investments

Question 1

time value of money

Answer 1

FV = PV * (1+r)^n

money received today worth more than money received in future

interest earned on amount invested (present value), time will add value (future value) to your savings

Question 2

why?

Answer 2

1) money received now can be saved or invested now and earn interest or a return, resulting in more $ in future
2) any promise of future payments of cash will always carry risk of default
3) simple human nature for people to prefer making purchases on present

Question 3

compound interest

Answer 3

interest incomes earned in subsequent periods that is based on interest income earned in prior periods

Question 4

uncertainty of returns (risks)

Answer 4

default: issuer will fail to make required payment
inflation: investors have less purchasing power from realized cash flows from an investment due to inflation
diversifiable: investors hold individual securities, bear risk of other diversified portfolios
non-diversifiable: what remains after portfolio diversification has eliminated unnecessary diversifiable risk
political: local/state/national gov disrupting firm cash flows

Question 5

present value

Answer 5

how much a future amount is worth today

Question 6

net present value

Answer 6

considering the expected inflows and outflows, how much is an investment worth today?

Question 7

should a firm make a certain investment?

Answer 7

aggregate the cash flows to determine whether the cash inflows are greater than the cash outflows

future cash flows that occur at different times or over a period of time have different present value
- these cash flows have to be discounted to the present time
- aggregating these discounted cash flows tells us the net present value
- process requires assumptions

Question 8

net present value

Answer 8

NPV > 0 : PV inflow greater than PV of the outflows. Money earned on investment is worth more than the costs, thus it’s a good investment

NPV = 0 : PV inflow equal to PV outflow. No difference in value between value of money earned and money invested

NPV < 0 : PV inflow less than PV of outflows. Money earned on investment is worth less today than costs, thus bad investment.

Question 9

financial markets and investing

Answer 9

risk: outcome is not guaranteed
higher the risk, higher the return required

risk:
- degree of uncertainty/potential financial loss inherent in investment decision
- as investment risks rise, investors seek higher returns to compensate themselves for taking such risks

Question 10

diversification

Answer 10

reduce risk through allocation of assets
- don’t just have stocks, debt securities and cash are important
- cash allows you to have liquidity - space to make decisions

Question 11

warren buffett

Answer 11

2007 - buffett made bet if he invested 1 mil into index fund, tracking the S&P index, he would outperform hedgefunds

10 year long bet
hedgefund actively managed, requires riskier strategies

Question 12

index funds

Answer 12

can buy index funds that match or track popular indices

Question 13

dow jones

Answer 13

30 large prominent companies, price weighted

Question 14

nasdaq

Answer 14

all stocks on nasdaq

Question 15

S&P

Answer 15

500 top companies, 29% in tech segment