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As I Study > Investment Planning - Pre Study > Flashcards

Investment Planning - Pre Study Flashcards

1
Q

Real Rate of Return

A
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2
Q

Benchmark need for lie insurance

A

10-16 x gross income

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3
Q

Health insurance benchmark

A

A client needs at least a $1 million lifetime cap pre-Affordable Care Act. ACA eliminated per illness or per lifetime caps

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4
Q

Disability insurance benchmark

A

If a client is paying premiums with after-tax dollars, then a policy paying about 60-70% of gross income is necessary.

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5
Q

Property and auto insurance benchmark

A

A policy that covers both home and auto for fair market value is appropriate.

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6
Q

LTC benchmark

A

A policy that covers both home and auto for fair market value is appropriate.

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7
Q

Personal Liability Umbrella Policy

A

Clients need a PLUP with $1-3M in liability protection.

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8
Q

Housing ratio benchmark

A

A client’s primary mortgage, which includes principal, interest, taxes and homeowner’s insurance should not exceed 28% of gross income.

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9
Q

The Housing Ratio Plus All Other Debt Ratio

A

A client’s primary mortgage plus all other recurring debt payments should not exceed 36% of gross income.

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10
Q

Retirement Benchmark Amount

A

A client’s primary mortgage plus all other recurring debt payments should not exceed 36% of gross income.

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11
Q

Education Funding Benchmark

A

Depending upon the university, a client should save $3,000, $6,000 or $9,000 per year for 18 years to fund a child’s education.

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12
Q

recession

A

six consecutive months (or two quarters) of declining GDP.

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13
Q

depression

A

if the recession lasts for 18 months or six consecutive quarters.

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14
Q

examples of debts that are not discharged through Chapter 7 bankruptcy

A

Students and Government loans. * 3 years of back taxes. * Alimony and Child support. * Monies owed due to malicious acts, drunk driving, criminal fines and penalties, or embezzlement. Debts related to fraud.

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15
Q

assets exempt from creditors through chapter 7 bankruptcy

A

Exempt property: homestead, life insurance, qualified plans

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16
Q

Emergency Fund Ratio

A

Current Assets ÷ Monthly Nondiscretionary Expenses

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17
Q

Consumer debt payments should not exceed…

A

20% of NET income

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18
Q

Housing debt should be less than or equal to…

A

28% of GROSS income

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19
Q

Housing plus all other recurring debt should be less than or equal to

A

36% of GROSS income.

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20
Q

Housing Debt Ratio Formula

A

Monthly Housing Costs (P+I+T+I) / Monthly Gross Income

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21
Q

Housing and all other debt ratio formula

A

Monthly Housing Costs (P+I+T+I) + all other recurring debt payments/ Monthly Gross Income

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22
Q

It’s appropriate to rent or lease if:

A

The client’s time in the property is going to be short (1-3 years).

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23
Q

2/6 ARM

A

the interest rate cannot increase more than 2% per year or 6% during the term of the loan.

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24
Q

Savings Ratio

A

Annual Savings (Employee + Employer Contributions) / Annual Gross Income

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25
Q
  • Required investment advisors to register with the SEC or state.
A

Investment Advisers Act of 1940

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26
Q
  • Required investment advisors to register with the SEC or state.
A

Securities Act of 1933

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27
Q

Regulates the secondary market and trading of securities. - Created the SEC to enforce compliance with security regulations and laws.

A

Securities Act of 1934

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28
Q
  • Authorized the SEC to regulate investment companies. - Three types of investment companies: Open, Closed, Unit Investment Trusts
A

Investment Company Act of 1940

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29
Q

Established SIPC to protect investors for losses resulting from brokerage firm failures. - Does not protect investors from incompetence or bad investment decisions. - Protects accounts member firms open for clients, regardless of the client’s citizenship.

A

Securities Investors Protection Act of 1970

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30
Q
  • Defines an insider as anyone with information that is not available to the public. - Insiders cannot trade on that information.
A

Insider Trading and Securities Fraud Enforcement Act of 1988

31
Q

What are defined as money Market Securities?

