REDO QUIZ AND DECK. VERY USELFUL Read over 1.1.4 before exam) Chapter 1 – (28 marks and multi choice) Analyse The Characteristics Inherent Risks Behaviour And Correlation Of Asset Class Flashcards
What is the advantage and disadvantage of investing in cash?
Advantages: Capital is secure. High flexibility
Disadvantage: Little protection from inflation, no capital growth
Cash is not exposed to investment risk. What does this mean?
Investment risk is the risk presented to the capital
For cash the capital value can not go down so it has no investment risk.
Cash has no investment risk but there is a number of other types of risk that cash is subject to. These are:
Default risk
Inflation risk
Interest-rate risk
Currency risk
Reinvestment risk
Tell me about each:
Default risk: the creditworthiness of the firm you save with.
Inflation risk: the impact of inflation.
Interest-rate risk: the uncertainty of interest rate movements.
Currency risk: exchange rate movements (if saving overseas)
Reinvestment risk: the likelihood of ‘similar deals’ being available at the end of a fixed term investment. This is low because rates constantly change.
All the above should be considered when deciding on cash as an investment over other types
Some banks offer accounts in foreign currencies and/or in sterling but held overseas (typically in the Channel Islands).
Like UK saving accounts these account pay their interest gross.
Is the interest earned taxable for non UK based/non Stirling saving accounts like it is for UK based accounts?
Yes, the interest is taxable whether it is based in UK or not in the same way as UK based accounts.
It must be declared through an individual’s self-assessment in the same way
Cash ISA’s are available to those 16 or older
What must be taken into account if the capital that the child will be investing is provided to them by their parent?
If the capital is provided by a parent, the interest will be deemed to be that of the parent if it is more than £100 per year. This interest should be declared by the parent on their self-assessment form.
Cash ISAs are not restricted ONLY to holding cash. They can have certain investments as long as they adhere to the 5% rule. What is this?
5% RULE: A non cash investment can be included in a Cash ISA if it is expected to return at least 95% of initial capital within a 5-year period.
For example, units in a low risk unit trust may be invested into a cash ISA
If the investment cannot meet this guarantee it must instead only be invested using a stocks and shares ISA. Therefore, you will never find something like equities being invested into a cash ISA because they are too high risk and will likely not meet the 5% rule requirements
In relation to deposit protection, what is the advantage of NS&I products?
Because NS&I is backed by the government, your cash will always be 100% protected no matter how much you pay in.
At time of writing, the NS&I website’s welcome page states: ‘Most banks only guarantee your savings up to £85K. We’re the only provider that secures 100% of your savings, however much you invest.’
NS&I options are all deposit-based and savings accounts are too. If a form of investment is deposit based, what does that actually mean?
It means that the product involves placing money into an account or instrument where the principal (original investment)/capital is preserved and where there is usually some guaranteed return (through interest)
For deposit based investments interest is paid gross. What does this mean?
It means that the interest is paid without any tax being deducted
New investments into NS&I products have interest paid gross (paid without the deduction of tax), but can be split into two groups in terms of taxation of their returns: Tax free or taxable
Tell me which NS&I products have tax free returns and which ones have taxable returns
TAX FREE:
NS&I Direct ISA & Junior ISA (NOTE these are the NS&I version of the Cash ISA & Junior ISA, except that these are not flexible ISAs)
Premium Bonds
Fixed-interest savings certificates (Lump sum investment with a guaranteed fixed rate over a set term.)
Index-linked savings certificates (Lump sum investment with an index-linked return over a set term)
Children’s Bond
TAXABLE:
Income Bonds
Investment account
Direct Saver
(The 3 above are basically variable interest saving accounts and the 3 below are fixed interest)
Guaranteed Income Bonds
Guaranteed Growth Bonds
Green Savings Bonds
All of the tax free NS&I accounts. See images
All of the taxable NS&I accounts. See image.
What are Money market investments?
Why are individuals typically not able to invest in to money market instruments?
See images of Money Market Investments being used in real life
There are 3 types of money market investments:
Treasury Bills, Certificates of Deposit & Commercial Bills
They are used by institutions such as governments, banks and building societies to lend to and borrow from each other, over a short term.
They are not used by individuals typically because the money market involves huge amounts of money and is generally not within the reach of an individual investor. £500,000 would be the minimum investment for an individual.
There are 3 types of money market investments:
Treasury Bills, Certificates of Deposit & Commercial Bills
Tell me about each:
Which ones are tradable?
Summed up:
Treasury Bills =
Issued by government. No coupon. Bought below PAR and repaid at PAR on redemption (where the investor makes their money) Short term - max 12 months
Certificates of Deposit
issued by banks. fixed term and fixed return. Interest payable on maturity. Investor cannot withdraw cash but the CD is tradable on stockmarket.
Commercial Bills
Issued by companies. Very short term (30 - 90 days normally). Work in same way as treasury bills…bought below PAR
There are 3 types of money market investments:
Treasury Bills, Certificates of Deposit & Commercial Bills
Which ones are tradable?
All 3 are tradable so the original investor can sell to receive monies earlier rather than waiting until the redemption date
What risks are money market Instruments subject to?
