Fundamentals Of Investments Flashcards
What are the two forms of underwriting?
- Best Efforts
2. Firm Commitment
Best efforts underwriting
The underwriter agrees to sell as much of the offering as possible
Risk of issue not selling is with the firm because any shares not sold to the public are returned to the company
Firm commitment underwriting
Underwriter agreed to buy the entire issuance of stock from the company
Might buy the stock from company for $18 a share and sell to the public at $20 per share
-risk that issuance may not sell resided with underwriter
What is a prospectus?
Outlines the risks, management team, business operations, fees, and expenses.
Prospectus must be issued by an investment company prior to selling shares to an investor
Red Herring
Preliminary prospectus issued before the SEC approval and is used to determine investors internet in the security
10K
10k is an annual report of financial statements filed with the sec
It IS audited
10Q
10Q is a quarterly report that is filed with the sec
It Is Not audited
Annual report
Reports progress in past year and outlook for coming year
Report is sent directly to shareholders
Market order
Timing and speed of execution are more important than price
Limit order
Price at which trade is executed is more important than timing
Stop order
Price hits a certain level and turns to a market order
Primary risk is that investor may receive significantly less than anticipated if the market is moving to quickly
https://www.youtube.com/watch?v=GodKseSPFtE
Stop loss limit order
The investor sets two prices:
- The first price is the stop-loss price, once the price is reached the order turns to a limit order.
- The second price is the limit price. An investor will not sell below the second price.
The risk is that if the market moves quickly, the order may not fill and the investor will be left with the
stock at a significantly lower price.
A stop-loss limit order is appropriate for investors with a significant gain built into the stock, but may
not want to sell the stock during a period of significant volatility based on short-term news.
Short Selling
- selling at a higher price, in the hopes of purchasing the stock back at a lower price.
- investor makes profit when the assets price decreases in value
- investor must have a margin account to protect against any price appreciation of the stock.
- no limit on his long an investor can maintain the position.
- dividends paid by a corporation must be covered by the short sellers.
Initial Margin
- reflects the amount of equity an investor must contribute to enter a margin transaction
- regulation T set the initial margin at 50% and was established by the federal reserve
- on exam assume 50% margin requirement unless stated.
- can be more restrictive depending on the stock
Maintenance Margin
Minimum amount of equity required before a margin call
Margin position
Current equity position of he investor
*See Image
At what price does an investor receive a margin call?
Formula to determine the price the investor will receive a margin call.
Formula is NOT given on exam need to memorize.
See image for example and formula.
How much equity must an investor contribute to restore their equity position?
- when an investor receives a margin call, they just contribute equity to restore their position.
- for CFP exam an investor must restore their equity position to the maintenance margin rate.
Margin equity contribution example
Value line
- ranks stocks on a scale of 1 to 5 for timeliness and safety
- 1 represents the highest ranking (buy signal)
- 5 represents the lowest ranking (sell signal)
Morningstar
- ranks mutual funds,stocks, and bonds using 1-5 stats
- 1 star represents the lowest ranking
- 5 star represents the highest ranking
Ex-Dividend Date
- sell on the ex dividend date, you will receive a dividend
- if you buy on or after the ex dividend date, then you will not receive the dividend.
- one business day before the date of record
Date of record
- date on which you must be a registered shareholder to receive a dividend
- one business day after the ex dividend date
Cash dividends
- Qualified dividends receive capital gains treatment
- taxed upon receipt
Stock Dividends
Not taxable to the shareholder until the stock is sold.
Stock split
A 2-for-1 split for an investor with 100 shares at $50 per share.
O
How many shares after the split?
Answer: 100 shares x 2 = 200.
O
How much is the stock after the split?
Answer: $50 per share ÷ 2 = $25 per share.
A 3-for-2 split for an investor with 100 shares at $60 per share.
O
How many shares after the split?
Answer: 100 shares x 1.5 (3 ÷ 2) = 150 shares.
O
How much is the stock after the split?
Answer: $60 per share ÷ 1.5 (3 ÷ 2) = $40.
Securities act of 1933
-regulates the issuance of new securities (prime market)
Securities act of 1934
Regulates the secondary market and trading of securities.
Created the SEC to enforce compliance with security regulations and laws
Investment company act of 1940
Authorized the SEC to regulate investment companies
Investment Advisors act of 1940
Requires investment advisors to register with the SEC or State
Securities investors protection act of 1979
Established SIPC to protect investors for losses resulting from brokerage firm failures.
Does not protect investors from negligence.
Insider Trading and securities fraud enforcement act of 1988
Defines an insider - anyone with information that is not available to the public
Insiders cannot trade on that information
Treasury bills
- issue in varying maturities up to 52 weeks.
- Denominations in $100 increments through treasury direct up to $5 million per auction. Larger amounts available through a competitive bid.
Commercial paper
- short term loans between corporations
- maturities of 270 days or less and it does not have to register with the sec
- denominations of $100,000 and are sold at a discount
Bankers Acceptance
- facilitates imports/exports
- maturities of 9 months or less
- can be held until maturity or traded
Eurodollars
-deposits in foreign banks that are denominated in US dollars
Investment policy statement
- does NOT include investment selection
- establishes: client objectives, limitations on investment manager
- used to measure investment managers performance
IPS establishes - “RR TTLLU”
Risk Return Taxes Time line Liquidity Legal Unique circumstances
Dow Jones industrial average
Simple price weighted average (see photo)
The DIJA does not incorporate market capitalization
S&P 500
Value weighted index - incorporated market capitalization of individual stocks into the average
Russell 2000
A value weighted index of the smallest market capitalization stocks in the Russell 300
Wiltshire 5000
- the broadest index that measures performance of over 3000 stocks
- value weighted index
EAFE
- tracks stocks in Europe, Australia, Asia, and the Far East.
- value weighted index
Herd mentality
The process of buying what and when others are buying and selling
Leads to:
Buying high
Selling low
Naive diversification
Process of investing in every option available to the investor
-common with 401k or other employer sponsored retirement plans
Representativeness
Thinking a good company is a good investment without regard to an Analysis of the investment.
Familiarity
Causes investment in companies that are familiar
Such as an employer
