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Investments > Investment Vehicles > Flashcards

Investment Vehicles Flashcards

1
Q

Negotiable Certificates of Deposit (CDs)

A
  1. you deposit funds into a bank and they sell you a CD
  2. Bank holds funds until CD maturity
  3. At maturity you get deposit back plus interest
  4. CDs can be sold before maturity
    - carry interest rate risk
    - insured up to $250k / individual
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2
Q

Money Market Deposit Accounts (MMDAs)

A
  • Bank offered savings account
  • FDIC insured up to $250k
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3
Q

Money Market Mutual Funds

A
  • open ended investment companies offering safe investment choices
  • not insured
  • taxable interest: T-bills, neg. CDs, prime commercial paper
  • tax-exempt CD: ST muni
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4
Q

Treasury Bills

A
  • ST securities with maturity 1 yr or less
  • issued at discount
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5
Q

Commercial paper

A
  • ST unsecured promissory note
  • issued by large companies
  • denominations start at $100k
  • maturity 270 days or less
  • sold at discount and rated for quality
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6
Q

Banker’s Acceptance

A
  • used to finance imports and exports
  • foreign exporter wants payment guaranteed once good arrive
  • bearer securities and can be held to maturity]- maturity is 9 mo or less
  • trades at discount
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7
Q

Eurodollars

A
  • deposit into any foreign bank that is denominated in dollars
  • Eg. US dollar deposited into Hong Kong bank
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8
Q

Yankee Bonds

A
  • dollar denominated bonds issues in the US by foreign banks
  • issued in US when market conditions are more favorable that eurobond market or overseas markets
  • registered with SEC
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9
Q

Bonds

A

debt security which obligated the issuer to pay interest and to repay principal when the debt matures at the end of its term

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10
Q

Par Value

A
  • bonds are issued with stated par value (face value) which is usually $1,000
  • issued with stated rate of interest (coupon or nominal
    rate)
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11
Q

Discount Bond

A
  • par value is higher than the bonds purchase price
  • Eg. $1,000 par bond selling at $900
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12
Q

Premium Bond

A
  • bonds purchase price is higher than par value
  • Eg. $1,000 par value bond selling at $1,100
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13
Q

The Yield Ladder

A

Discount(YMCA) over coupon
YMCACMY
Premium (ACMY) under coupon

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14
Q

Nominal Yield

A
  • stated rate of interest on the bond (coupon)
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15
Q

Accrued Interest

A
  • interest on bonds is earned daily
  • when bondholder sells a bond between the last interest payment received and the next one due, the buyer will compensate them for the interest lost
  • at date of sale, accrued interest from last interest payment and the next due is calculated
  • buyer of bond will pay this accrued amount in addition to the price of the bond
  • at the next interest payment, the bond buyer will be reimbursed
  • assume all bonds issued with accrual
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16
Q

Original Issue Discount (OID)

A
  • discounted bond
  • usually zero-coupon bond: paying no interest until maturity
  • must report interest income even though nothing is yet received: phantom income
  • OID muni - straight line basis, non taxable interest, held to maturity no cap gain
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17
Q

T-Bills vs T-Notes vs T-Bonds

A

T-Bills
- maturity: 3, 6, 12
- issued: 100 - 1M
- risk: safest
- default risk: none
- callable: N/A
- interest paid: no coupon
- taxation: federal only
- aution: weekly

T-Notes
- maturity: 1-10 yrs
- issued: 1k- 100k
- risk: RIP
- default risk: none
- callable: N/A
- interest paid: semiannual
- taxation: federal only
- aution: monthly

T-Bonds
- maturity: 10 -30 yrs
- issued: 1k- 1M
- risk: RIP
- default risk: none
- callable: 15 yrs prior to maturity
- interest paid: semiannual
- taxation: federal only
- aution: quarterly

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18
Q

Treasury STRIPS

A
  • treasury issued zero-coupon bonds
  • direct obligation of US government
  • discount is treated as taxable income, earned annually
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19
Q

Treasury Inflation-Protection Securities (TIPS)

A
  • marketable, offer protection against inflation
  • face value is adjusted semiannually to keep pace with inflation according to CPI
  • coupon lower than traditional but coupon rises as face value rises with inflation
  • higher inflation rate = higher face value and fixed interest payments
  • sold $1,000 denominations
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20
Q

TIPS Adjustment Process

A

Eg. $1,000 par, 10 yr maturity, 3.625% coupon
- if CPI rises annually by 6.5%, the principal is adjusted to $1,032.50 (1,0001.0325) and interest payment will be 18.13 (1,000.03625 /2)
- second payment uses new face value, (1,032.5 *.03625 / 2) = 18.71
- at end of first year principal is adjusted to 1,065 (1,000+32.50+32.50)

21
Q

TIPS tax treatment

A
  • taxed annually on interest plus appreciation in face value
  • federal only
  • interest and face value is taxed ordinary in year it occurred, not necessarily received
  • decrease will cause ordinary deduction once interest is exhausted
22
Q