All the same risks associated with cash… ie
Default risk
Inflation risk
Interest-rate risk
Currency risk
Reinvestment risk
What are fixed-interest securities?
Fixed-interest securities or ‘bonds’, are issued by governments and companies as a way of raising money to finance their longer-term borrowing requirements.
Basically, they are asking investors to loan them money for a specified period and a specified return.
In relation to Fixed Interest Securities investors are entitled to receive interest payments, and usually a return of capital at the end of a fixed term.
The fixed value that investors will receive at the end of the term is known as?
The Price At Redemption (PAR) value
or
The nominal value.
Examples of corporate bonds in action (this is also basically how GILTS work too)
Since fixed interest securities are tradable, if Emily were to need her capital back prior to 2035 she could decide to sell her entitlement to the interest and nominal value on the Stock Market
She may even get a better deal originally depending on how a 5% yield compares to prevailing rates at the time she sells, as she may find that someone is willing to pay her more than the amount she invested in the first place, (higher than par). She could also get less money back if other bonds are better as she will have to sell lower than par
Why are corporate bonds typically lower-risk than shares?
In the event of default by the issuing company, the corporate bond owner is classed as a creditor of the business rather than an investor
Therefore, they have a higher claim on their money than all the shareholders
Bonds and GILTS are ‘negotiable fixed-interest long-term debt instruments’.
What does this mean?
This means they are tradable investments (negotiable), that pay a fixed return (fixed interest), over a period of up to 30 years (long-term) and are really just a loan to someone (debt instruments).
What am I talking about when I refer to something as being one of the following:
stock, loan stock, debentures, securities or loan notes
All of those terms are types of fixed-interest security
Look at the image. Tell me what you see
The investment is a corporate bond, as it is a loan to Sainsbury
Has a ‘coupon’ of 6% per year. A coupon is the annual interest rate paid by the bond issuer to the bondholder expressed as a percentage of the bond’s Par value/face value/nominal value
The maturity date is 2029: also known as the redemption date
The amount of money that will be repaid in 2029 is £100. This is the PAR value or Nominal Value of the stock
NOTE: All bonds start with a ‘nominal value of £100. True or false
True
Most bonds redemption dates are fixed. However, some bonds have a range of dates where the bond is redeemable. Explain this?
Some bonds, however, have a range of dates during which they are redeemable, e.g. 2027 – 2029. The issuer can choose when they pay the bonds back, within the date range. In our example, this means the earliest redemption date will be 2027 and the latest 2029, as long as the issuer gives the investor a minimum 3 months’ notice.
Some bonds are even ‘undated’ and are redeemable whenever the issuer wants.
These above are more rare though but can make a bond more desirable so the issuer may choose to add it as a feature
Although the face value/par value of a bond never changes, its ‘real-time’ value does.
What does this mean?
This refers to a bonds tradability. It can be sold ‘over par’ if it is appealing or it can be sold ‘under par’ if its not appealing
A bond that is paying a guaranteed 8% annually until 2025 whilst normal savings rates are at 2% will be extremely appealing and therefore can be sold ‘over PAR’ meaning the original owner will make a very nice capital gain which the otherwise wouldn’t get if they waited until redemption. On the contrary, it is likely better to hold onto your bond if it is likely to be sold below PAR
Bonds are sensitive to interest rate changes and the price they sell at depends on supply and demand
What is the mid-price of the bond?
What is this also known as?
The price that is paid when a bond is traded where no adjustments for the next interest payment is due.
This rarely happens as bonds are sold at different times and therefore an adjustment is normally made to ensure buyers don’t receive accrued interest from a time they didn’t actually own the bond
Sellers receive less than mid price whereas buyers will pay more than the mid-price. The extra amount that buyers pay to the seller is the interest that is due to the seller. Because of this, buyers are said to pay a ‘dirty price’ which is the (price + interest adjustment)
Mid price is also called clean price
REMEMBER: On bonds, Interest accrues daily and is then distributed every six months.
That means that (unless the bond is only sold the day after interest has been paid out) the price paid for the bond will need to reflect who will receive the next interest payment. SEE IMAGE FOR EXAMPLE
IN THE ABOVE EXAMPLE THE STOCK IS TRADED AS ‘CUM DIVIDEND’ BECAUSE THE BUYER IS RECIEVING THE NEXT INTEREST PAYMENT
If a bond trades as ‘cum dividend’ or ‘ex dividend’ what does this mean?
Cum dividend (with dividend): Where the buyer receives the next interest payment
Ex dividend (ex dividend): Where the seller receives next interest payment even though they no long own the bond (occurs where a trade is happening very close to the interest payment
With interest rates being low at present, many GILTS are trading above their PAR value. For those buying above PAR, they will make a capital loss if they then retain the bond until maturity.
See example
Tell me about the bond market itself (ie, where bonds are traded and issued)
Primary Market (GILTS)
GILTS are issued weekly via the Debt Management Office (DMO) of HM Treasury. Large investors, such as pension companies, banks, and investment houses put in bids at the price and quantity they want. If successful, they pay the price they bid.
