Investment Planning Flashcards
Describe Securities Act of 1933
Regulates the issuance of new securities (Primary Market )
Requires new issuance to be accompanied with a prospectus before being purchased
Describe Securities Act of 1934
Regulates the Secondary Market and trading of securities
Created the SEC to enforce compliance with security regulations and laws
What is the SEC
Securities Exchange Commission
That are the tree types of Investment Companies
Open, Closed, Unit Investment Trusts
Describe Investment Advisors Act of 1940
Required investment advisors to register with the SEC or State
Describe Securities Investors Protection Act of 1970
to protect investors for losses resulting from brokerage firm failures
does not protect investors from incompetence or bad investment decisions
protects member firms regardless of citizenship
Describe Insider Trading and Securities Fraud Enforcement Act of 1988
An insider is anyone with information that is not avail to the public
insiders cannot trade on this information
When is ex- dividend date
The date stock trades without dividend
One business day before date of record
Equation for Margin Position
Equity/ Fair Market Value
Equation for Equity (Margin calculation)
Stock- Loan Price
Equation for Margin Call
Loan/ (1- Maintenance Margin)
Define Treasury Bills
Issued in varying maturities up to 52 weeks
denominations in $100 increments through treasury Direct up to 5 mil per auction
Define Commercial Paper
Short Term loans between corporations
Maturities of 270 or less and it doesn’t have to register with SEC
Denominations of 100,000 and sold at discount
Define Bankers’ Acceptance
Facilitates Imports/ Exports
Maturities of 9 mos or less
Hold to maturity or trade
Define Euro Dollars
Deposits in foreign banks that are denominated in USD
What are the components of an Investment Policy Statement
- Return Requirements
- Risk Tolerance
- Times Horizon
- Liquidity
- Taxes
- Laws & Regulations
- Unique Circumstances
Describe Simple Price Weighted Average
average price of stock
does not consider percent allocation of the position within the portfolio
Describe Value Weighted Index
incorporates market capitalization of individual stocks into the average
Name Indices that use Simple Price Weighted Average
Dow Jones industrial average
Name Indices that use value weighted index
S&P 500
Russell 2000 (smallest market cap)
Wilshire 500
EAFE- tracks Europe, Australia, Asia
Behavioral Bias- Affect Heuristic
Deals with Judging something whether it’s good or bad.
Behavioral Bias- Anchoring/ Conservatism/ Belief Perseverance
attaching one’s thoughts to a reference point even though there may be no logical relevance or not pertinent to the issue in question
Behavioral Bias- Availability Heuristic
Decision maker relies on knowledge that is readily available in his or her memory.
Behavioral Bias- Bounded Rationality
Seeking satisfactory solutions rather than optimal ones
during decision making rationality is limited by the available information
Behavioral Bias- Confirmation Bias
Tendency to filter information and focus on information supporting their decision
Behavioral Bias- Cognitive Dissonance
Misinterpret information that is contrary to an existing opinion or only pay attention to information that supports and existing opinion
Behavioral Bias- Disposition Effect
“Regret/ Avoidance/ Faulty Framing. Investors make mental accounts when they purchase stock and then continue to mark their value as purchase price even when market price has changed
Behavioral Bias- Familiarity Bias
over/ underestimate risk of investments when they are familiar/ unfamiliar with them.
Behavioral Bias- Gambler’s Fallacy
investor having incorrect understanding of probabilities which can lead to faulty predeictions
Behavioral Bias- Hindsight Bias
looking back and assuming you can predict the future as readily as the past can be explianed
Behavioral Bias- Overconfidence Bias
investor listens mostly to self
Behavioral Bias- Illusion of Control Bias
overestimate ability to control events
Behavioral Bias- Overreaction
emotion towards new or info
Behavioral Bias-Prospect Theory
provides that people will value gains and losses differently and will base their decisions on perceived gain over losses. “loss averse”
Behavioral Bias- Recency
giving too much weight to recent observations
Behavioral Bias- Similarity Heuristic
decision or judgement is made when a similar situation occurs even though the situations may have different out comes
Standard Deviation
Measure of Risk & Variability of Returns
Coefficient of Variation Use
- Used to determine which investment has more relative risk when investments have different average returns.
- Tells the probability of actually experiencing a return close to average return.
