Investments Flashcards
1
Q
3 Forms of Effecient Market Hypothesis
A
x = rejects, already reflected ✓ = helps, advantageous, not reflected, benefit, higher returns
fundamental analysis - P/E ratio
2
Q
debenture
A
unsecured corporate debt
3
Q
annual yield formula
A
annual income
purchase price
4
Q
appreciation formula
A
end of year price
purchase price
5
Q
original issue discount bond
A
- sold at discount to par
- bond basis increases set rate each year
- owner pays income tax on “phantom income” (unless tax exempt)
- upon maturity, owner receives face value and pays no tax b/c already paid
- OID = maturity value - OID price
- ex) zero coupon bond
6
Q
correlation = 1
correlation < 1
A
Standard Deviation of returns of portfolio = weighted average of standard deviation of individual securities
Standard Deviation of returns of portfolio < weighted average of standard deviation of individual securities
7
Q
intrinsic value
A
according to fundamental analysis…
dicounted value of all future dividends
8
Q
what action can result in unlimited loss?
A
selling a naked call
9
Q
if market risk premium were to rise, value of common stock would…
A
decrease due to lower risk-free rates
????
10
Q
unit investment trust (UITs)
A
- passively managed
- self liquidating (easily LIQUID)
- equity or fixed income
- additional securities not added to trust
- units (not shares) are held until maturity NOT sold on exchange
11
Q
YTM Problem
A
N= years
I= YTM = ?
PV=market price
PMT=1000(par) x coupon rate
FV=1000(par)
semiannual coupons
12
Q
YTC Problem
A
N= years until callable
I= YTC = ?
PV=market price
PMT=1000(par) x coupon rate
FV=price at call
semiannual coupons
13
Q
American Depository Receipts (ADRs)
A
- foreign securities all else US
- US dollars…trade, denomination, dividends
- US exchanges
- do NOT eliminate currency/exchange rate risk (PRIME)
14
Q
substitution bond swap
A
takes advantage of perceived yield differential b/w bonds that are similar w/ respect to coupons, maturities, and industry
15
Q
rate anticipation bond swap
A
based on forecasts of general interest rate changes
16
Q
yield pickup bond swap
A
designed to change cash flow of portfolio by exchanging similar bonds that have different coupon rates
17
Q
tax bond swap
A
offset bonds with capital gains and losses
18
Q
index fund
A
tracks market indexes
passive
19
Q
growth funds
A
equities with high P/E
seeks capital appreciation
20
Q
growth and income funds
A
equities and income producing assets
seeks capital appreciation and income
not good for college savings for young family
21
Q
balanced fund
A
more bonds than typical equity fund
22
Q
global fund
A
US and international securities
23
Q
international fund
A
only non-US securities
24
Q
Bond Risk
A
- ALL bonds subject to inflation rate (purchasing power risk) Long > Short
- Muni bonds have low default risk high quality < low quality
25
selling a call
give opportunity to participate in additional participation before being called out
???
26
immunization
investment time horizion = **average weighted** duration
27
TEY
_r_
* don't get thrown off my "does not itemize", if itemizes, more info would have to be provided
| (1-tax you save)
28
after tax yield
corporate rate x (1-marginal tax rate)
29
duration of a bond is a function of...
* Current Price - bottom half of formula, PRICE**^**TIME**^**RATES**v**DURATION**^**
* **t**ime to maturity
* **y**ield to maturity
* **c**oupon rate
30
closed investment companies
* **fixed** initial market cap
* trade on **orgnized exchange, major secondary markets**
* trade at **premium or discount to NAV**
31
open investment companies
* **unlimited** initial market cap
* bought/redeemed from **fund family**
* trade **at NAV**
* **mutual funds**
32
yield summary
33
High Reinvestment Rate Risk
Higher Coupon Rate
Why?
high now, but who knows later?
34
Greatest interest rate risk
Long/High Duration
Why?