Primary Market (Corporate Bonds)
Corporate Bonds are typically issued less frequently, and are arranged by banks. Rather like new share issues, a prospectus is produced to attract investors, who then place indicative bids to buy the stock at a certain price. This determines a final price, and the buyer has 24 hours to confirm their bids and trade.
Secondary Market
Once issued through the primary market, all bonds are then traded in the secondary market. Trading is brisk with prices fluctuating all the time. As with shares, a lot of factors influence the price, not just supply and demand, such as interest rate movements, government policy, inflation rates etc.
What are Eurobonds?
Eurobonds are bonds denominated in a currency other than that of where they are issued and their name changes to reflect the currency zones, so a bond issued in American dollars by Japan would be a Eurodollar bond.
(They are nothing to do with Europe!)
You must know this for the exam
To calculate a bonds returns there are 2 main ways:
The interest yield & the Redemption yield
The former calculates the income return (not taking into account any capital gains or losses) and the latter calculates the overall return, including any capital gains or losses.
Tell me how both work:
The interest yield = (Coupon X 100) / Clean price
The Redemption yield =
Interest yield +/- (gain or loss to maturity / number of years until maturity) / clean price x 100
SEE IMAGE
If i were to say the income yield/running yield/flat yield of a bond is this, what do I mean?
Give an example
Those 3 terms are another way to say ‘The interest Yield’
The interest yield calculates the income return of a bond. It is basically like the AER of the bond
It is:
(Coupon X 100) / Clean price
See example in Image.
In the above examples it didn’t mention the actual prices that Keira or Connor paid. That is because it is irrelevant. Interest Yield is purely the coupon expressed as a percentage of the current clean price.
Note: Interest Yield is purely the coupon expressed as a percentage of the current clean price.
True or false
True
It does not take into account the ‘current price’ of the bond
How can the Interest yields sometimes be misleading?
Doesn’t account for any capital losses or gains if the bond is kept until maturity
See example image: This will be £27.86 per bond in Keira’s case and £16.85 per bond in Conor’s
The gross redemption yield takes account any gain or loss so it is more accurate.
Tell me the steps to calculate the redemption yield:
See image for equation
Note this is the ‘gross redemption yield’ as the calculation is a value before any tax has been deducted. Therefore, an individuals may be lower if they have a tax liability. This is an issue with using the ‘gross redemption yield’ calculation as seen above. Some individuals use the ‘net redemption yield’ calculation so their tax liability is taken into account (you do not need to know this for R02. Just know the difference.
The steps involved in this calculation are:
Step 1: Work out the ‘normal’ interest yield (you may be provided this in the exam)
Step 2: Work out the capital gain or loss at redemption
Step 3: Work out the gain or loss per year by dividing the capital gain or loss by the number of years until redemption
Step 4: Convert the yearly gain or loss into an income yield (positive or negative)
Step 5: Add or subtract the gain or loss to the ‘normal’ interest yield
See image for it being calculated in an example
NOTE: The interest yield = (Coupon X 100) / Clean price
If the redemption yield is less than the interest yield, that indicates there will be a capital loss if the bond is held until its redemption date.
If the redemption yield is less than the interest yield, what does this mean?
There will be a capital loss if the bond is held until its redemption date.
The opposite is true also
What is the main issue with the gross redemption yield calculation? (see image)
The clue is in the name
What can be done to combat this issue?
The ‘gross redemption yield’ calculation shows the return value of a bond before any tax is deducted.
Therefore, an individuals may have a lower return on their bond due to their tax liability but the calculation will not show this which is an issue. To tackle this some individuals use the ‘net redemption yield’ calculation so their tax liability is taken into account (you do not need to know how to do this for R02. Just know the difference between both calculations)
Are bonds subject to CGT?
Bonds are not subject to CGT
LEARN THIS. You must know both equations
Involves calculating the interest yield and the gross redemption yield
Tell me the different types of risk that fixed interest securities present and what they all mean
Very similar to cash beside one of them
Default risk: The creditworthiness of the firm you save with.
Inflation risk: The impact of inflation.
Interest rate risk: The uncertainty of interest rate movements.
Currency risk: Exchange rate movements if saving overseas.
Liquidity risk: The ability to sell at a given time.
SEE IMAGE
How can a rise in interest rates affect the prices of bonds?
When interest rates rise, people can get decent returns from their bank savings. They are less inclined to save in non-cash investments, so the demand for other investments fall
This means there is less demand for bonds, and their price drops.
The opposite is also true. If Interest rates fall, demand for bonds rise and so does their price, but demand for savings accounts will fall
This shows a correlation between one asset class (cash) and another (fixed interest securities)
How does a general drop in bond prices increase existing bonds yields?
The coupon stays the same at all times, therefore a falling price actually increases the yield, as shown in the following example.
This obvs assumes the owner doesn’t sell the bond, keeping it until redemption, and therefore not realising any loss from selling below PAR
There are two types of risk that mainly impact the supply and demand price of bonds. What are they?
‘Specific risk’ or ‘commercial risk’ that affect a particular stock. Also known as unsystematic risk.
Risks that affect the whole market. Known as ‘market risk’ or ‘systematic risks’
There are two types of risk that are the main impact on the supply and demand price of bonds.
