Investment Vehicle Characteristics (25%) Flashcards
Pricing of Treasury securities
- each point is $10
- each 0.1 point is 1/32 of $10 ($0.3125)
Convertible Debt Calculation
- always divide par value by the conversion price
Calculating a Bond’s Parity Price
- Take the bonds market price and divide by conversion ratio
- Take current stock trading price and multiply by conversion ratio
- Divide current price of bond by conversion ratio
Current Yield
Return / Investment
- return is always annual interest in dollars
Bond Ladder
Discount
Y - yield to call
M - yield to maturity
C - current yield
A - annual coupon
—
Premium
A - annual coupon
C - current yield
M - yield to maturity
Y - yield to call
T-Bills
- issued and traded at a discount
- no stated interest rate
- highly liquid
- 13 week treasury is used as risk free rate
Liquidation of a Company (in priority)
- Secured creditors
- Unsecured creditors
- Subordinated creditors
- Preferred stockholders
- Common stockholders
Tax Equivalent Yield
Muni Coupon / (1 - tax bracket)
Eurobond and Eurodollar Bonds
- Bond issued outside the United States but interest and principal is paid in US dollars.
- US government does not issue theres, foreign and domestic corporations and governments do however
- Eurobond pays in foreign currency. Eurodollar pays in US dollars
- Free from filing with the SEC, have lower issuance costs
- Yields are higher due to political and country risks
Yankee Bond
- Non US entity bond sold in US markets in US dollars
Advantages of Eurodollar Bonds
- No currency risk to investors
- Rated by US rating agencies
- Offer higher yields than domestic bonds by same issuer
Disadvantages to Eurodollar Bonds
- Lack of transparency, no registered with SEC
- Political and Country risk
- Less Liquid than domestic issues
- Currently risk
Brady Bonds
- In US dollars
- Maturities ranging from 10-30 years
- Relatively high safety
- Countries who participate reduced overall debt levels
- Banks sovereign risk was diversified
- Encouraged emerging markets to undertake economic reform
- Gave emerging markets broader access to economic reform
- DOES NOT CARRY US GOVERNMENT GUARANTEE
Zero Coupon Bonds
- Nominal rate is zero
- Always issued at discount
- No reinvestment risk
- More volatile than other bonds
- No interest is received but taxes are owed making it phantom income
- Useful for targeted goals
- Higher level of credit risks
Advantages of Convertible Debt
- If stock declines in value, you don’t convert and continue as a creditor being paid interest semi annually.
- If stock rises convert to stock. Has upside potential with very little downside.
Negotiable CD’s
- Allows for open market sales
- Must have $100k or more in value
- NO prepayment penalty
- FDIC insured up to $250k
- Pay interest semiannually
- Issued at par, not discount like other money markets
Commercial Paper
- Primarily used to raise working capital
- Exempt at registration at federal and state level
- Maximum maturity of 270 days
- Issued at discount, no interest received
London Interbank Offered Rate (LIBOR)
- World’s most widely used benchmark for short-term interest rates
- Replaced by Secured Overnight Financing Rate (SOFR)
Why recommend Money Market securities to clients?
- Highly Liquid
- Very safe
- Best place to store money needed soon
Demand Deposit
- Checking Account
- Now includes Savings and Money Market Accounts
Time Deposits (Non-negotiable CD’s)
- Cannot be traded
- 3 months to 5 years
- If redeemed before maturity, can incur penalties
- Capital preservation with no risk
- No interest rate risks
- Liquid assets
- Carries purchasing power risk
- Yields are low
Current Market Price
Annual Dividend / income return
Treasury STRIPS
Zero Coupon bonds that don’t pay until maturity
Current Yield when given EPS
(EPS x Dividend payout ratio) / current market price
Are debt securities generally safer than equity securities?
Yes, because of obligation of issuer.