- The higher the CV the riskier an investment per unit of return
Coefficient of Variation Calculation
Standard Deviation/ Average Return
Platykurtic Shape
Low peak, thin tail (lower change of extreme events)
Leptokurtic Shape
High Peak, Fat Tail (higher chance of extreme events)
Kurtosis
a variation of returns
Covariance
The measure of two securities combined and their interactive risk. (how price movements between two securities are related to each other
What is Covariance a measure of?
Relative risk
Correlation/ Correlation Coefficient
measure of movement of one security relative to that of another (relative risk measure)
Positive 1 Correlation means
Two assets are perfectly positively correlated
Correlation of 0 means
the assets are completely uncorrelated
Negative 1 Correlation means
perfectly negative correlation
Beta
a measure of an individual securities volatility relative to the market (systematic risk)
Beta of the market
1
Coefficient of Determination or (R squared)
a measure of how much return is due to the market or what percentage of a security’s return is due to the market.
Unsystematic Risk
Accounting Risk
Business risk
Country Risk
Default Risk
Executive Risk
Financial Risk
Government Regulation risk
Diversifiable Risk
Unique Risk
Company specific risk
Systematic Risk
Purchasing power (equities + bonds)
Reinvestment rate risk (bonds)
interest rate risk (equities + bonds)
market risk (equities+ bonds)
exchange rate risk (equities)
Non diversifiable risk
economy based risk
Efficient Frontier
The curve which illustrates the best possible returns that could be expected from all possible portfolios. in terms of risk and reward relationship
Indifference Curves
constructed using selections made based on this highest level of return given an acceptable level of risk. Represents how much return an investor needs to take on risk.
Efficient Portfolio
when an investors indifference curve is tangent to the efficient frontier
Capital Market Line
the Macro Aspect of the Capital Asset Pricing model. specifies the relationship between risk and return in all possible portfolios
What level of risk does Capital Market Line use
Standard Deviation
Capital Asset Pricing Model
Calculates the relationship of risk and return of an individual security using beta as its measure of risk
What does the information ratio measure
The excess return and consistency provided by a fund manager relative to a bench mark
Dividend Payout Ratio Formula
Common stock/ Earnings Per Share
Return on Equity Formula
Earnings per share/ stockholders equity per share
Dividend Yield Formula
Dividend/ Stock Price
What calculations are included in Fundamental Analysis?
Liquidity, activity, profitability, common stock measurements
Odd lot trading
trades less than 100 shares
The Dow Theory
Signals and end to a bull or bear market
Breadth of the market
Measures the number of stocks that increase in value versus the number of stocks that decline in value
Advance Decline Line
difference between the number of stocks that closed up vs the number of stocks that decreased in value.
Types of Active Asset Allocation
Strategic (yearly re-allocation), Tactical (frequent re- allocation)
Non Marketable Treasury Issues
Series EE/ E bonds, Series HH/ H Bonds, Series I Bonds
Marketable US Treasury Issues
T Bills, US Treasury notes, US Treasury Bonds
Describe the Liquidity Preference Theory
Lower yield for shorter maturities because investors prefer liquidity. Long term yield should be higher because of added risk associated with long term maturities
Market Segment Theory
Yield curve depends on supply and demand.
Expectations Theory
Yield curve theory- yield curve reflects investors inflation expectations
Unbiased Expectations Theory
Related to the term structure of interest rates. Assumes that todays long term rates are geometric averages of current expected and future short term rates.
Bond Duration
Weighted average of all cash flows
Longer the duration the more sensitive to interest rate changes
Modified Duration
Bond’s price sensitivity to changes in interest rates
Conversion Value equation
CV= PAR/ CP x Ps
Conversion Ratio
1000/ CP- the number of shares the convertible bond can be converted into.
How to calculate Net Asset Value (NAV)
Assets- Liabilities/ Shares Outstanding
Types of Mutual Funds
Aggressive Growth
Growth
Growth & Income
Value Fund
Balanced Fund
Bond Fund
Money Market Funds
index funds
sector funds
asset allocation/ life style funds
global funds
international funds
Intrinsic Value of Call Option
Stock Price- Strike Price….. cannot be less than 0
Time Value Equation
Premium- Intrinsic Value
Option Pricing Model- Black Scholes
considers current price of underlying asset, time until expiration, risk free rate of return, and volatility pf underlying asset.
Option Pricing Model- Put Call Parity
attempts to value put option based on value of corresponding call option.
Optio Pricing Model- Binomial Pricing Mode
values option assuming that stock can only move on one of two directions