1st type: ‘Specific risk’ or ‘commercial risk’ that affect a particular stock. Also known as unsystematic risk.
2nd type: Risks that affect the whole market. Known as ‘market risk’ or ‘systematic risks’
Tell me in more detail about ‘specific risk’
See image
Basically specific risk is micro factors that affect a particular/specific bond supply and demand such as the organisation/company who issued the bond.
What are junk bonds?
Bonds from issuers who have a high risk of default
It drives up the yield because the real time value of the bonds will fall as less people will want them
Why do bonds with far longer redemption dates are higher market or systematic risk?
The longer the period until redemption, the more likely it will be affected by systematic risk such as world events and companies running into difficulty.
Basically, the longer the term, the more things that could happen to adversely affect the bond = higher risk
What is the yield curve?
The yield curve is a graph that allows investors to work out what bond is best for them by comparing other bonds on the market with different redemption dates.
The graph compares the redemption yields of similar bonds with different redemption periods. It helps answer questions like: Should I go for a longer-term bond in the hope of getting a better yield?
The yield curve can be in 3 main forms. What are they?
-The normal yield curve
-The flat yield curve
-The inverted yield curve
Just remember: normal, flat and inverted.
The shape of the curve on any one day (whether normal, flat and inverted) gives an indication of the market’s expectations of changes in interest rates and future yields.
The yield curve graph (the tool investors use to compare bonds) can be in 3 main forms. They are:
-The normal yield curve
-The flat yield curve
-The inverted yield curve
Just remember: normal, flat and inverted.
What is the differences between each?
The flat yield curve is just a flat line
-The normal yield curve (what the graph looks like in normal conditions)
Where investors expect higher yield the longer the term due to the higher risk presented by longer term bonds. It levels out because when it gets to very long term bonds because If you want a 10% yield, it doesn’t really matter if the term is 24 or 25 years
-The flat yield curve (The flat yield curve is just a flat line)
It is When the economy is relatively stable and no changes to interest rates or inflation are expected, then there is less risk to be taken in buying longer-term stocks. The curve becomes flat. Investors are prepared to accept a lower yield and pay relatively more for longer-dated bonds)
-The inverted yield curve
(Occasionally the curve can invert, so that the yield expected on longer-term bonds is lower than on short-term bonds. An expectation of rising interest rates in the short-term followed by a reduction in rates thereafter can drive this.)
What is GILTS short for?
There are 3 types. Longs, Mediums & Shorts. What are the differences
Government-Invested Long-Term Security
The press and the DMO define GILT types differently
What are index linked GILTS?
What is the downside of this type of stock?
With index-linked GILTS, both the interest payments and the capital at redemption are adjusted, in line with inflation. The index used is the Retail Prices Index.
If RPI falls, then the interest and capital will also fall and vice versa.
Coupons on index linked GILTS tend to be much lower than on non- index linked stocks.
With index-linked GILTS, both the interest payments and the capital at redemption are adjusted, in line with inflation.
Considering GILTS only make the interest payments twice yearly, how is the rate of inflation that is applied to the GILT calculated and applied since the index changes on a daily basis and the GILT coupon is twice yearly?
What is this also known as?
When calculating the actual rate of inflation
GILTS use RPI figures from the period 3 months prior to the coupon payment date.
This is known as ‘indexation lag’.
What is the REPO market?
Its real name is the sale and repurchase agreement market
NOTE: JUST BE AWARE OF THIS. YOU DONT NEED TO KNOW IF LOADS OF DETAIL
The repo market increase liquidity of GILTS as it allows owners to use their GILTs as security to take out a short term loan to buy whatever is needed
Loans tend to vary between overnight arrangements to several months.
Basically it is for those who are low on cash but own GILTS
SEE EXAMPLE IN IMAGE
What is The strips market?
What is its real name?
NOTE: JUST BE AWARE OF THIS. YOU DONT NEED TO KNOW IF LOADS OF DETAIL
The Separate Trading of Registered Interest and Principal Securities market
It strips a gilt down into 2 things:
a series of interest payments and
a redemption payment which can be sold separately.
Corporate bonds (CBs) are either secured or unsecured
Tell me the difference
Secured CB-
where a charge is taken over the firm’s assets and in the event of default the assets can be used to repay the loan (lower risk) - Known as a ‘debenture’
Unsecured CB -
No assets secured (higher risk) - known as ‘loan stock’
What is a debenture?
Debentures can be secured by either a fixed charge or a floating charge.
Which one does the investor prefer and which one does the company prefer
It is a secured corporate bond
(where a charge is taken over the firm’s assets and in the event of default the assets can be used to repay the loan)
Fixed Charge = Company cannot sell the secured asset. preferred by investors as its a better security for them
Floating Charge = The company can still sell their assets. Preferred by companies as its less restrictive on them
Although corporate bonds are very similar to GILTS, there are differences that an investor needs to consider
Give some examples:
They are riskier, with a higher chance of default.
Prices are more volatile.
They can be more difficult to trade, particularly smaller company bonds.
The difference between the buying and selling price is greater.
The creditworthiness of the companies changes more regularly.
Yields are often greater to reflect the higher risks being taken.
What are Convertible Loan Stock?
What are Floating Rate Notes?