Sovereign Debt
Bonds and other debt instruments issued by by a specific country
Diversifed Managed Investment Companies
- At least 75% of the assets invested
- The 75% must be invested in such a way that no more than 5% of the funds assets are in one issuer and funds own no more than 10% of outstanding securities of one issuer
- No restrictions on the other 25%
If rules are not met its non-diversified
Open Ended Company
- Continuous primary offering
- Prospectus required
- Issues common shares only
- Must redeem shares
- No secondary trading
- Price by formula only (total value / shares outstanding)
- 8.5% max sales charge
- Ex-date set by BOD
Closed-End Company
- Shares fixed
- No prospectus after IPO
- Issues Common, preferred and/or bonds (always common)
- Shares not redeemable
- Price set by supply and demand
- Commissions
- Ex-date set by DEA (regulations)
Pricing of Closed and Open-End Funds
- Closed End = market demand
- Open End (forward pricing end of day) = NAV = (assets - liabilities) / number of shares
- If Sales Charge, add to NAV to get POP (same as ask)
- Sales charge %, divide SC by Public offer price
** you never get to buy at current price but always the next price (open-ended)
Solving for POP if given sales charge percentage
POP = NAV / (1-SC%)
Investment Companies defined by the Investment Companied Act of 1940
- Face-amount Certificate
- Management Investment Companies
- Unit Investment Trusts
Face Amount Certificate
- Alternative to banks
- Hybrid between Zero-Coupon bonds and CDs
Mutual Fund Prohibited Activities
- Purchase any security on Margin
- Cannot participate in Joint basis in any trading of securities
- Sell any security short
- Acquire more than 3% of the outstanding voting securities in another company
Changes in Investment Policy
- Must have majority vote from outstanding voting stock
- Examples include changing from open to closed, changing investment objectives, changing nature of business
Front-End Loads (Class A)
Difference between POP and net NAV
- Referred to as Class A shares
- Have lower operating expenses
Back-End Loads (Class B)
- Contingent deferred sales charge or load
- Charged at time redeemed
- Reduced annually, drops to zero after 6-8 years when they convert to Class A.
Referred to as Class B shares
12b-1 Fees (Class C)
- Typically 0.5% of assets, cannot exceed 0.75%
- If exceeding 0.25% cannot use term no-load
In order to charge a 12b-1 fee:
- approved by vote of at least the majority
- reapproved annually by board of directors who are not interested persons.
- can be terminated anytime by a majority vote of non interested persons on the BOD
*used for marketing and distribution purposes only
Class I shares
Sold only to institutional investors. Usually have lower fees and expenses
Class R shares
Sold to those in retirement plans. No front or back load but may have 12b-1 fee lower than Class B C but higher than A
Unit Investment Trust
- Unmanaged investment company
- Do not have BOD
- Do not employ Investment advisors
- Do not actively manage their own portfolio
REITs
- own commercial property (Equity REIT)
- own mortgages on commercial property (mortgage REIT)
- do both (hybrid REIT)
- not redeemable
Benefits of Mutual Funds in a Clients portfolio
- Diversification
- Professional management
- Choice of objectives
- Convenience
- Liquidity
- Minimal Initial Investment
- Convenient tax information
- Combination privileges
Risks of Mutual Funds in a Clients portfolio
- Market Risks/Interest Rate Risks
- Fees and expenses (sales charges, 12b-1 fees, management fees, investor has no control over timing of purchase)
Benefits of Private Funds in a Clients portfolio
- potential for very large profits
- investors have say in management
- added diversification
Risks of Private Funds in a Clients portfolio
- Business risk
- Liquidity risk
- Lack of transparency
Benefits of Hedge Funds in a Clients portfolio
- designed to create positive returns in both rising and falling markets
- large variety of investment styles
- may reduce overall portfolio risks and volatility
- can create uncorrelated returns
Risks of Hedge Funds in a Clients portfolio
- high expenses
- significant loss of capital
- Liquidity risk
- sale of partnership
Benefits of REITs in a Clients portfolio
- invest in real estate without liquidity risk
- properties selected by professionals with free greater negotiating powers than individuals
- negatively correlated with general stocks
- reasonable income
Risks of REITs in a Clients portfolio
- lower control
- price volatility
- dividends are not qualified
- if not publicly traded, not very liquid
- failure for distribution rules causes taxation
- problem loans in portfolios could cause income to decrease