Series EE bonds (issued after 2005)`

A
  • non traded, non marketable, non transferable, non negotiable
  • issued at face value
  • earn fixed interest
  • 20 year maturity with extra 10 years maturity
  • denominations low as 50
  • rates for new issues determined may and nov 1st
  • interest accrues monthly and compounded semiannually
  • held for minimum of 1 year
  • 3 mo interest penalty for less than 5 years
  • guarantees bond value will double after 20 years , if it doesn’t, treasury will make one time adjustment at maturity to make up difference
  • interest based on 10 year treasury note yields
  • interest not subject to federal tax until redeemed or matured
  • option to have it taxed each year
  • not state or local tax
23
Q

HH Bonds

A
  • exchanging at least $500 in EE bonds only
    -interest semiannually by check
  • non-marketable
  • after 2004 no longer option
  • 20 year maturity so people may still have them
24
Q

I Bonds

A
  • inflation indexed
  • non traded, non marketable, non transferable, non negotiable
  • sold at face value
  • accumulate interest monthly
  • interest compounded every 6 weeks
  • same denominations as EE but without guaranteed interest rate
25
Q

I Bonds interest rate

A

2 parts
- fixed base rate: remains same for life of bond
- inflation adjustment rate: updated every 6 months to track CPI
- if used for education, tax exempt

26
Q

Government National Mortgage Association (GNMA)

A
  • GNMA buys FHA, VA, and farmers insured mortgages from banks and puts them into pools
  • then issues pass through certificates representing individual interests in the pool
  • guaranteed by gov but taxable at all levels
  • minimum 25k certificate
  • risks: Interest rate and reinvestment
  • yield: interest and principal
27
Q

Other agency securities- mortgage backed

A

gov. does not directly back these issues, backed through lines of credit
- FHLB
- FHMA
-FHLMC

28
Q

Municipal bonds

A
  • issued by states, cities, counties, other non federal units in order to raise capital
29
Q

General Obligation Bonds (GO)

A
  • backed by full faith and credit of municipality
  • issuer will raise taxes if necessary to repay debt
  • safest type of muni
30
Q

Revenue bonds

A
  • backed by specific source of revenue, not faith and credit
  • backed by single source funds (toll roads, hospitals, power plants)
  • greater risk than GO bonds, higher yields
31
Q

Insured municipal bonds

A
  • AAA rated
  • insurer pays timely
  • AMBAC, MBIA, BAM
32
Q

Mortgage bonds (corporate)

A
  • safest among long term corporate
  • backed by property
  • property can be sold if needed
33
Q

Collateralized mortgage obligations (CMO)

A
  • developed to eliminate risk of principal repayments varying for home owners and in turn affecting monthly interest
  • cash flow basis, seperated based on expectation over time
  • tranches used
  • A-Z tranches paying fast pay, medium pay, and slow pay
  • Z bears no coupon
34
Q

Debenture

A

corporate debt backed only by integrity of issuer

34
Q

Indenture

A

formal agreement between issuer and trustee
- trustee acts on behalf of bondholder
- covers following: form of bond (coupon or zero), amount, property pledged, etc

35
Q

Investment Grade Bonds

A
  • agencies rate bonds for credit risk
  • corporate and muni have: DRIP
    D: default risk
    R: reinvestment risk
    I: interest rate risk
    P: purchasing power
  • government bonds have: RIP
36
Q

Default risk

A

creditor may seize collateral and sell it to recoup the principal

37
Q

Reinvestment risk

A

as payments are received from an investment, interest rates have fallen and when investor goes to reinvest funds, investor receives a lower yield

38
Q

Interest rate risk

A

rising interest rates cause bond prices to fall

39
Q

Purchasing power

A

inflation may lower the purchasing power of fixed bond interest

40
Q

Rating agencies

A

S&P: Investment grade: AAA, AA, A, BBB
speculative grade: BB and below

Moody’s: Investment grade: Aaa, Aa, A, Baa
speculative grade: Ba and below

41
Q

High Yield corporate bonds (junk bond)

A
  • BB rating or below
  • pays a higher yield to compensate for its greater risk
  • rarely correct on exam
42
Q

Convertible bond

A
  • hybrid
  • pay interest
  • owner can convert bond into specific number of shares of common stock
  • market price of convertible security depends on value of stock and interest that bond pays
43
Q

Bond investment value calculation

A
  • intrinsic value: PV of expected cash flows that must be discounted
  • PMT is positive (interest received)
    2//
    FV: face value
    PMT: (coupon * par)/2
    N: yrs//
    I/YR: yielding market rate
    PV: ??
  • current rate > coupon = discount
  • coupon > current rate = premium
44
Q

Bond conversion value calculation

A

CV = (PAR/CP) * Ps

CV = conversion value
Ps = current market price of stock
PAR = par value
CP = conversion price

45
Q

Floor value

A
  • every convertible security has a floor value
  • a convertible bond will not sell for less than the larger of
  • its value as a bond
  • its conversion value
46
Q

Callable bonds

A

issuer has the right to redeem the bond at a predetermined price at a date prior to maturity
- issuer likely to call bond if interest rates have dropped
- call premium to incentivize early redemption
- protected for stated period (10 yrs) before it can be called

47
Q

Put bond

A

permits holder to sell the instrument back to issuer
- when rates rise and prices drop
- for this privilege, some yield is sacrificed

Investments (9 decks)

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