A

*Treasury Bills - Issued in varying maturities up to 52 weeks. - Denominations in $100 increments through Treasury Direct up to $5 million per auction. Larger amounts available through a competitive bid.

  • Commercial Paper - Short-term loans between corporations. - Maturities of 270 days or less and it does not have to register with the SEC. - Commercial paper has denominations of $100,000 and are sold at a discount.
  • Bankers Acceptance - Facilitates imports/exports. - Maturities of 9 months or less. - Can be held until maturity or traded.
  • Eurodollars - Deposits in foreign banks that are denominated in US dollars
32
Q

What does the investment policy statement establish?

A

“RR TTLLU” –> Risk, Return, Taxes, Time-line, Liquidity, Legal, and Unique circumstances

33
Q

Buying Government Securities:

A

Increases the money
supply and decreases interest rates.

34
Q

Selling Government Securities:

A

Decreases the money
supply and increases interest rates.

35
Q

1 standard deviation percentage

A

68%

36
Q

2 standard deviation percentages

A

95%

37
Q

3 standard deviation percentages

A

99

38
Q

what is coefficient of variation?

A
  • Coefficient of variation tells us the probability of actually experiencing a return close to the average return. * The higher the coefficient of variation the more risky an investment per unit of return.

CV= standard deviation/average return.

39
Q

Covariance

A
  • Covariance is the measure of two securities combined and their interactive risk. In other words, how price movements between two securities are related to each other.
  • Covariance is a measure of relative risk.

covariance is calculated as the deviation of investment ‘A’ times the deviation of investment ‘B’ times the correlation of investment ‘A’ to investment ‘B’

40
Q

Correlation or Correlation Coefficient

A

Correlation ranges from +1 to -1 and provides the investor with insight as to the strength and direction two assets move relative to each other.
COV of ab / (standard dev a) (standard dev b)

41
Q

beta

A

measures the volatility of a diversified portfolio against the market which is a beta of 1.
Beta= COV /variance of the market, or
standard dev of market x standard dev of individual security x correlation coefficient/ standard deviation of the market squared (or variance of market)

42
Q

R squared, or correlation coefficient

A

a measure of how much return is due to the market or what percentage of a security’s return is due to the market.
Square correlation coefficient.

43
Q

what must r squared be greater or equal to than for beta to be an appropriate level of total risk?

A

0.70

44
Q

the lowest level of risk one could expect in a fully diversified portfolio. It is inherent in the “system” as a result of the unknown element existing in securities that have no guarantees

A

systematic risk

45
Q

the risk that exists in a specific firm or investment that can be eliminated through diversification. Through ownership of a number of different securities or investments, the investor can eliminate this risk and insulate their investments

A

unsystematic risk

46
Q

Examples of systematic risk

A

PRIME
Purchasing power risk
Reinvestment rate risk
Interest rate risk
Market Risk
Exchange Rate Risk

47
Q

Unsystematic Risks

A

ABCDEFG
Accounting Risk
Business Risk
Country Risk
Default Risk
Executive Risk
Financial Risk
Government/Regulation Risk

48
Q

information ratio

A

relative risk-adjusted performance measure.
Measures the excess return and the consistency provided by a fund manager, relative to a benchmark.
- The higher the excess return (or Information Ratio) the better.
- Excess return can be positive or negative depending on the fund’s performance relative to its benchmark.

49
Q

Treynor Index

A

beta of a portfolio as its denominator, and the difference between the portfolio return and the risk-free return as the numerator,

A measure of how much return was achieved for each unit of risk. The higher the Treynor ratio, the better because that means more return was provided for each unit of risk.

50
Q

sharpe ratio

A

a “relative” risk-adjusted performance indicator.
A measure of how much return was achieved for each unit of risk. The higher the Sharpe ratio, the better because that means more return was provided for each unit of risk.
Sharpe Index measures risk premiums of the portfolio relative to the total amount of risk in the portfolio.

51
Q

when is it appropriate to use treynor ratio or alpha ratio?