35
reinvestment rate risk
vs
interest rate risk
risk an investor will not be able to reinvest at same rate of return, mostly impacts bonds
risk that changes in interest rates will impact price of equities and bonds (inverse relationship)
36
stand alone risk
single asset ownership
37
buy and hold & interest rate risk
eliminates because you aren't buying and selling as price changes (and therefore interest rate changes)
38
energy sector fund risk
Systematic Plus **G**ov't/Political
39
nominal rate of interest
* interest rate **w/o inflation**
* includes **default** premium, **liquidity** premium, and **risk free rate of interest**
40
spot markets
classified by time
41
equity markets
classified by type of claim
debt vs equity
42
mortgage/bond markets
classified by participants
short, intermediate, long term participants along yield curve
43
money markets
categorized by time constraits
short term or current price
44
Constant Dividend Growth Model
Intrinsic Value
Dividend Discount Model
may have to solve for r (required rate of return) using CAPM
45
r = (D1/P) + g
provided
expected rate of return based on current price
vs req rate of return
46
serial bonds
issued in series and mature in series
47
registered bonds
paid interest based on to whom bonds are registered, regardless of ownership
i.e. treasury bonds
48
bearer bonds
pays interest to holder/owner of bond
49
reset bonds
interest rates can be reset
50
increase inflation rates leads to increase interest rates...
increase demand for high returns (increase required rate of return)
51
income bonds
high risk bonds issued by financially troubled firms
52
high yield bonds
lower quality and cost issuer more in interest pmts
53
BILL wrote a NOTE to james BOND
* Treasury Bills - less than 1 year
* Treasury Notes - 2-10 years
* Treasuy Bonds - greater than 10 years
fbond
54
lowest investment grade bond
BBB
55
mortgage-backed securities
lack of definite maturity date
uncertain cash flows
56
market anomalies and EMH
exist but no impact
57
who sets margin requirements for all security transactions?
Federal Reserve
58
margin call price
_Loan_
1-MM
59
margin call
how much do you need to add in
Re - Ae
Required Equity - Actual Equity
60
options
warrant
written by **investors**
* *shorter** expiration (\<=9m)
* *standardized**
issued by **corporations**
* *longer** expirations (5-10yrs)
* *NOT** standardized
61
buyers of options...
call - up
put - down
## Footnote
\*seller's are opposite
62
Long straddle
short straddle
buys a call AND a put on same security at same exercise price for same period of time
investor expect volatility, not sure which direction
sells a call AND a put
investor does NOT expect volatility, just wants to keep premiums
63
spread
purching put/call at different price
64
strip
price and time are same
BUT **two puts** and one call
65
strap
price and time are the same
**two calls** AND one put
66
selling a naked call
selling right to buy
**expect market to drop**
don't actually have security
**limitless loss potential** because market has no ceiling to rise if doesn't drop
67
options diagram
68
buy a call
* maximum gains if stock price rise
sell calls & buy puts
* "market may correct" wants to 1) increase income 2)protect against drops
sell call
* "good thing CANNOT go on forever", not worries about downside
buy a put
* maximize gains if prices drop
* "possible market decline", does NOT want to incur cost of selling or mistime market
* concerned of downturn in short term, prefers not to sell
* "optimistic about growth", wants to "lock in" minimum price incase price drops
* "protect profits" , "lock in gains"
buy a call
* maximum gains if stock price rise
sell calls & buy puts
* "market may correct" wants to 1) increase income 2)protect against drops
sell call
* "good thing CANNOT go on forever", not worries about downside
buy a put
* maximize gains if prices drop
* "possible market decline", does NOT want to incur cost of selling or mistime market
* concerned of downturn in short term, prefers not to sell
* "optimistic about growth", wants to "lock in" minimum price incase price drops
* "protect profits" , "lock in gains"
69
strategic asset allocation
allocating the wealth of a client **among various asset classes, consistent with the clients' investment objectives, time horizons and risk preferences.**
buy and hold strategy (vs active)
70
tactical asset allocation
* shifting wealth **between asset classes** to take advantage of expected price level changes (timing) **arising from broad movements in the business/economic cycle.**
* rebalances her portfolio frequently to take advantage of perceived opportunities in other market sectors
* active
71
Investment Advisory Agreement: Arbitration Clause
Required by **SEC and FINRA** if **voluntary negotiation fails**
72
private placement of securities
* Sale of securities in a single block to a public pension fund.
* Sale of an entire issue of securities to a single investor.
* Sale of securities in a single block to a publicly-traded mutual fund.
73
public placement (IPO)
requires registration under disclosure rules with the Securities and Exchange Commission
74
red herring
* *preliminary prospectus** issued by managing house of an offering
* *red lettering** notifies prospective investors of status as **prospectus w/o prices**
75
Securities Investor Protection Corporation (SIPC)
insures investors against **losses due to bankruptcy or insolvency of brokerage firm**s. There is NO protection against investment losses.
76
neglected firm effect
* market anomaly
* security in question is allowed greater potential for movement as a result of the **lack of scrutiny by analysts**
* stock that has produced superior earnings and rates of return but has gone **mostly unnoticed by securities analysts** and is often considered underpriced
77
P/E effect
market anomaly
low P/E stocks produce higher risk-adjusted returns than high P/E stocks.
