buyer” and banish “when I’m down 25% I’m a seller”
What trading tool is Peter Lynch not a fan of?
Stop losses / Stop orders, they turn positions into automatic losers
When are the two best times when bargains can be found in the market?
- October through December
- During market collapses
Why is the holiday season the time period with the greatest drops?
- Tax harvesting
- Liquidating for holidays
- Cleaning up portfolios for review
Why might it be a good idea to buy during a stock market collapse?
Because although the stock market may implode, the fundamentals and business of the firms are still healthy
What is the drumbeat affect?
Being convinced to make buying or selling decisions by surrounding noise on the street and people around you
What are the problems with the APT?
- No way to tell what the factors are
- Large amount of computation power is constraining
- No economic justification
What are the 3 popular measures of portfolio performance?
- Treynor Ratio (Reward - Volatility Ratio)
- Sharpe Ratio (Reward - Variability Ratio)
- Jensen’s Alpha
What are 3 additional measures of portfolio performance?
- Fama’s Measure of net selectivity
- Attribution Analysis
- Information Ratio
What is Fama’s measure of net selectivity?
Return Due to Net Selectivity = Return Above the Market - Return Due to Lack of Diversification
What is attribution analysis?
Performance can be attributed to an allocation effect and a selection effect
What is the information ratio?
The managers excess returns over the benchmark
What are the 6 characteristics of a benchmark?
- Unambiguous: Names and weights of securities are clearly delineated
- Investable: You can buy into the index and forgo active management
- Measurable Returns
- Appropriate for a manager’s investment style
- Reflective of Current Investment Opinions
- Specified in advance
What are the 4 global views of market efficiency?
- We will have a large number of profit maximizing investors analyzing securities independently of each other
- New information will arrive in a random fashion
- Security prices reflect new information rapidly
- Therefore, price changes will be independent and random
What are the 3 classic types of market efficiencies and what do they entail?
- Weak Form Efficiency: Current stock prices fully reflect all the information contained in historic stock market data
- Semi-Strong Form Efficiency: Current stock prices fully reflect all publicly available information
- Strong Form Efficiency: Current stock prices fully reflect all information, publicly available and private information
What are tests of weak form efficiency?
- Tests of weak form efficiency are tests of random movement.
- If the movement in stock prices is random or independent the market is said to be weak form efficient.
- If the price movements are dependent on each other from trade-to-trade or day-to-day the market is not weak form efficient.
What are the 3 types of tests for weak form efficiency?
- Test of serial or autocorrelation
- Runs test
- Filter rule
What is a test of serial or autocorrelation test of weak form efficiency?
- Measure the correlation of the returns of a security on day t, to the returns of security i on day t + 1
- If the correlation is significantly different than zero the market is not weak form efficient
What is a Runs test of weak form efficiency?
- Looks at the sign of successive price changes of security i over time
- If there are significant runs, the market is not weak form effiicent
What is the filter rule test of weak form efficiency?
- Buying and selling based on some % of price movement
- If you can make a profit from the filter rule, the market is not weak form efficient
What costs go up when the market closes?
Transaction costs go up, as liquidity and volume goes down
Returns to a fund can be broken down into what 4 components?
- Asset allocation
- Market timing
- Security Selection
- Other
What are 3 popular ways to approach asset allocation?
- Cash Flow Requirements Approach
- Historical Risk and Return Approach
- Asset Pricing Models
How do you calculate the cash flow requirements approach to asset allocation? And What are the advantages and disadvantages of using it?
- Initial Wealth + Cash Outflow = (Initial Wealth - X)(1+%) + X(1+%)
- Advantage: Simple calculation
- Disadvantage: Ignores risk
How do you calculate the historical risk/return approach to asset allocation? And What are the advantages and disadvantages of using it?
- Calculate the historical return and risk of the different asset classes and compare them
- Advantage: Considers risk
- Disadvantage: Does not identify optimal
What asset pricing models could be used to for asset allocation?
- APT
- CAPM
- MEF
What are 2 speculative strategies associated with asset allocation?
- Tactical asset allocation
- Security selection
What is a mortgage bond?
A bond secured via physical assets
What is an equipment trust certificate?
A bond secured by a specific asset, such as plane or train, usually used in transportation industry
What is a collateral trust bond?
A bond secured by bonds or stocks in another corporation
What are the details of a bond listed?
The bond indenture
What is a bond’s nominal yield?
The coupon rate
What is a bond’s current yield?
Annual coupon payment and current price
What is a bond’s promised yield or yield to maturity?
The amount an investor will receive if they hold the bond to maturity
What is a bond’s yield to call?
The amount an investor will receive if they hold the bond to call
What is a bond’s realized yield?
The amount an investor receives when the bond is sold before maturity
What 4 theories may explain the shape of the yield curve?
-Expectations hypothesis
- Liquidity preference / premium theory
-Segmented markets or preferred habitat
- Eclectic theory
What is the expectations hypothesis in regards to explaining the yield curve?
- The long-term rate is a geometric mean of the current and future short-term rates.
- Well accepted, explains any curve
What is the liquidity preference theory in regards to explaining the yield curve?
- Investors prefer short-term bonds, where the payoff of the premium is more certain. To invest in longer-term bonds, they must receive a premium
- Well defined, additive theory
What is the segmented markets or preferred habitat theory in regards to explaining the yield curve?
- Investors have particular maturity segments in which they wish to invest. In each segment, the yield curve is determined by supply and demand.
- Holding supply constant, as demand goes up, prices goes up, and yield goes down. As demand goes down, price goes down and yield goes up.
- Less well accepted, can explain any curve
What is the eclectic theory in regards to explaining the yield curve?
- Investors have a predetermined long-term rate in mind, perhaps determined by experience. If the short-term rate is below that, they perceive the yield curve as ascending.
- Less well accepted