They are both types of corporate bonds
Convertible Loan Stock -
Unsecured corporate bonds that allow the holder to convert the loan into company shares for a set time period. If the time period expires it just becomes a normal loan stock. It has low coupon rates
Floating Rate Stocks -
Issued by banks. Interest return is linked to money markets. Because Money markets are linked to SONIA or LIBOR it is effectively linked to both these
What are Permanent Interest Bearing Shares (PIBS)
What are Perpetual Subordinated Bonds? (PSBs)
They are both types of corporate bonds
PIBS - Undated stocks (no redemption date) and no obligation from building society to make up for any missed payment (high risk CBs)
PSBs - Previous Building Society PIBS that have been converted since the BS has demutualised
What does it mean if a building society demutualises?
It means that it becomes a PLC and issues shares, therefore losing its mutual status
What is ‘loan stock’
An unsecured corporate bonds
What is a ‘debenture’
A secured corporate bond
Every company issues shares, but for shares to be offered to the general public the company must meet what requirements?
They must gain a listing on a stock exchange (where the share price is published and shares become more liquid (easier to buy and sell).
And offer a minimum 25% of their ordinary share capital for sale. (to be a PLC)
Where are shares mainly traded in the UK?
The London Stock Exchange (LSE)
Shares will generally be listed on one of two main markets within the The London Stock Exchange:
What are they and describe the differences
The main market
(Stringent rules, expensive to gain listing, where larger companies are found)
The Alternative Investment Market (AIM)
(for smaller and newer companies, less expensive, less stringent rules)
When buying/selling shares what are some of the associated costs and who is share dealing conducted with?
Dealing in shares is often conducted through stockbrokers
The associated costs of share dealings (buying or selling shares):
Commission - This is charged by the broker for their service
Stamp Duty (paper) / Stamp Duty Reserve Tax (paperless) - These are taxes paid on the purchase of shares. Both charge 0.5% of the purchase price.
Panel on Takeovers and Mergers (PTM) levy -
This is a flat £1 fee, applied to all trades (both purchases and sales) of more than £10,000. This levy funds the takeover panel
What is Stamp Duty (paper) / Stamp Duty Reserve Tax (paperless) in relation to share dealing?
These are taxes paid on the purchase of shares.
Stamp Duty applies to paper transfers (using stock transfer forms
Stamp Duty Reserve Tax applies to electronic transfers
Costs differ depending on whether purchase is via paper transfer (smaller companies mainly) or electronic transfer using CREST’s paperless method .
Both charge 0.5% of the purchase price, with SD (paper) being rounded up to the next £5 and SDRT (paperless) being rounded to the nearest penny.
(just remember, paper method is more expensive so rounding is worse)
SEE IMAGE FOR CALCULATION IN CONTEXT
Stamp Duty & Stamp Duty Reserve Tax is ONLY payable on the purchase of shares
Stamp Duty & Stamp Duty Reserve Tax is ONLY payable on the sale of shares
Stamp Duty & Stamp Duty Reserve Tax is payable on both the sale of shares and purchase of shares
Stamp Duty & Stamp Duty Reserve Tax are payable on both paper and electronic (through CREST) purchases
True
False (It is only payable on the purchase)
False
False. Stamp Duty is payable on paper purchases (using Stock transfer forms) and SDRT is payable on electronic (through CREST) purchases. Both charge 0.5% on the purchase price, but SD is then rounded up to the next £5 and SDRT is rounded to the nearest penny.
CONTEXT of share prices in relation to interest rates
There are two main classes of shares
The main difference between the two is that they offer different rights to the shareholder in areas such as dividend rights, control of the company and return of capital if the company goes into liquidation.
Outline and explain both
Ordinary & Preferential
Ordinary Shares gives owners:
-Right to share in the profits of company (via dividends, which are optional).
-Right to vote at company meetings (Annual General Meetings: AGMs).
-ownership of a portion /share of the company along with the other shareholders
Preferential Shares gives owners:
What are dividends paid from?
Who decides the amount of dividends to be paid?
The board of directors decides the amount of dividends to be paid.
Do companies always pay out all their profits as dividends?
What might a company do with profits instead of paying them all out as dividends?
What happens to the retained profits in terms of shareholder value?
Retained profits can increase the company’s value, leading to increased share value and capital growth for investors.
Dividends are paid from company profits.
The board of directors of the company decides the amount of dividends to be paid.
No, companies do not always pay out all their profits as dividends.
A company might retain some profits for business needs or reinvestment.
Retained profits can increase the company’s value, leading to increased share value and capital growth for investors.
What is the tax treatment of shares?
There is a dividend allowance (DA) of £1,000 (no tax on first £1000 received from dividends in a year)
If you exceed the dividend allowance the following rates apply. SEE IMAGE
Dividends are paid gross, but are taxable as the top slice of the investor’s income, sitting on top of any earned income and savings income.
SEE INTEREST RATES ON LEFT FLASHCARD. SEE EXAMPLES OF CALCUATIONS IN RIGHT FLASHCARD
Ordinary shareholders are the last people to be paid when a company goes into liquidation. True or false
True
Some companies offer Alphabet Shares. What is this?
