Investment Flashcards
Unsystematic/Nonsystematic risk is…
diversifiable (can be diversified)- risk minimized by owning securities in different industries with LOW positive correlations
not system wide, let’s avoid- business, financial risk.
Systematic risk is…
nondiversifiable.
system wide, can’t be avoided.
brokered CD risk? (vs. normal CD)
brokered CDs have (extra) Interest rate risk (that CDs don’t have)
T-bills, T-notes, T-bonds interest taxation
no state or local income tax on interest
EE bonds for education- taxation
UGMA/UTMA- child owns, so doesn’t qualify for education expense
parent ownership qualifies it for edu- tax free if AGI less than phaseout
option of having interest taxed each year or at maturity- federal only
municipal bonds (what to sell, keep?)
always keep safer GOs and insured bonds! (sell UNinsured revenue bonds, etc)
CMOs (mortgage-backed pools) ; (A to) Z tranches
classes of securities (A-fast pay, M-medium, Y-slow)
Z tranche- issue that bears no coupon (most risk) because cash flow comes from anything remaining after A-Y are paid…you’ll get a lot if everyone pays mortgages, but nothing if everyone defaults
put bonds
think put on sale, call to buy
for selling back to issuer- if interest rates went up and price of bond goes down, exercise it (put bond buyer sacrifices some yield for this privilege)
- can be used as protection to preserve gains should the stock go down
ADR (American Depositary Receipt)
best way to buy a foreign security with US Dollar
(open-end) mutual funds
open-end investment companies- sell share to investors after the initial offering of shares
- non-negotiable, not marketable…but redeemable
- future return projections are NOT allowed, only prior returns are allowed.
GIC (Guaranteed Investment Contracts)
like CDs but issued by insurance companies (value depends on financial strength of the issuer)
insurance co takes all market, credit and interest rate risks on GICs
GNMA
FNMA/FHLMC?
Mortgage-backed securities:
- GNMA (Ginnie Mae)-guaranteed by fed govt but not by US Treasury
- FNMA/FHLMC (Fannie Mae/Freddie Mac)- not guaranteed
-also called pass-through security
how does short-selling work
investor thinks that price of a security will go down but doesn’t own it…buy put (most you’ll lose is the premium) or sell short- selling short is riskier, since you sell borrowed (margin) security and repurchase when the price is lower, then return the security.
ex:
shorts $100,000 of stock and closes position at $55,000 ($45,000 gain). stock paid $2,000–>subtract, need to make up for it!
LEAP options (Long-Term Equity AncitiPation
LEAP option- publicly traded options contracts with expiration dates that are longer than one year- cheaper than stocks bc it’s option contract
hold for more than 1 yr and 1 day- long term rate. (exercise to sale)
Coefficient of variation (CV)
standard deviation/average return
higher=riskier
Standard deviation (1 sd, 2sd…%)
1: 68%; 2: 95%; 3: 99%
negative beta? (how does it move to market)
moves OPPOSITE to market
less than 1- fluctuates less than market
calculate risk-adjusted return (when return and beta given)
annual return/beta= risk-adjusted return (%)
negative real return possible?
yes when inflation is higher than return!
Geometric mean (time-weighted return) (calculator)- to evaluate performance of portfolio manager
- multiply all annual returns (30% as 1.3 and -20% as 0.8) [no change would be 1 because 0+1]
- answer is FV, -1 PV, N (number of years), solve for i
YTM (calculator)- effective yield
always assume SEMI annual compounding (unless it says annual)
SEMI for zeroes as well
TEY (NYC municipal example)
federal (ex: 37%), NY state (7%), and city (3%), making the marginal tax rate 47% instead of normal 37% only
basis points (ex: 4% plus 600 basis points)
600 basis points=6%!!!! so 4%+6%=10% total
R^2 (when to choose highest alpha, Treynor, Sharpe?
all high, then highest alpha, then Treynor
all low, then highest Sharpe
MIXED- highest Sharpe
alpha measures contribution of portfolio manager
stock split (how to calculate)
example:
5:2 split of 100 stocks is:
5/2 x 100 stocks=250 (new total number)
[quesitons may ask how many are issued in 5:2 split?-> 150]
-if it was $10 pre-split, 2/5 of $10= $4
ex-dividend date
to get cash dividend, stock must be purchased BEFORE (not on that date) ex-dividend date, which is 1 day before date of record for corporation (July 4th example: ex-div date July 5, record date July 6)
bonds: 10 points from par is how $?
price of 98.76 is?
