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J’s CFP Review > Investments > Flashcards

Investments Flashcards

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CFP® flashcards
1
Q

With regards to investment questions on exam, default to more ________ answer.

A

Conservative

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2
Q

Junk bonds have a rating off…

A

Lower than a BBB rating

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3
Q

Factors that should influence investor’s capacity for risk.

A

Time horizon
Liquidity needs
Total investable assets

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4
Q

Outline the Market Structure.

A

(1)Financial markets - provide for the exchange of capital and credit in the economy
(1a) Money markets - concentrate on short-term debt
(1b) Capital markets - trade in long-term debt and equity instruments
(1.b.1) Primary markets - where new securities are issued and sold to the public for the first time; registered with SEC and sold via IPOs; issuing firm is the recipient of proceeds; primary markets and issues are regulated by Sec Act of 1933.
(1.b.2.) Second markets - where previously issued securities trade among investors; issuing company not involved; regulated by Sec Act of 1934; two forms of mkts - organized exchange (NYSE) and over the counter (Nasdaq)

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5
Q

Holding period return components

A

Capital appreciation: (Period End Value - Period Begin Value) / Period Begin Value

Income yield: Dividends / Period Begin Value

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6
Q

Dollar Weighted Return calc instructions

A

Use CHS, CFo, CFj…. Solve for IRR

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7
Q

What are the Systematic/non-diversifiable risks?

A

“PRIME”

Purchasing Power Risk
Reinvestment Risk
Interest Rate Risk
Market Risk
Exchange Rate Risk

Cannot be eliminated through diversification
Quantified by the beta (B) statistic

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8
Q

What are the unsystematic/diversifiable risks? Also known as firm-specific

A

“Red Sox Forgot to Buy Defense”

Regulation risk
Sovereignty risks
Financial risks
Business risks
Default or credit risks

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9
Q

Low risk investments

A

Cash
Money mkt securities
Treasury Securities
Investment grade bonds

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10
Q

High risk investments

A

Common and preferred stocks
Junk bonds
Options, futures and forwards
Small-cap and growth funds

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11
Q

Distribution curve and standard deviation

A

“Paul Pierce #34 on each side of the line”

1 SD = 34%
2 SD = 47.5%
3 SD = 49.5%

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12
Q

Standard deviation is a measure of the ______________ around the expected return.

A

Variance

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13
Q

Positively Skewed Distro

A

Skewed right

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14
Q

Negatively skewed distro

A

Skewed left

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15
Q

Mesokurtic distro

A

“….M, N, o, p….”

Normal curve

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16
Q

Leptokurtic distro

A

L = lean

More peaked curve

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17
Q

Platykurtic distro

A

“Plat - > Plateau”

Less peaked

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18
Q

3 Forms of EMH

A

Strong: Nothing helps (passive investment)
Semi-Strong: Inside information can help
Weak: Inside information and fundamental analysis can help

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19
Q

Bond ladder strategy

A

Investor purchases bonds with maturity dates evenly spaced across several months/years so that the bonds are maturing and the proceeds are being reinvested at regular intervals.

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20
Q

Yield spread strategy

A

Process of deducting the yield of one instrument from another. A hedge is a strategy used to offset potential losses/gains that may be incurred by a companion investment.

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21
Q

Operating profit margin

A

Measurement of determining a company’s revenue after paying for costs of production

=EBIT / Net Sales

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22
Q

Bonds are registered with what organization?

A

The organization that issues the bond.

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23
Q

Capital Asset Pricing Model (CAPM)

A

Describes relationship between risk and expected return. It is used in the pricing of risky securities, but it is NOT an indicator of investment risk.

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24
Q

Sharpe Ratio

A

Measure risk-adjusted performance of a portfolio in terms of SD. “Are we adequately being compensated for the risk undertaken?”

Use when r^2 < 0.70

A comparative value and is only useful when comparing against the Sharpe ratios of other investments

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25
Q

Theynor Ratio

A

Measures risk-adjusted performance of a portfolio manager

Use when r^2 > 0.70

Comparative (relative) value and is only useful when comparing similar investments

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26
Q

Capital Asset Pricing Model (CAPM)

A

Use only when r^2 > 0.70

Used to quantify expected return given a market return and a beta to the market.
Used to quantify the investor’s required rate of return.
Used to plot SML. (Y-axis is Er and X-axis is Beta).
Comprised of and contains Mkt Risk Premium/Equity Risk Premium and Stock Premium

CAPM value - Actual Return = Alpha

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27
Q

Jensen’s Performance Index (Alpha)

A

Use when r^2 > 0.70

Measure to evaluate the benefit of a portfolio manager.
Formula includes CAPM.
Value > 0 = Good
Value = 0 = Good
Value < 0 = Bad

Plotted; y-axis is Rf, x-axis is Beta

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28
Q

Bond valuation on fin calc

A

Intrinsic value = PV of bond

PMT = coupon (divided by 2)
i = Mkt interest
n = time remaining to maturity (x2)
FV = maturity value ($1K)
PV = solve for

FV and PMT are positive values; PV will be negative

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29
Q

Bond valuation and the seesaw

A

Bond $ ————— Coupon % ——————Market Yield %

Order of yield on right side…
-Nominal; Current, YTM, YTC

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30
Q

Bond duration

A

“Weighted average of the PV of future CFs of a bond/bond portfolio.”