78
size effect (small firm effect)
tendency for **small cap stocks to outperform** large cap stocks over time
79
which bond has greateset interest rate risk?
one with longest duration...most price sensative to interest rate changes
lowest coupon if term equaal
80
duration
time remaining when a security's discounted future cash flow remains at risk
longer duration = greater sensativity, greater risk
81
stock dividend
favorable sign
retain capital growth related activities
increased research and dev'l
fend off takeovers
82
high net worth and ee savings bonds
phase outs for
83
when are physcial assets suitable for investors?
hedge against inflation...leading to price appreciation and potential capital gains
84
ladder bond strategy
staggers maturities and in doing so, **_reduces_ the exposure to interest rate risk**
**vs immunization..._eliminates_ interest rate and reinvestment rate risk**
85
roth ira and bonds
no need for a muni in a roth
86
bond barbell strategy
involves both very long-term bonds and very short-term bonds for a portfolio, and **very few intermediate-term bonds**
**vs** bond laddering - proportional staggering of maturity dates
87
88
bond swap strategy
trade **different and varied maturities** to meet the objective of the portfolio.
89
debt instruments and economic peak
excellent time to **sell fixed (and generally lower return) instruments**
90
gold
hedge against inflation
negatively correlated to market
91
protecting bonds against interest rate risk
options
put - lock in the price at which the security may be sold may be used to **protect an investor from a drop in bond prices caused by rising interest rates.**
92
limited general obligation bond
**restricted revenue base** as compared to general
ability to tax more limited
tax authority for school district vs state
93
geometric rate of return
how do you solve?
tvm
94
value weighted average indexes
simple price weighted average indexes
geometric average indexes
NASDAQ, Wilshire 5000
Dow Jones Industrial Average
Value Line Average
95
S&P 500
* less dramatic fluctuations than DJIA (only 30 stocks)
* reflections of **sectors broad**
* **value weighted**
* **narrower base measure**
96
fourth market
where corporation and institutional investors deal directly with one another
exchange and broker dealer services are eliminated entirely
97
primary market
investment bankers and corporations meet to arrange offerings to the public.
98
secondary market
where previously issued securities are sold (exchanges, etc.)
99
third market
exchange-listed securities being traded over-the-counter between non-exchange listed brokers and institutional investor
100
market risk premium increase, value of common stock...
decrease in order to compensate investor for increased risk
????
101
unissued shares
have never been held by investors
102
authorized shares
unissued or outstanding shares but haven't been repurchased
103
treasury shares
shares that have been **repurchased** by a company/corporation
104
converstion ratio
conversion price
conversion value (expect to pay)
_PAR_
conversion price
_PAR_
shares
_PAR_ x stock price
shares or CV
105
holding period yield
different than holding period return, no cash flows
_SP-PP_
PP
106
Dividend Discount Valuation (variable growth)
1. Determine $ dividend for each year
2. apply **constant** div formula
3. Determine NPV
107
intrinsic value of a bond
equals it's PV (TVM)
108
reason company would call a bond
bonds currentl**y selling at premium...interest rates have decreas**ed. Can retire/call higher yield bonds and issue new bonds at lower market interest rates
109
ideal correlation for portfolio construction
-1, any two investments move exactly opposite
110
best index
highest r (correlation) or r2 (coeffecient of determination)
111
correlation
1 - undiversified
\<1 - diversified
-1 - most diversified
112
standard deviation of portfolio and correlation (r)
r=1=standard averge
r\<1=less than standard average
113
correlation coefficient and covariance
measure two stocks movements relative to one another
114
MPT: optimum portfolio
**point of tangency** b/w **indifference curve and effecient frontier**
115
coeffecient of determination r2
% of fund's return due to market
116
adding new investments to portfolio
**lowest correlation (closest to -1)** coeffecient is best...provides most diversification
117
capital market line (CML)
security market line (SML)
capital asset pricing model (CAPM)
standard deviation
beta
beta
118
Geometric mean is ___ to arithmetic mean
less than or equal to
119
what makes cash flow projections and valuations for real estate difficult?
changes in economic and demographic variables
120
equity REITs
mortgage REITs
receive **income from rental or lease** of RE properties
provide more opportunity for **capital gains
invest in commercial properties**
receive monthly income from investing in **real estate loans**
121
belief perseverance
similar to anchoring in that people are **unlikely to change their views** given new information.
122
anchoring
results in buying securities that have fallen in value because it **“must” get back** up to that recent high.
inability to objectively review and analyze new information.