$100
$987.6
TIPS
T=treasury security! can’t default, so only RIP risk (not DRIP)
- denominations of $1000
- fixed interest rate*
- semiannual variable interest payment as principal adjusted
- obligations of the federal govt
ex: $1000 TIPS that has paid $180 in interest and grown $300 in principal is sold for $1400. what amount is reported to the IRS?
- basis is $1000 + $300=$1300, so $100 gain is reported
UIT (fixed Unit Investment Trusts)
passive, UNITS, not shares
income distributed to UNIT holders
REITs
ordinary dividend (not qualified) not redeemable negotiable and trade on exchanges
don’t put REITs in taxable accounts. tax-deferred accounts like SEP -good.
publicly-traded reits (equity, mortgage, construction)- marketable, but nonpublic reits are illiquid/not marketable
phantom income (zero-coupon bond) is current income?
yes, CURRENT, not cap gain
beta of .60 means how volatile? %
60% as volatile as average stock
duration of a bond- don’t do formula…so how?
when bond pays coupon, pick next lower number under years of maturity
ex: 8 yr maturity, 6% coupon, selling for $110 when comparable bonds are paying 5%
so. ..not 8.00…6.63 is the answer
NAV (Net Asset Value)
No load fund
Open end: At the end of each trading day, the funds reprice based on the number of shares bought and sold. Their price is based on the total value of the fund or the net asset value (NAV).
no load fund- no sales, charge, so you can buy at NAV
qualified (commercial) deferred annuity
purchased with pretax dollars
joint and survivor basis- replacement cost of a single life annuity on survivor is included in first decedent’s estate
T-bills, T-notes, T-bonds
T-bills ($100 denominations; 3, 6, 12 months
T-notes ($1000+, 1 to 10 years)
T-bonds ($1000+, 10 to 30 years)
maintenance call
100 @ $75 with 50% margin= $3750, maintenance 30%
stock drops to $40
*60% initial margin would mean you pay that much and borrow 40%
maintenance call:
30% of current value ($40 x 100=$4000) required
=$1200
$4000-$3750=$250 (the equity you have left)
Maintenance call=$1200 - $250= $950
blue chip bonds
Blue chips generally sell high-quality, widely accepted products and services. Blue chip companies are known to weather downturns and operate profitably in the face of adverse economic conditions, which helps to contribute to their long record of stable and reliable growth
ETFs
may be open or closed-end, traded on major exchange, non-liquid
can be bought on margin, sold short, traded thruout the day, can do stop-loss and limit orders
buying stocks and options with margin
the stock purchase can be margined but NOT the option, so if you bough $7000 worth of stock, $3500 is margined, and $400 wouldn’t
immunization- what do you do
a portfolio is said to be immunized (neutralized) if the duration of the portfolio is made equal to a pre-selected time horizon for the portfolio. (offsets interest rate and reinvestment rate risk)
questions like: “he has a four-year time horizon”
(zero coupon bond’s duration = maturity)
sinking fund
- to reduce default risk
- may allow issuer to retire a portion of debt each year until maturity
- periodic payments required to fund it are generally same each period
- funds used to retire bonds at maturity or to retire a portion of issue each year after a specified date
4 probability distributions
normal, triangular, uniform, lognormal
Dow Theory
contradicts Modern Portfolio Theory and EMH, identifies the top of bull market and bottom of bear market
- technical analysis, active
- support and resistance levels
- Dow Jones Industrial Index and Dow Jones Transportation Index
REMIC
(Real estate mortgage investment conduits)
pass-through income
time-weighted (geometric)
dollar-weighted (IRR)
time-weighted to evaluate portfolio manager performance
EEs and I bonds- taxation
interest deferred unless owner can chose to be taxed each year
Black-Scholes option valuation
values option of non-dividend paying stock
wash sale
no loss deduction allowed- disallowed loss added to cost basis of the shares re-purchased
[can’t purchase identical stock 30 days before/after date of SALE]
ex: $25 basis, sold at $10, then purchased for $20 within 30 days
cost basis is now $20 + $15 loss= $35
HH bonds
taxed yearly
non-marketable with interest not subject to state and local taxes (like EE)
no longer issued or traded
protective put (out of the money puts?)
insures gain if stock falls in value
cost of the put is covered if the stock continues to go up
yield curve
positive- get t bills!
negative- short term better
1 option is how many shares?