Duration stated in years
Higher coupon will result in lower duration
How to decrease duration? Higher coupons rate; Short-term bonds

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31
Q

Bond immunization

A

Matching the duration of a fixed income portfolio to an investor’s time horizon

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32
Q

Notes about changes in bond prices 1

A

The longer the duration and the lower the coupon, the more sensitive to changes in rates.

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33
Q

Notes about changes in bond prices 2

A

The shorter the duration and the higher the coupon, the less sensitive to changes in rates

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34
Q

Notes about changes in bond prices 3

A

Duration is a linear estimate that tends to overestimate the impacts on prices

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35
Q

Notes about changes in bond prices 4

A

Convexity is more complex, however, is also a much more accurate indicator of changes in price

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36
Q

Multi-Stage Dividend Discount Model - fin calc steps

A

Step 1) Calculate the dividends for the given years at the stated dividend growth rate
Step 2) Calculate the stock valuation on next year based on the new, constant dividend rate
Step 3) Solve for the NPV
i = required rate
CFo = “0”
CF1 = D1
CF2 = D2
CF3 = D3
…..
CF4 = D4+V
SHIFT NPV =

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37
Q

Call option when in the money

A

“COME”

Call Option = Market Price - Exercise Price

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38
Q

Put option in the money

A

“POEM”

Put Option = Exercise Price - Market Price

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39
Q

What is a stock option premium?

A

Price the option BUYER pays to the option seller to establish the option contract.

Paid on a per-share price.

40
Q

Options | Intrinsic Value

A

Can never be less than 0.

Remember COME and POEM.

41
Q

Covered call writing

A

Long the underlying stock - short the call
-Only considered covered if you own enough shares to cover all contracts sold
-Used to generate income for the portfolio

*Exam

42
Q

Naked call writing

A

Does not own the underlying stock - short the call
-Writer bears UNLIMITED risk

*Exam

43
Q

Other option strategies - less testable

A

Protective put: Long the stock - long the put - portfolio insurance
Protective call: Short the stock - long the call - used to protect a short position
Covered put: Short the stock - short a put - writer uses stock put to cover short position

44
Q

Collar / Zero Cost Collar

A

Long the stock - long the put - short the call
-The put is used to protect against a stock price decrease, the call premium is used to offset the cost of the put

45
Q

Straddle

A

Long a put and a call on the same underlying stock with the same expiration date and strike price
-Used to capitalize in a VOLATILITY regardless of the direction

46
Q

Spread

A

Involves purchasing and selling the same type of contract
-Benefit from STABILITY

47
Q

Future Contract | Short Hedge

A

Anyone who is long needs a short hedge
-Selling a futures contract establishes a short hedge

48
Q

Future Contract | Long Hedge

A

Anyone who is short needs a long hedge
-Buying a futures contract established a long hedge

49
Q

Example of a long position

A

Farmer growing corn is long corn

“Anyone who owns something is said to be long”

50
Q

Example of a short position

A

A construction company that needs to build is short lumber

“Anyone who has to buy something is said the be short”

51
Q

When to use IRR-vs-NPV

A

NPV is considered a superior model to IRR when comparing investment projects of unequal lives.
With changes of more than two inflows or outflows in an investment project there will be only one NPV, however multiple IRRs.

52
Q

NPV on fin calc

A

Use CF0, CFj, and Nj keys

53
Q

IRR on fin calc

A

Use N, PV, FV, PMT, and i

54
Q

Wash sale

A

Occurs when a taxpayer realizes a loss on the sale of a security and acquires a SUBSTANTIALLY IDENTICAL security within a 61-day period

55
Q

Wash sale - day spread

A

30 days prior to trade to 30 days after

Thus, 61 day span

56
Q

Wash sale calc

A

30Jan: Buy 100 shares of BRADY stock @ $1000
1Dec: Sell 100 shares of BRADY stock @ $750
15Dec: Buy 100 shares of BRADY stock @ $800

Thus, new basis is $1,050 (= $800 + ($1000 - $750)

57
Q

Financial Ratios

A

“LAPD”

Liquidity ratios
Activity ratios
Profitability ratios
Debt ratios

58
Q

Gross profit margin formula

A

Gross Profit / Sales =

59
Q

Operating Profit Margin formula

A

Operating Income / Revenue =

60
Q

Return on Assets formula

A

Earnings after Taxes / Total Assets =

61
Q

Return on Equity formula

A

Earnings after Taxes / Equity =

62
Q

Coupon payments are made to the person who holds which type of bond?

