Investment Vehicle Characteristics (Units 12-17) Flashcards
What are S&P Bond Ratings and Moody Ratings?
Investment grade are first 3: S&P: AAA AA A BBB BB B Moody: Aaa Aa A Baa Ba B
In order to qualify as a REIT …
A REIT must be invested in real estate. By law, at least 75% of a REIT’s assets must consist of real estate assets such as real property or loans secured by real property. That 75% can also include cash and U.S. government securities. If it is a mortgage REIT, there is no specific requirement regarding government-insured mortgages. A REIT must distribute at least 90% of its income to investors, not 75%.
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How are bonds priced: Corporate and Munis? US Govt.? What are these corporate/muni prices: 90 1/4 101 3/4 What are these US Govt prices: 90.8 (or 90.08) 101.24
Quoted as a percentage of par where 100% = $1000. Each point is $10. Fractions of a point are:
- –for corporate and munis in 1/8s of $10. Each 1/8 of $10 = $1.25
- –for US Govt. in 1/32nds of $10. Each 1/32 of $10 = $0.3125
90 1/4 = $902.50
101 3/4 = $1017.50
- 8 = $902.50
- 24 = $1017.50
What is assessable and non-assessable stock?
Assessable stock is no longer sold in new issues, but its stock issued below par for which the issuer or creditors have the right to assess shareholders for the balance of unpaid par.
Because an assessable stock may require a payment made by the recipient, the gift is considered a sale. The gift of a nonassessable stock is not a sale because it is not a contract for value.
What are alternative investments and what are their risks?
Hedge Funds; ETNs; Leveraged ETFs; inverse funds; structured products. The are highly complex but can provide diversification
- most leveraged or inverse ETFs reset daily meaning they are meant to achieve their objectives on a daily basis - they are suitable only for investors with a VERY short term horizon.
- liquidity, credit risk (know the strength of the issuer), a lack of efficient pricing (market price does not reflect real value) which can lead to abnormal returns - good and bad.
What are warrants?
warrants have no relationship to stock ownership and usually have a strike price that is above current market price. Also a long expiration period - as much as 10 years. Usually attached to a new bond issue (to sweeten the deal) or a new stock offering. They can be detached and traded on the same exchange as the stock is traded.
DERP Corporation has issued 5% convertible debentures maturing in 2040. The conversion price is $40 and the common is currently trading at $48 per share. One would expect the DERP debentures to be selling somewhat
A) below $1,000.
B) above $1,200.
C) above $1,000.
D) below $1,200.
B
The first step here is to compute the parity price. A conversion price of $40 means the debenture is convertible into 25 shares of the common stock (par of $1,000 divided by $40 = 25 shares). With a current market price of $48 per share, the parity price of the convertible would be $1,200 (25 x $48). Because convertible securities generally sell at a slight premium over their parity price, the debentures should have a current market value a bit higher than $1,200.
What are Brady Bonds
Debt that’s issued by a developing country with an emerging market that is secured with pledged collateral, usually a US Treasury 0 coupon bond. No Brady bonds carry a guarantee by the US Govt
What is Yield to Maturity formula?
Takes into account gain/loss at maturity in addition to interest.
For bonds bought at premium: (annual int - (premium/years to maturity))/Average price of bond which is ((price paid plus par)/2)
For bonds bought at discount: (annual int + (discount/years to maturity))/Average price of bond which is ((price paid plus par)/2)
Explain Duration
Duration is used to measure sensitivity of a debt instrument to changes in interest rates. The longer the duration the more the price movement. 2 components are int. rate and maturity. If maturities are close bonds with HIGHEST INT RATE = SHORTEST DURATION.
Several years ago, an investor purchased an investment-grade bond with a 6% coupon. Today that bond is priced to yield 4.6% to maturity in 5 years. If the bond is called at par in one year, the bond’s yield would be
A) 4.6%.
B) less than 4.6%.
C) the coupon rate of 6% because it is called at par value.
D) more than 4.6%.
Let’s take things in order. A bond with a 6% coupon is showing a YTM below 6%, the bond must be selling at a premium. When bonds selling at a premium are called in advance of the maturity date, the “loss” (the difference between the premium and the par value”) is recognized sooner than expected. This results in a yield to call (YTC) that is less than the YTM.
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Employee ISO vs. NQSO?
NonQual SOs can be offered to board members and even suppliers. The difference between curr mkt price and strike price, called bargain element is treated as wages, thus ordinary income versus cap gains.
With ISO, if employee purchases stock and holds at least 2 years after grant date and 1 year after purchase date, they can treat as lt cap gains. If not, it’s treated like NSO for tax purposes. There is also a max 10 year limit for exercise of option. And the bargain element is a AMT item.
What is a bonus annuity? And what is it’s disadvantage?
Index annuities and variable annuities sometimes offer a bonus on top the original investment. For example, if investing $60K with a 5% means they will begin with a $63K balance.
