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CFP Review > Investment Planning > Flashcards

Investment Planning Flashcards

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1
Q

What is the yield for a T-Bill?

A

CDN: [(Par Value - Price)/Price] x (365/Term) x 100
USD: [{Par Value - Price)/Price] x (360/Term) x 100

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2
Q

How do you calculate the price paid for a T-Bill?

A

CAD: Purchase Price = (Par Value) / [1 + (Quoted yield x (Term/365))]
USD: Purchase Price = (Par Value) / [1 + (Quoted yield x (Term/360))]

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3
Q

How do you calculate ROR for a Money Market Mutual Fund?

A

ROR is always based on the 7-day return.
Current yield: 7-day return x (365/7) x 100
Effective yield: [(7-day return + 1)^(365/7) - 1] x 100

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4
Q

What is a debenture?

A

A debenture is an unsecured bond (no collateral)

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5
Q

When do stocks start trading with and without dividends?

A

Ex-Dividend: Without dividends; 1 business day before the dividend record date
Cum dividend: With dividends; 1 business day before the ex-dividend date

The ex-dividend date is 2 business days before the dividend record date.

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6
Q

What is Beta?

A

Beta measures the correlation of a security to the market: beta 1 = perfect correlation to market.
High B perform better in a rising market, low B perform better in decreasing market.

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7
Q

How is variance & standard deviation used with investments?

A

Variances and standard deviations are measures of risk - the higher they are, the higher the risk of the security.

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8
Q

What is the required returns formula?

A

Rr = Rf + [(Rm - Rf) x B]

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9
Q

What are Stop-loss/stop-buy order?

A

Stop-loss orders are a type of limit orders that lets you sell your security when it hits a specified price (eg. $50 today, stop-loss order at $45 to mitigate downside risk)
Stop-buy orders are the opposite of stop-loss orders, for short-selling stocks.

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10
Q

What are two methods of bringing stocks to the market using an IPO?

A

1) Best efforts basis - tries their best to sell all the shares and if they do, they are NOT liable
2) Bought deal - underwriter assumes the entire issue and sells issue, therefore liable for a loss if undersold, but can profit.

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11
Q

What is the difference between exchange-traded derivatives vs. OTC derivatives?

A

Exchange-traded derivatives are standardized (30/60/90/120 days), public information, have no default risk, and highly regulated.
OTC derivatives are flexible (1 day - 2 years), private information, have default risk, and lightly regulated.

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12
Q

What are some derivative types?

A

1) Rights - Incentive given to existing shareholders to buy additional shares at a discount, exercisable at a short period (1:1)
Prices of rights follow the price direction of the underlying stock.
2) Warrants - Like rights, but available to everyone and traded on the exchange.
3) Swaps - Exchanges a series of cash flows with another party.
4) Options - Right to buy/sell an underlying security at a predetermined price

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13
Q

What are the tax implications of options?

A

ACB = strike price ($x) + premium paid
If option expires worthless, the premiums become a capital loss subject to the 50% inclusion rule.

For call (put) writers, the premium is a capital gain.
If option exercised, the proceeds of disposition is the strike price plus (less) the premium received.

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14
Q

What are the 2 types of income trusts?

A

1) Real estate investment trusts (REITs)
2) Royalty trusts - eg. mining trusts

About 90-95% of income generated go to unitholders.

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15
Q

How do you calculate CPI?

A

CPI = (CPI1 - CPI0)/CPI0 x 100

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16
Q

How do you calculate the unemployment rate?

A

unemployed actively looking / work force (employed + unemployed)

17
Q

How do you calculate the market value of securities for MBSs?

A

Market Value = (Original FV x RPA Factor) x (price/100) + accrued interest

RPA Factor - remaining principal amount factor; determined at the end of month as % of principal remaining in pool
Price - reflects the change in investment value via interest rates. Par = 100.

18
Q

How do you calculate the PV of perpetual bonds?

A

PV = PMT / Nominal interest rate (i)

19
Q

How do you calculate the effective interest rate for bonds?

A

Effective Interest Rate = [(1 + (i/n))^n] - 1

i = nominal interest rate
n = number of periods

20
Q

How do you calculate:
- Current Yield
- YTM (aka. bond equivalent yield)
- YTC (YTM up to anticipated call date, not maturity date. Future value is face amount + penalty for early call)

A

Current Yield: annual interest payment / current price
YTM: solve for I/Y in financial calculator, x 2 to account for semi-annual bonds.
YTC: solve for I/Y in financial calculator accounting for penalty and reduced payment periods, x 2 to account for semi-annual bonds.

21
Q

What is the Liquidity Preference Theory?

A

The LPT states that investors perceive long-term bonds as riskier than short-term bonds, thus longer-term bonds must pay a higher rate to incentivize investment.