A

Bear bond

It is a debt security issued by a corp/gov. No records of ownership are kept. Coupon payments are attached to the bearer bond and are made to the person who holds the bearer bond.

63
Q

Type of check for which the payment is guaranteed to be available by the issuing bank?

A

Bank draft

64
Q

What is the simultaneous purchase of both a call option and a put option on the same stock at the same time?

A

Straddle

This is an extremely risky move as only a small move in either direction will result in a loss.

65
Q

Protective put

A

Strategy to guard against the loss of UNREALIZED gains. It costs the investor money and therefore reduces the profit of the investor but also protects against losses if the stock loses value.

66
Q

Collar

A

Purchasing an out-of-the-money put option while writing an out-of-the-money call option.

67
Q

Modern Portfolio Theory

A

Aka Markowitz Model

Attempts to maximize the expected return of a portfolio for a given amount of risk

68
Q

Odd Lot Theory

A

Based on assumption that the individual investor is always wrong, so if individual sales are up, then it is the right time to buy.

69
Q

To shift the Markowitz efficient frontier upward and to the left, what should occur?

A

Investors should select investments with lower coefficients of correlation.

70
Q

Leading indicators which rise and fall in advance of the economy

A

Average weekly hours of production workers
Unemployment claims - new
Manufacturers’ new orders
New private housing starts
% of companies reporting slower deliveries
Yield curve
S&P 500
Money supply growth ate
Index of consumer expectation

71
Q

Which ratio assumes a non-diversified portfolio?

A

Sharpe Ratio

72
Q

What occurs at the ex-dividend date?

A

The market price of the stock adjusts for dividends

73
Q

Date of record

A

Day the company examines records to determines who are their shareholders

74
Q

Declaration date

A

Day the investors are entitled to receive a dividend

75
Q

Rationale for the federal regulation of initial securities offerings contained in the Sec Act of 1933 is based in:

A

The Interstate Commerce Clause of the US Constitution

76
Q

Preferred stock

A

Preferred stock ratings are generally lower than bonds

77
Q

Maximum gain as the premium and the maximum loss as unlimited?

A

A short call

78
Q

Date of declaration

A

Statement issued on the date of declaration includes the size of the dividend, the ex-dividend date, and the payment date.

79
Q

One benefit of ETFs over mutual funds?

A

Less expensive

Because of higher daily liquidity and lower fees

80
Q

Type of stock that prospers in expanding economies and does poorly during market downturns?

A

Cyclical

81
Q

Need based financial aid programs

A

Pell Grants
Federal Perkins Loans
Federal Work Study

82
Q

Not a need-based financial aid program

A

National Merit Scholarship

83
Q

Textbooks purchased via Amazon for a quailified expenses for what and what only?

A

Americans Oppty Tax Credit

84
Q

Investment company puts loans into a pool and sells securities as shares of that pool. These securities sold are considered what?

A

Asset-Backed

85
Q

Stocks bonus plans help prevent what?

A

Hospital takeovers

Because it spreads out ownership

86
Q

R^2

A

Coefficient of determination and a measure of systematic risk

87
Q

As bond interest rates decrease, duration _________.

A

Increases

88
Q

Consumers will reduce their consumption more in the long run than in the short when the price of a product increases according the the Second Law of _________.

A

Demand

89
Q

Arbitrage Pricing Theory

A

Used to calculate asset pricing by assuming that the expected financial return of an asset can be predicted according to a linear function based on multiple risk factors, each of which has a corresponding beta.

90
Q

Arbitrage Pricing Theory

A

General theory used to calculate asset pricing by assuming that the expected financial return of an asset can be predicted according to a linear function based on multiple risk factors, each of which has a corresponding beta.

91
Q

Black-Scholes valuation model

A

Used to calculate the premium of an option, specifically the value of a call option of a non-dividend paying stock.

It assumes the market consists of at least one risky asset and at least one risk less asset.

92
Q

Longer the duration, lower the coupon, thus _______ sensitive to rate changes

A

More

93
Q

Shorter the duration, higher the coupon, ________ sensitive to rate changes

A

Less

94
Q

Duration is a linear estimate that tends to overestimate the impacts on __________

A

Price

95
Q

Convexity is more _____________, however it’s also much more accurate indicator of changes in price

A

Complex

J’s CFP Review (7 decks)

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