“what’s the intrinsic value of the puts?”
1 option= 100 shares!
$2 put option, own 5 puts. EP is $50 and strike is $47
$50-$47=$3 intrinsic value
$3 x 100 shares x 5 options=$1500 is the answer
bonds
$1,000 par bond quoted at 110 means?
it’s selling at a premium of 10 points ($100 over par)
call option taxability (holder and writer)
- if you purchase 100 stocks @ $50 (held 13 mon) and call option for $3 premium for $40 strike price; sell stock for $45 and option for $6:
- $500 LTCL on the stock and $300 STCG on the option (NETTED $200 LTCL)
- if you purchase 100 stocks @ $50 (held one year) and call option for $300 at $60 strike price; sell stock for $65 and option for $500:
- $1500 LTCG for stock and $200 STCG for option (gains and gains cannot be netted)
- if you purchase 100 stocks @ $50 (held 1 year) and WRITE a call option for $60 strike for premium of $5, and it is exercised:
- $10 LT gain + $5 premium also becomes LT gain=$15 LTCG per share
stop-limit order
limit order and stop order combined:
Ex: “sell 100 GM 70 stop-limit” – once the stock sells at or below $70, it becomes a limit order to sell 100 shares at $70
what’s true if you buy a stock on margin?
the downside risk is amplified- for example, if the stock goes down by 30%, the rate of return can be -69%, whereas the potential upside gain would’ve been 51%.
US Treasury bonds taxed federally, state, local?
taxed federally, exempt from state and local
zero treasury bonds have phantom income (taxed)
current yield and bond price
if bond prices went up (due to demand etc), current yield would decrease because:
current yield= annual cash inflow/ market price
real rate of return problem example
Tom invested $25,000 and sold it for $40,000 5 years later. He’s in 15% tax bracket and inflation increased by 3.5%. Did he achieve “real rate of return” of 5%?
25,000 PV, $40,000 FV, 5 N, i=?
i=9.856%
(inflation adjust by dividing 1.09856 by 1.035, minus 1, x 100)
duration is used for…?
compare the price VOLATILITY of bonds with equal coupons but different terms on the basis on time
risk averse investors prefer low duration bonds, and aggressive investors prefer high duration only when they think interests will decline
zero coupon bonds
more interest rate sensitive, volatile (bc if rates increased, since there’s no income attached to it, you’d have to drop the price to sell)
R^2
Coefficient of determination (square of correlation coefficient)
Correlation +1 means?
Perfectly correlated. -1 is perfectly negative (moves opposite)
0 means no relation in movement
Marketable and non marketable assets
Marketable: brokered CDs, closed end funds, ETF
Non marketable: open end mutual funds (redeemed instead)
type of investment- maximum leverage and hedge against inflation?
improved land
stocks lose value during inflationary times
-mortgage REITs are highly leveraged but do poorly as well
naked call
naked put
naked call- unlimited loss potential
naked put- can’t go below zero…limited loss potential
covariance
correlation coefficient
coefficient of variation
risk adjusted return
covariance:
-how price mvt of (2) securities relate to each other
correlation coefficient:
+1.0 to -1.0 (perfectly correlated to perfectly negatively correlated)
coefficient of variation:
relative variability to compare investments with varying return and standard dev [=sd/mean]; larger=riskier
risk adjusted return: to standardize funds for risk [=return/beta] (higher=better)
what yield is generally most important to bond investor?
YTM (total return from a bond “effective yield”)
Yankee bond
Dollar denominated bond issued in US by foreign banks
STRIPS
normally purchased by pension plans- phantom income
?
Modern portfolio theory
Active.
Selecting an optimal combo of assets to secure the highest return for a given level of risk
