Investing Flashcards
What is a collar?
A collar is an investment strategy that trades some of the upside potential of an investment for downside protection. To implement, sell a call for the number of shares of a security that you own for a price that is higher than the current price. Use that money to buy a put for the number of shares that you own for the minimum price you want to accept (or can buy with the proceeds for the call you sold. If the investment value rises above the call price, the owner of the call will exercise the option, and you will surrender your holdings. If the investment value drops below the put that you own, you will exercise your option and cash out for your minimum price.
What is human capital?
The present value of all future earnings. This is a very important concept. It impacts your current lifestyle and your ability to save for the future. Taking steps to bolster your human capital is very valuable. The total of your future earnings equals the number of years that you will work multiplied by the amount you earn per year. To increase your human capital, you must work more years, earn more per year, or both. Self-improvement leading to the ability to earn more is vital.
What are the limitations and shortcomings of Monte Carlo analysis?
- Incorrect assumptions will lead to incorrect projections. Assumptions are guaranteed to be incorrect.
- Black box aspects: One doesn’t know how the various factors work together to create the projection.
- Chosen factors: One doesn’t know if the chosen factors are the most important, or if significant factors have been left out (and perhaps even be unknown or unknowable).
- A false sense of accuracy: Exact calculation of the probability of success is misleading.
- Failure may be improperly defined. Falling short by a single dollar may be deemed a failure, but is it? Where is the line drawn?
- Unnecessarily complicated. Probabilities can be calculated mathematically without all the show.
- It was never intended for short-term analysis or prediction.
- It makes no provision for the spending phase of your plan.
What is Risk Capacity?
Risk Capacity is the measure of how well you can endure a decline in your portfolio value without experiencing a substantial decline in your standard of living. An appropriate measure would be the amount of market decline necessary to cause you to cut back on your lifestyle.