Most companies have one class of ordinary share, but some firms issue ordinary shares with different rules.
These shares are known as ‘alphabet shares’ as they often use letters to denote their category, for example:
‘A’ ordinary shares where no voting rights are available
‘B’ shares are usually redeemable by the company, as a form of capital shareholder return
and so on
Preference shares rank above ordinary shares in the event of liquidation.
True or false
True
What are preference Shares?
They pay a fixed rate of return (via dividends) every six months
(This works in a similar way to loan stock except loan stock pay out regardless of profits and obvs pay interest, not dividends)
No voting rights initially, but voting rights can be made available if the company falls behind on its dividend payments.
There are several types of preference Shares. What are they?
Cumulative - Where missed dividend payments are made up in the future
Non-Cumulative - Where missed dividend payments are NOT required to be made up
Participating - fixed dividend + a share in company profits (a proportion of what an ordinary shares receive)
Redeemable - Undated so company can buy back when they want. Dividends are stopped when company buys back the shares. Used as short term finance for companies
Convertible - Can be converted into ordinary company shares (used often where the ordinary share price is rising)
All of the below are risks associated with investing in equities:
Equity capital risk
Market risk
Share dividend volatility
Liquidity risk
Currency risk
Counterparty risk
Regulatory risk.
Tell me about each:
Equity capital risk: Risk to capital, due to market forces.
Market risk: The impact of ‘wider market forces’.
Share dividend volatility: Dividends are uncertain.
Liquidity risk: The ability to sell at a given time.
Currency risk: Exchange rate movements, if dealing in overseas equities.
Counterparty risk: The risk that a counterparty will not pay what it is obliged to.
Regulatory risk: Issues causes by too strict or too slack regulations (such as what led to the 2008 crash)
Diversification reduces unsystematic or specific risk. It has little or no effect on systematic or market risk.
True or false
True
What is private equity?
Where investors purchase shares in a company or acquire companies that are not listed on the Stock Exchange (private firms)
They aim to invest their money that they will ‘exit’ in the future after a certain event occurs, such as the firm becoming public and gaining a listing.
Most investments in this area are made by institutional firms or ‘Dragons’ on ‘Dragons’ Den’ (thats a jk but they do do private equity)
What are investment ratios?
They are used to help decide whether it is worth investing in any firm, big, small, established, or new. This includes both private and public investing
For example, they can be used to know whether to buy HSBC or Lloyds Bank shares
They include the following:
Earnings Per Share
Dividend Yield
Dividend Cover
Price Earnings ratio (P/E)
Net Asset Value (NAV)
The 5 main investment ratios that are used to help investors know whether to invest into a firm are:
Earnings Per Share
Dividend Yield
Dividend Cover
Price Earnings ratio (P/E)
Net Asset Value (NAV)
Tell me briefly what each is used for:
SEE BOTH IMAGES
In your exam you will get questions where you have to; apply the calculations, work out which ratios you can calculate from information provided, and explain what each ratio tells us.
Earnings Per Share - Shows trends in companies profitability
Dividend Yield - Shows the value of a shares dividend
Dividend Cover - Shows how many times a dividend can be paid out of available earnings
Price Earnings ratio (P/E) - Shows the demand of shares when compared with other firms
Net Asset Value (NAV) - Shows what is available to shareholders in event of company closing down and selling everything
The various investment ratios in action
In your exam you will get questions where you have to; apply the calculations, work out which ratios you can calculate from information provided, and explain what each ratio tells us.
How does FTSE 100 and other indices work?
Indices combine the movements of individual share prices into one figure, designed to show how the market has moved over a period of time
Note: Most types of investment, such as property, fixed-interest securities, or shares have an index, and they are used worldwide.
A companies share is ‘against market movements’
How was the spotted by the potential investor and what does this mean?
The investor would have looked at the relevant index, for example FTSE 100 if they are investing a top 100 company
They would have seen that the index is going up, but the share they are considering is going down,
Therefore the share is ‘against market movements’
The investor will then check why and assess if their investment is a good choice.
Some equity indices are ‘capital weighted’ such as FTSE 100. What does this mean
The larger the company (measured via market cap), the bigger its weighting in the index.
What are the four 4 main FTSE indices?
As well as the 4 main indices FTSE has 3 ‘Smaller’ FTSE Indices tailored more for smaller companies.
What are they?
WORLDWIDE INDICIES. JUST BIEFLY KNOW 2 OR 3
QUESTION
Property investments can be direct or indirect
What does this mean?
Direct: the purchase of actual ‘bricks and mortar’
Indirect: investing in property via the use of collective investments
What are the main risks associated with property investment?
Liquidity Risk: The ability to sell at a given time or realise cash quickly.
Management Risk: Skills and funds required to run the business.
Void Risk: The risk that the property will be vacant.
What are rental yields?
There are two types. What are they?
They show the value of the rental income as a percentage of the total property price paid.
Two types:
Gross rental yield
Net yield
There are two rental yields. These show the landlord the value of the rental income as a percentage of the total property price paid.