22
Q

What is the Duration of a Bond?

A

The duration of a bond is a number of years, calculated as the weighted average time to receive the present value of the interest and principal. So a zero coupon bond, always having a single cash flow, will have the same duration as its term.

Duration can be used to calculate the interest sensitivity of a bond.

23
Q

How are the volatility of two bonds, without measuring duration, compared?

A

Coupons - lower coupon will be more volatile
Term - longer term will be more volatile

24
Q

How do you calculate Duration?

A

Duration = [(PV of cash flow) x TTM] / Current Price

Alternate formula:
Duration = [(1 + YTM)/YTM] - [((1 + YTM) + n(C - YTM))/ [C(((1 + YTM)^N) - 1) + YTM]

25
Q

How do you measure the change in price of bond?

A

Change in Price = -((D x (Change in YTM/ (1 + YTM))) x P)
Percentage Change in Price = (Change in Price / Price)
= -(D x (Change in YTM/ (1+ YTM)))

26
Q

What is immunization?

A

Immunization is a passive bond investment strategy that protects an investor from interest rate risk, accomplished by purchasing a bond or bond portfolio that has a duration equal to the cash flow required by the investor.
The coupon payments are reinvested to minimize reinvestment and interest rate risk.

27
Q

What is convexity?

A

Convexity allows you to compensate for the curves in the yield curve to approximate the change in a bond’s price for a given change in interest rates throughout the yield curve.

Duration is only accurate for small changes in yield.
Duration underestimates the actual price increase via decrease in interest rates, and exaggerate the price decrease via increase in interest rates.
The magnitude increases as convexity increases.

28
Q

What is a callable bond and a put bond?

A

A callable bond is a long-term debt security with a special feature that allows the issuer the right, redeem the bond from the bondholder

A put bond is a long-term debt security with a special feature that allows the bondholder the right, but not the obligation, to sell the bond back to the issuer at a guaranteed price within a specified time frame

29
Q

What is a retractable bond and an extendible bond?

A

Retractable bonds are put bonds that include the provision that the bondholder can elect to redeem the bond at par at a particular date, provided that the election is declared within a specified time period. If the bondholder fails to make the election within the specified time period, then the original term to maturity will apply.

Extendible bonds are bonds that include the provision that the bondholder can elect to extend the term to maturity for the bond at a particular date, provided that the election is declared within a specified time period. If the bondholder fails to make the election within the specified time period, then the original term to maturity will apply.

30
Q

What are the different bond investment strategies?

A

1) Liquidity Strategies- Laddered, Barbell Approach
2) Quality - Screened by credit ratings
3) Maturity- Matching (choosing bond with TTM matching future need for income), immunization (matching duration to timing needs), strips (eliminates reinvestment risk by reinvesting strips at prevailing interest rates)
4) Swapping - Riding the Yield Curve (switching a bond for a favourable one in the yield curve), tax-advantaged investing (buying discount, low-coupon bonds so tax at maturity is CG instead of interest)

31
Q

How do you calculate mortgages in Canada?

A

On your calculator:

P/Y = 12 (Payment frequency)
C/Y = 2 (Compounding frequency) - Canadian residential mortgages compound semi-annually
N = Amortization years x 12 months
I = Annual interest rate
PMT = Monthly mortgage payment
PV = Value of mortgage they can get, now
FV = 0

32
Q

How do you calculate the total annual return on a stock market investment?

A

R = (D/P) + g

Where
D = Expected Annual Dividends
P = Current Market Price
G = Expected Annual Growth Rate

33
Q

How do you calculate the present value of dividends?

A

V = ((D0 x (1 + g))/ (Rr - g)

Where
V = Intrinsic Value
D0 = Expected initial dividend payment
Rr = Required rate of return
g = Expected dividend growth

34
Q

What is a margin call?

A

A margin call occurs when your leveraged investment drops in value, and the current max loan amount therefore drops as well.
You as the borrower must top up the margin account by the amount that the max loan amount dropped from the initial max amount to the current max amount.

35
Q

What is the cost of carry model?

A

The cost of carry model calculates the FMV for a future (incorporates the costs of carrying the financial instrument from the contract date to the settlement date).

F = S(1 + C - E)

Where
F - Future price
S - Spot price in cash market
C - cost of carrying the stocks to expiry date
E - Earnings paid by the financial instrument (as a %)

36
Q

When can European options be exercised?

A

Only on the expiry date

37
Q

What is Arbitrage Pricing Theory?

A

APT proposes that past or expected events are already reflected in the price of stocks and that the returns depend on the responsiveness of individual stocks to unexpected future events.

38
Q

What is the employee stock option deduction?

A

The employee stock option deduction allows an arm’s length employee to deduct one half of the amount of the resulting taxable benefit in the year.

CFP Review (7 decks)

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