Investment Planning

Question 1

What is the ranking of the 6 types of creditors (least safe to safest)?

Answer 1

1. Mortgage liabilities and ABS.
2. Secured debt.
3. Unsecured debt.
4. Capital securities.
5. Preferred shares.
6. Common shares.

Question 2

What is the taxation of income paid on fixed income securities?

Answer 2

1. Interest income is 100% taxable.

Question 3

Why might someone invest in real estate?

Answer 3

1. Offers capital appreciation (growth).
2. Provides income.
3. Hedge against inflation.

Question 4

Why might someone want bonds in their investment portfolio?

Answer 4

1. Reduce risk.

2. Produce income.

Question 5

Why might someone invest in alternative investments?

Answer 5

1. increase returns more than risk (and vice versa).

2. increase portfolio’s absolute return (resilience to capital erosion in market downturns).

Question 6

What are the types of alternative investments?

Answer 6

1. Hedge funds.
2. Private equity.
3. Commodities - futures on physical goods (e.g. wheat)
4. Collectibles.
5. Crypto.

Question 7

What are a few different types of bonds?

Answer 7

1. Strip - bought at a discount and mature at par value.
2. Callable - issuer has right to redeem bond prior to maturity.
3. Real return - bond price is indexed for inflation by adjusting face value.
4. Puttable - gives holder option to redeem bond for par value before maturity.

Question 8

What is the rule of thumb for how much equities an investor should have in their portfolio?

Answer 8

1. 100 - investor age = equity weighting (e.g. I’m 27, 100-27 = 73% weighted to equities. Balance can be fixed income and cash).
2. Life cycle approach - adjust allocations based on where investor is in life (e.g. retirement = more fixed income and less equity).

Question 9

What are some advantageous features of ETFs over mutual funds?

Answer 9

1. Lower costs - passively managed, smaller MER.
2. Transparency - holdings are released daily.
3. Tax efficiency - less trading, thus fewer taxable events.
4. Liquidity - trading done via exchange during market hours.

Question 10

What are the rules around Labour-Sponsored Venture Capital Funds?

Answer 10

1. Investors receive 15% federal tax credit up to an investment amount of $5,000 ($750 credit).
2. Some provinces also have 15% credit, thus 30% total credit.
3. Qualified for RRSP.
4. Minimum holding period of 8 years.

Question 11

What are the type of asset allocation strategies?

Answer 11

1. Strategic - benchmark asset mix designed to achieve client’s long-term goals.
2. Tactical - take short-term positions to profit from market conditions (e.g. selling equities after market rally).
3. Dynamic - allocation continually adjusted to minimize downside risk and maximize returns for investor.

Question 12

What type of investment(s) should be held in registered accounts?

Answer 12

1. Fixed income - has interest income which has least favourable tax treatment.
2. REITs - cash flow is passed to investors, attractive for those seeking income.

Question 13

What type of investment(s) should be held in non-registered accounts?

Answer 13

1. Canadian stocks - dividends and realized capital gains are the most favourably taxed kinds of investment income.
2. Foreign stocks (with low/no dividends) - similar to above, just not the case for foreign dividends.
3. Preferred shares - payouts are eligible for dividend tax credit

Question 14

What are the type approaches to fundamental investing?

Answer 14

1. Top-down - fund managers identify macro trends, then specific sectors, then specific securities in those industries.
2. Bottom-up - starts by analyzing individual companies, then prospects for the industry, then general economic environment.

Question 15

What is technical investing?

Answer 15

1. Study of historical stock prices and market behaviour to identify recurring patterns in data.

Question 16

What is the formula for measuring portfolio returns?

Answer 16

1. Rp = [MVE – MVB – Con’t + Withdrawals] / [MVB + Con’t]

Question 17

What is true about a bond’s term, coupon, yield and modified duration?

Answer 17

1. The lower the yield, the greater the modified duration.
2. The longer the term to maturity, the greater the modified duration.
3. The lower the coupon rate, the greater the modified duration.

Question 18

What does a bond’s duration measure?

Answer 18

1. A bond’s price sensitivity to changes in interest rates.
2. The longer the term to maturity, the greater the modified duration.
3. The lower the coupon rate, the greater the modified duration.
4. The lower the yield, the greater the modified duration.
5. Modified duration is always less than the term to maturity.

Question 19

What is the formula to calculate modified duration?

Answer 19

1. MD = Macaulay Duration / [1 + y/k]

2. y = yield, k = # of coupon payments per year.

Question 20

What is bond immunization?

Answer 20

1. A strategy used to minimize interest rate risk of bonds by adjusting the portfolio duration to match investor’s time horizon.
2. Goal is have investor receive specific rate of return regardless of what happens to interest rates.

Question 21

What is the formula for a bond’s current yield?

Answer 21

1. Current yield = (annual cash flow/current market price) x 100.

Question 22

How do you calculate the Yield To Maturity (YTM)?

Answer 22

1. YTM = (interest income +/- price per compounding period) / (purchase price + par value)/2) x 100.

Question 23

What does the Correlation Coefficient determine?

Answer 23

1. Whether two securities have a negatively or positively correlated relationship.
2. Ultimate diversification occurs when securities are perfectly negatively correlated (p = -1).

Question 24

What is the Capital Asset Pricing Model (CAPM) formula?

Answer 24

1. E(Rf) = Rp + Bi x [E(Rm) - Rp].
2. E(Rf) = expected return on asset.
3. Rf = risk-free return.
4. Bi = asset’s beta.
5. E(Rm) = expected return on market portfolio.

Question 25

What does Beta measure and tell us?

Answer 25

1. Measures sensitivity of asset’s return to the return on the market portfolio (aka systematic risk).
2. B > 1, systematic risk of asset > market.
3. B < 1, systematic risk of asset < market.

Question 26

What is systematic and unsystematic risk?

Answer 26

1. Systematic - Risk inherent to entire market (undiversifiable/ market risk) and is impossible to completely avoid.
2. Unsystematic - Risk inherent in each investment that can be reduced via diversification.

Question 27

What does Alpha tell us?

Answer 27

1. Measures performance on a risk adjusted basis (unsystematic risk).
2. A positive alpha reflects positively on a PM (and vice versa).

Question 28

What does Jensen’s Alpha capture?

Answer 28

1. Quantifies the degree to which a PM has added value.
2. If positive, PM has produced more return than predicted.
3. Jp = Rp - [Rf + Bp (Rm - Rf)].

Question 29

What does Treynor Index capture?

Answer 29

1. Measures performance of one specific portfolio while holding assets in another.
2. Tp = (Rp - Rf) / Bp.

Question 30

What does Sharpe Ratio capture?

Answer 30

1. Measures excess average return per unit of total risk.

2. Sp = (Rp - Rf)/σp.

Question 31

What is fiscal policy?

Answer 31

1. Use of gov’t taxing and spending powers to manage behaviour of economy.

Question 32

What is monetary policy?

Answer 32

1. Management of money supply within country via central bank.
2. Goal is to preserve value of money by keeping inflation low, stable, predictable.
3. Done via:
   - Overnight rate - FI’s lend to each other.
   - Bank rate - BoC lends money to chartered banks.
   - Open market ops - BoC buys govt’s bonds to inject money into economic or sells them to remove money.