Two types:
Gross rental yield
Net yield
Tell me about both
Gross rental yield = gross rent achieved / the market price paid or Cost Of Purchase (SEE IMAGE ON LEFT)
Net yield (more accurate) = Takes into account associated cost (SEE IMAGE ON RIGHT)
Rental Yields Calculations
What is Stamp Duty Land Tax (SDLT)
It is a tax on land transactions and is payable by the individual who acquires the land.
It is often shortened to ‘stamp duty’
Tell me the difference between
Stamp Duty Land Tax
Stamp Duty Reserve Tax
Stamp Duty
Stamp Duty Land Tax (often shortened to stamp duty) - It is a tax on land transactions and is payable by the individual who acquires the land.
Stamp Duty Reserve Tax is payable on the purchase of shares that are bought electronically (via CREST)
Stamp Duty is payable on the purchase of shares that are bought with paper (stock transfer forms)
JUST REMEMBER: ‘STAMP DUTY’ could be referring to two different taxes
Stamp duty Land Tax transactions fall into two categories:
What are they?
Leasing/renting land or premises (extra threshold applies to this)
Buying land or premises
REMEMBER: Stamp Duty Land Tax (SDLT) on purchases is often tested by the R02 examiner.
Tell me about Stamp Duty Land Tax
Your tax tables include a lot of information on SDLT. Make sure you know what is and is not on there, ahead of your exam.
Like with share stamp duty, no SDLT is paid on a sale. It is only paid on the property purchase
It is payable on the land, therefore not due on the ‘fixtures and fittings’ that may come with purchasing a property (such as carpets, domestic appliances etc.).
It is tiered depending on value of property
(see image)
Any second home or buy-to-let residential property purchased for £40,000 + pays an extra 3% SDLT on top of the usual tiered rates (inc. the first bands, which are normally SDLT free (so if your in the lower bands you may have to pay 3%).
A 2% surcharge applies for non-UK residents purchasing residential property for over £40,000 i
If a non UK resident purchases a residential property for over £40,000 what happens in relation to SDLT?
If you buy a second home or buy-to-let residential property purchased for £40,000 whether UK resident or not, what happens?
A 2% surcharge applies (2% on top of any other stamp duty )
Any second home or buy-to-let residential property purchased for £40,000 + pays an extra 3% SDLT on top of the usual tiered rates (inc. the first bands, which are normally SDLT free (so if your in the lower bands you may have to pay 3%))
Stamp Duty Land Tax In Context 1/3
Stamp Duty Land Tax In Context 2/3
Stamp Duty Land Tax In Context 3/3
Stamp Duty Land Tax can be avoided by exchanging properties
True or false
False
What are the reliefs in relation to SDLT that are available to first time buyers
First time buyers have discounted rates up to £625,000
The rates paid by qualifying first time buyers is:
0% SDLT up to £425,000
5% SDLT on the portion from £425,001 to £625,000
Who pays Stamp Duty Land Tax (SDLT) when purchasing a property?
Does the seller of a property pay SDLT?
Can SDLT be avoided through property exchange?
What happens to SDLT rates when a property value exceeds a threshold by £1?
If a property is exactly on a threshold, into which SDLT rate band does it fall?
What SDLT rate applies to a property valued at £250,000?
What SDLT rate applies to a property valued at £250,001?
Do different SDLT rates apply to residential and non-residential property purchases?
What special SDLT rules apply to first-time buyers?
The purchaser of the property.
No, the seller does not pay SDLT.
No, SDLT cannot be avoided through property exchange.
The property falls into the higher SDLT rate.
It falls into the lower rate band.
0% band.
5% band.
Yes, different rates apply, but the calculation is the same.
New rules apply for first-time buyers who buy property below £625,000.
What is Rent a Room relief?
The criteria for this is strict (see left image)
It is tax breaks available to anyone who takes a lodger. It allows first £7500 that is earnt from rent to be tax free.
A lodger is someone who rents a room in someone’s house and share common facilities
In relation to example:
Mary has two options when it comes to declaring the additional annual income of £9,600 to HMRC:
She can pay income tax on the full amount, and claim back expenses, or
She can claim RAR relief. The first £7,500 is tax-free and she then pays tax at her highest marginal rate on the excess of £2,100.
Can you claim expenses through the Rent A Room Relief?
No expenses are claimable using rent a roof!
RAR allows £7500 to be earnt tax free from lodger
The commercial property sector is divided into 3 main sections. What are they?
Retail
Offices
Industrial
Very few individual investors buy commercial property to rent out. True or false?
True, because it is so risky
it is instead mainly institutional investors such as pension funds, insurance companies and collective investment schemes
Benefits and Disadvantages of property investments
Why can alternative investments (investments outside the 4 main asset classes) be useful to include in your portfolio?
For diversification
For example, commodities continued to rise through the credit crisis whilst all other assets were affected by systematic (market) risk.
Name some common types of alternative investments and add a downside of each
Works of art and collectables-
includes things like wine, books, paintings, stamps and coins. Almost anything can become a collectable.
Downside: Specialist knowledge is required, no income produced, high associated costs such as insurance
Hard Commodities - where mining or other extractive processes take place
Downside: Direct investment is difficult (you cant store gas or oil as an individual) besides small amounts like GOLD, silver. Unethical views
Soft commodities - Things that are grown rather than mined/extracted
Downside: Direct ownership is difficult- individuals don’t just have acers of storage space and prices also fluctuate widely, and particular expertise is required.