One of the characteristics of bonus annuities is that their surrender charges tend to be higher for a longer time than other insurance company products.
Mr. Beale buys 10M RAN 6.6s of 32 at 67. What is his total purchase price? A) $10,200 B) $10,000 C) $6,600 D) $6,700
D
For those of you not familiar with bond listings, this means that Beale bought $10,000 (10M) of the RAN Corporation bonds with a 6.6% coupon (interest rate stated on the face of the bond) that mature in 2032 (32). The price is 67, which represents 67% of $10,000, or $6,700.
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What is whole life and universal life?
Whole Life Ins (WLI) provides protection for the whole of life. Begins the date of issue through date of death provided premiums are paid. The benefit is the face value or face amount and is constant throughout the policy’s life. There is a savings element which is represented by the “cash value.”
Universal Life is similar to Whole Life in that is has the same two elements (cash value and death protection). However, instead of being fixed and guaranteed amounts, the death protection resembles 1 year renewable term insurance and the cash value grows according to current interest rates. There is a minimum contract interest rate. And current annual rate which may be higher.
A pooled investment fund buys all the shares of a publicly-traded company. The fund takes the company private, reorganizes the company, and replaces its management team. Three years later, the fund exits the investment through an initial public offering of the company’s shares. This pooled investment fund is best described as
A) a private equity fund.
B) a leveraged ETF.
C) a venture capital fund.
D) a hedge fund.
A
A private equity fund or buyout fund is one that acquires entire public companies, takes them private, and reorganizes the companies to increase their value. A hedge fund will rarely get involved with reorganizing an existing company. Venture capital funds invest in start-up companies. Leveraged ETFs do not take part in the management of their investments.
A client has been contributing to a periodic payment annuity for 20 years. The M&E charge is 1.25% per year. What happens to that charge when the client annuitizes at attained age 68?
A) It increases because the client’s mortality risk is higher at the older age
B) It ceases
C) It continues
D) It continues but at a reduced rate
B
The M&E charge is for mortality and expenses. Once an annuity contract, fixed or variable, is annuitized, that charge no longer applies to the account. There may be an internally computed charge, but unlike the accumulation period, the charge is not broken out separately.
What are viatical settlement and life settlement?
viatical - less than 24 mo life expectancy, no age restrictions. Life settlement is more than 2 years life expectancy and over 65.
Buyer pays a lump sum plus any premiums as long as the insured lives.
Under the Investment Company Act of 1940, SEC Rule 12b-1 allows a fund to charge distribution and sales expenses to net assets as a percentage of the total assets. Normally, the cost of distribution of the shares is paid by the underwriter out of the sales load paid by the individual purchaser. For a fund to impose 12b-1 charges, which of the following conditions apply (applies)?
The board of directors has sole approval authority.
The majority of the outstanding shares has sole approval authority.
Both the board and the majority of outstanding shares must approve it.
A distribution plan must be written.
A) I only
B) I and III
C) III and IV
D) II and III
C
For the fund to impose 12b-1 charges, the distribution plan must be in writing and approved by a majority of the outstanding shares, as well as a majority of the board of directors, including a majority of directors classified as outside directors.
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CLM - READ ANSWER: A manufacturer of soybean oil is concerned that the price of soybeans will increase over the next 6 months. The best strategy to employ would probably be A) a long hedge. B) a trimmed hedge. C) a neutral hedge. D) a short hedge.
The concern is that the price will go up. Just as with options, when we are concerned that the price of something will go up, we go long that item. With options, it would be a long call; with futures it is simply hedging by going long (buying) the soybean futures. The soybean farmer who would be concerned about a decline in the price would go short soybean futures.
What is Rule 144?
SEC rule requiring persons who hold control securities or restricted securities may sell them only in limited quantities.
Control stock is held by a control person.
A control person is director, officer, large stockholder or any immediate family members of the above, generally referred to as affiliates.
Purchases and sales of control stock must be reported to SEC. Form 144
For testing purposes assume that ownership of 10% or more of voting stock is considered control.
What are prohibited activities for investment companies under the investment act of 1940
- purchase on margin
- sell short
- no joint accounts with anyone else
- acquire more than 3% of outstanding voting shares of another investment company
Which of the following statements regarding ADRs are TRUE?
The securities are vehicles used to facilitate U.S. trading of foreign securities.
Dividends are received in the foreign currency.
Holders have foreign currency risk.
The receipts are issued by a foreign branch of a domestic bank.
A) I, II and III
B) II and IV
C) I and III
D) I, III and IV
D
ADRs are vehicles that facilitate U.S. trading of foreign securities. They are issued in English in the United States by domestic banks. Dividends are declared in the foreign currency but are payable to holders in U.S. dollars, which means that ADR holders are subject to foreign currency risk.
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What is current yield calc?
Annual int. or dividends/current market price