123
Representativeness
thinking that a good company is a **good investment without regard to an analysis** of the investment.
124
Cognitive dissonance
form of overconfidence because an investor’s **memory of past performance is better than the actual** results
125
naive diversification
process of **investing in every optio**n available
126
overconfidence leads to...
overtrading
127
12b-1 fees
charged based on the average daily fund assets and used principally to meet **marketing and distribution expenses**
128
less effecient market
more risk, more return, more opportunity for profit
international markets are less effecient than US markets
129
dividend reinvestment plans
* **taxable**
* help firms **raise new capital**
* provide invesetors **systematic way to accumulate capital**
* companies **build goodwill**
130
Return of Equity (ROE)
_Net Income_
Equity
higher the equity...lower the ROE
131
Technical Analysis: Price Indicator
**utilizes Advances and Declines of price** (also known as Breadth of the Market)
132
Technical Analysis: Volume Indicator
number of **shares** traded
133
technical analysis: market indicators
**directions** of market and **related averages**
134
intrinsic value of share of common stock (fundamental analysis)
**discounted value** of all future dividends
135
company status
publically or privately held
136
top down managers
look at big picture economic factors
group rotation managers
market timers
137
bottom up managers
value managers
technicians
138
GNMA
* **government backs the issue against default, NOT against investor loss**
* **amount received** by the investor each month **may vary** due to prepayment by homeowners.
* **realized yield** somewhat **variable** because of the principal prepayments.
* If **mortgage rates decrease, prepayments may increase.**
139
rate of return determined by CAPM is
* rate of return **used in Jensen's Alpha**
* security market line (SML) equation and an indicator of the **required rate of return by an investor on any given _security_**, not a market or portfolio's return.
140
preferred stocks
* **non-voting** shares
* **covertible** - can convert to c/s
* **participating -** additional or extra dividends declared, the preferred shareholders have the right to share in the profits.
* **cumlative -** If dividends are not paid in a given cycle, they cannot be paid to anyone else until they are paid to preferred shareholders.
* has equity and debt features
* stated par value
* stated dividend rate
* price of bond moves with price of c/s
* dividend **does not fluctuate** like c/s dividend, pays fixed income like bond
* **NO maturity date** like bond
* 50% dividends recevided deduction - **corporations 65%**
* **NOT same level as risk as debt**
* subject to interest rate and purchasing power risk
141
devaluation of foreign currency
foreign currency **falls in value** in relation to Dollar
cost less dollars to buy foreign currency
142
revaluation/appreciation of foreign currency
foreign currency **raises in value** in relation to Dollar
cost more dollars to buy foreign currency
143
riding the yield curve
purchase of debt instruments in **anticipation of fluctuations** in the rates of return on both long and short-term instruments
144
yield curve
Shows the **term structure** of interest rates on **government debt.**
shows relationship between long-term and short-term government debt
145
time weighted return
best for evaluating return of two invesment **managers**
## Footnote
**careful, evaluating investment managers not investors...managers don't make decision on whether to buy another stock**
146
firm commitment
**investment bank,** NOT issuing corporation, **bears risk** if entire issue is not marketed
147
best effort agreement
The **investment banke**r agrees to sell a minimum number of shares before the offering closing date.
## Footnote
**corporation bears risk**
**vs firm commitment**
148
dividend payout ratio
* portion of earnings which a company pays its investors.
* The balance of earning retained by the company comprises its retention ratio.
* Percentage of net income paid out as dividends.
* A measure of a company's **earnings retention philosoph**y.
DPS/EPS
149
150
how to know if portfolio "follows" S&P500
highest r or r2
higer the r2 the less non-systematic risk
151
client wants to avoid certain types of securities
use of individual stock/bonds allows client to pick and choose
152
Exchange Traded Funds (ETFs)
* purchased anytime during day (mutual funds-end of day)
* can be purchased on margin or shorted (mutual funds-NO)
* more readily track underlying index (mutual funds-incur transaction costs, fund CFs)
* can trade at discount to NAV (mutual funds-always trade at NAV)
153
selling covered call
income producing strategy
sell/write call options against what you already own
154
best index to capture overall (small, mid, large) US Market
Wilshire 5000
155
best way to control volatility
r\<0
negative correlation...assets move opposite each other
156
securities with interest rate risk
CDs, Treasury Bonds, CMOs
157
High or Low NPV
Higher the better if risk is acceptable
158
same expected return and low correlation of two assets
The expected return of the portfolio will remain the same, and the standard deviation of the portfolio will decrease.
