Lesson 5

Question 1

Investment Assets to Gross Pay

Answer 1

helps determine whether a client’s current assets, relative to their gross pay, puts them on pace for a successful retirement, given their age.

Investment Assets+Cash (equivalents) / Gross Pay

Question 2

IA to GP Benchmarks

Answer 2

Age	to Ratio of Invested Asset Gross Pay
25 - .20:1
30 - 0.6 - 0.8:1
35* - 1.6 - 1.8:1
45 - 3-4:1
55 - 8-10:1
65** - 16-20:1

Question 3

ROI (Return on Investments)

Answer 3

ROI Calculates the rate of return on invested assets.

Ending Balance - (Beg. Balance+Savings) / Beg. Bal.

Benchmark is 6-10%

Question 4

Return on Assets

Answer 4

ROA measures total asset returns. This should be used cautiously when clients add assets that are leveraged with debt (home purchase).

Ending Assets - (Beg. Assets + Savings) / Beg. Assets

Benchmark is 2-4%

Question 5

Financial statement ratio analysis

Answer 5

Gain insight into the financial situation and behavior of the client.

Generate questions for the client to answer to further gain insight.

Question 6

Vertical Financial statement ratio analysis

Answer 6

analyzing items on the financial statements in relation to one another via a percentage. When analyzing the Statement of Income and Expenses, amounts are usually restated as a percentage of gross income.

Question 7

Horizontal (Trend) Financial statement ratio analysis

Answer 7

Compares items to themselves across prior year statements. This type of analysis is helpful in identifying problematic trends, especially related to income and expenses as well.

Question 8

Balance Sheet Limitations of Financial Statement analysis

Answer 8

the Balance Sheet does not explain:

1) Why or how an asset increased. Did the client buy more or did the asset appreciate?
2) Why or how an asset or liability was acquired. Did the client purchase an asset or inherit the asset?
3) Change in net worth. Was the change a result of added savings, inherited asset, appreciation of assets, or debt retirement?

Question 9

Limitations of Financial Statement Ratio Analysis

Answer 9

1) Statements only have historical data and cannot predict the future.
2) Makes it difficult to compare financial statements from one period to the next.
3) Any type of net worth calculation includes personal use assets. Typically the value of these assets is only an estimate.
4) Very few benchmarks have been established for personal financial ratios.

Question 10

Monte Carlo Analysis

Answer 10

mathematical simulation used to determine the probability of an outcome. It is useful in financial statement analysis because, unlike traditional analyses, it recognizes the uncertainty of the future.

Question 11

Monte Carlo Analysis Limitations

Answer 11

It is extremely vulnerable to incorrect assumptions (“Garbage in, garbage out”)

No ability to model rare but consequential events (“Black Swans”)