A

when r squared is greater that 0.70 or when the portfolio is a diversified portfolio since these ratios use beta as the measure of risk.

52
Q

when is it appropriate to use sharpe ratio?

A

when r squared is less than 0.70 or when the portfolio is not well diversified since this ratio uses standard deviation as the measure of risk.

53
Q

relative performance measures

A

sharpe and treynor. always choose the higher one for optimal relative performance

54
Q

stand alone performance measure

A

alpha

55
Q

positive alpha

A

good

56
Q

negative alpha

A

bad

57
Q

Holding period return formula

A

(selling price - purchase price +/- cash flows) / purchase price or equity invested

58
Q

ARBITRAGE PRICING THEORY (APT)

A

multi factor model, sensitivity to those factors, and STD and Beta are not inputs.

59
Q

combined total payroll tax

A

a combined total payroll tax of 12.4 percent for OASDI up to $160,200 and 2.9 percent for Medicare (100 percent of compensation).

60
Q

Advantages to the Employer of QUALIFIED RETIREMENT PLANS

A
  • Employer contributions are currently tax deductible
  • Employer contributions to the plan are not subject to payroll tax
61
Q

What are the two types of DB Pension Plans?

A

DB pension plan and cash balance pension plan

62
Q

What are the two types of DC Pension Plans

A

Money Purchase Pension Plan and Target Benefit Pension Plan

63
Q

What are all 4 types of pension plans?

A

Defined Benefit
Cash Balance
Money Purchase
Target Benefit

64
Q

Which pension plans require annual actuaries?

A

Defined Benefit Pension plan and Cash Balance Pension Plan (both DB plans)

65
Q

Which pension plan requires actuary at inception?

A

Target Benefit Pension Plan

66
Q

Which social security integration can you use for both DB and DC plans?

A

Excess Method - provides an excess benefit to those participants whose earnings are in excess of soc sec wage base

67
Q

Which social security integration can you use for only DB plans?

A

Offset Method - reduces the benefit to those employees whose earnings are below the soc sec wage base.

68
Q

What are the entities that are allowed to establish a 401k?

A

Corporations
Partnerships
LLCs
Proprietorships
Tax-exempt entities

69
Q

Exceptions to 10% Early Withdrawal Penalty

A

*Death * Attainment of age 591⁄2 * Disability * Substantially equal periodic payments (Section 72(t)) * Medical expenses that exceed 7.5 percent of AGIa
* $5,000 per taxpayer for Birth or Legal Adoption * Qualified Domestic Relations Order (QDRO) * Qualified public safety employee, firefighter, or correction officer who separates from service after age 50 or with 25 years of service.
* Attainment of age 55 and separation from service * Terminal illness. Effective for distributions after 12/29/22.b
* Distributions up to an aggregate amount of $22,000 for qualified individuals in a qualified disaster zone. Effective retroactively for disasters occurring on or after January 26, 2021.c

70
Q

what is considered earned income?

A

-W-2 income
-Schedule C net income
-K-1 income from an LLC
-K-1 income from a partnership where the partner is a material participant
-Alimony (If divorce agreement was signed prior to or by 12/31/18. TCJA 2017)

71
Q

what is not considered earned income?

A

-Earnings and profits from property, such as rental income, interest income, and dividend income
-Capital gains
-Pension and annuity income
-Deferred compensation received (compensation payments postponed from a past year)
-Income from a partnership for which you do not provide services that are a material income-producing factor
-Any amounts excluded from income, such as foreign income and housing costs
-Alimony from a divorce agreement signed after 12/31/2018.
-Unemployment benefits
-Investment returns as a limited partner in a partnership Income flowing from an S-corporation via Schedule K-1
-Social Security benefits
-Worker’s compensation

72
Q

Prohibited IRA transactions

A

o Selling, exchanging, or leasing of any property to an IRA;
o Lending money to an IRA
o Receiving unreasonable compensation for managing an IRA;
o Pledging an IRA as security for a loan;
o Borrowing money from an IRA; or
o Buying property for personal use (present or future) with IRA funds.

73
Q
A

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