Investment Management Flashcards
how is expected returns calculated?
by taking the probability of each and multiplying that by the scenario return and summing the results
what does variance measure?
the extent to which returns ‘vary’ from the average return
what is standard deviation/
the square toot of variance, used a statistical measure of risk that depicts the likely variation from ER levels
what are the different types of risks when investing?
- market/systematic risk
- inflation risk
- interest rate risk
- reinvestment risk
- exchange rate risk
- political and legal risk
- regulatory risk
- Default Risk
- Liquidity risk
what is forward looking forecasting?
forecasts and probabilities which asses the likelihood of each possible state of the world occurring and estimates the returns given that particular outcome
what is backward-looking forecasting?
study of historical data and frequencies under the assumption that this will be representative of the future.
what is the risk profile for equities?
they are generally considered to be risky however they offer potential to deliver high returns if held long-term
what is equity risk premium?
the higher rate of return that is required to entice investors to take on the risk of owning equity
what would prompt an investor to go into money markets?
if they have an investment horizon that is very short and want a low-risk, relatively secure form of storage for their cash
what is the attractiveness bonds?
that they offer a regular, pre-determined coupon combined with the relative certainty of the principal amount being repaid
what are the risks that could affect bonds?
- interest rate risk (can cause adverse movement to bonds)
- inflation risk (value of the investment held may fall)
- default risk (risk of the issuer defaulting on their payment)
what are the risks around overseas shares and debt?
- currency
- country
what is diversification?
can remove some of the market risk without having to removing all high-risk investments from a portfolio by combining securities that are not perfectly, positively correlated
what is correlation?
the level of association between movements in price and returns of each asset
what are the different types of diversification?
- asset class
- maturity
what is hedging?
attempt to reduce risk, usually via derivatives- objectives is to buy and sell to reduce the exposure to market fluctuations, done by taking the opposite position to what is held within the portfolio via a derivative
how can futures contracts be used to hedge?
can be used to hedge against equity prices falling- will remove any upside as well as downside
what are the advantages of using futures contracts to hedge?
lower cost, greater efficiency and less portfolio disruption
what are the drawbacks to using futures contracts to hedge?
- futures contract may not directly emulate (adversely) the performance of the relevant index/instrument
- investor must know when to enter/exit the futures hedge
- there are operational and regulatory considerations to be made
how can options be used to hedge?
investors can purchase put options on those positions, meaning they have the right but not the obligation to sell at a given right. - they can enjoy the upside whilst also being protected from excessive loss
what is a CFD and how is it used in hedging?
contract for difference- doesn’t confer right of ownership to the underlying asset. tracks the price of an underlying asset- asset or fund managers can use them to gain exposure to market movements
how are CFDs traded?
margin-traded, the investor doesn’t have to deposit the full value of the underlying asset with the CFD provider
what are the benefits of CFDs?
- allow investors to benefit from the downward movements of equity positions or index
- enable fund managers to retain positions in the instrument but have a derivative position as well which makes it equivalent to short-selling a stock
- given amount of capital can control a larger positon
what are the costs associated with CFDs?
- commissions built into each deal
- costs built into the spread of the CFD price
- subjected to daily financing charge, usually applied at previously published interest rate e.g., SOFR
- have to pay financing on long positions and receive funding on short positions