Cryptocurrency:
Highly volatile, unregulated
What are hard commodities?
What are soft commodities?
Hard commodities are the products of mining and other extractive processes
These include gold, silver, minerals, crude oil, and natural gas.
Soft commodities are typically grown rather than mined.
They include coffee, cocoa, sugar, corn, wheat, and livestock.
Commodities are now very popular as collective investments, with many pension funds, OEICs and unit trusts investing to diversify their funds.
What are some risks associated with alternative investments?
Currency Risk: Most commodities originate from overseas, so currency exchange can be a big factor.
Political Risk: Many commodity-rich countries have a somewhat chequered present, past, and no doubt future. Diamonds in Rwanda and South Africa, oil in Iraq, to name but just two.
Do cash deposits expose an investor’s capital to investment risk?
What is the only return for cash deposits?
What factor often erodes the interest earned on cash deposits?
How can an investor achieve higher interest rates on cash deposits?
How much protection does the FSCS provide for cash deposits per person per organisation?
Which organization backs all National Savings products, making them considered risk-free?
Why do banks and building societies want to attract deposits?
What can fixed-interest securities provide for investors?
What can happen to the value of fixed-interest securities if sold before expiry?
No, cash deposits do not expose an investor’s capital to investment risk (ie, the capital is secure)
Interest is the only return for cash deposits. (no capital growth)
Inflation
Higher rates are sometimes available by agreeing to leave the money untouched for a longer period of time via notice accounts or fixed accounts
The FSCS protects 100% of cash deposits, capped at
£85,000 per person per organisation.
All National Savings products are backed by the UK Government and so are considered risk-free for 100% of investment.
Banks and building societies want to attract deposits so they can lend to others at a higher rate.
Fixed-interest securities can provide a secure income.
If sold before expiry, their value can go down as well as up depending on supply and demand
What are the main factors that affect bond prices?
What types of risks affect individual bonds and the market as a whole?
Which type of fixed-interest security is guaranteed by the Government and free of default risk?
What potential do equities offer and how are they characterized in terms of risk?
What are the two types of equities?
What tools allow investors to analyze and compare investments in equities?
What do stock market indices provide?
How does property serve as an investment in relation to inflation?
What is a significant drawback of investing in property in terms of liquidity?
How do property returns vary?
What are some expenses associated with property investment?
What special reliefs apply to property for rent-a-room lodgers?
What is a typical characteristic of alternative investments in terms of income?
What are some costs associated with alternative investments?
What level of expertise is needed for alternative investments?
Are alternative investments suitable for direct investment?
Many factors affect bond prices, but mainly interest rates and inflation.
Specific risk affects individual bonds, while systematic risk/market risk affects the market as a whole.
Gilts are guaranteed by the Government and so are free of default risk.
Equities offer potential for long-term growth, but are arguably the riskiest asset class.
The two types of equities are Ordinary and Preference shares.
Investment ratios allow investors to analyze and compare investments in equities.
Stock market indices provide a general overview of the markets as a whole and also provide benchmarks.
Property is an asset-backed investment that can provide a good foil against inflation.
Property is not very liquid, and can be difficult to realize.
Returns vary greatly between cities, towns and even streets.
Expenses associated with property investment can be high.
Special reliefs apply for rent-a-room lodgers. (First £7500 in rent from lodger is tax free)
Alternative investments typically provide no income.
Alternative investments have high costs such as insurance, valuations, maintenance, and shipping.#
A high level of expertise is needed for alternative investments.
Alternative investments are not suitable for direct investment.
Joanne is looking at ways of using a bedroom in her house for additional income. As she lives in an area popular with commuters, Joanne hopes to obtain rent of £600 per month. Which of the following is not a criterion in qualifying for rent-a-room relief?
The property must be in the UK
There is no need for Joanne to claim the relief
The property must be unfurnished
The room must not be self-contained
The property must be unfurnished
To qualify for rent-a-room relief the property must be furnished, not unfurnished. All the other criteria are correct. Option B does not fit the definition of ‘criteria’, but you will see anomalies like this in the exam.
What is a self contained room?
One of the criteria for rent a room is that the room must not be self containd
A self-contained room is a living space within a larger property that includes its own essential facilities, enabling the occupant to live independently from the rest of the property. These facilities typically include: bathroom, kitchen etc
Therefore, to satisfy the rent a room criteria the lodger must have a room and use common facilities outside of their room that everyone uses
To qualify for rent-a-room relief the property must be furnished. True or false
True
It does not qualify if the property is unfurnished
Jack and his wife Cassandra have three children, Jonah aged 18 months, Sian aged 4 and Chloe aged 17. What is the maximum they can put into standard Cash ISAs?
£20,000
£40,000
£60,000
£72,360
£60,000
Both adults can now contribute £20,000 into the Cash ISA. As Chloe is 17, she can also contribute to one. The other two children would only qualify for the Junior ISA (not standard ISAs as the question asks)
purchased a Treasury 6% 2034 Gilt. The clean price that was published was £105 but Peter paid £110 dirty price to enable him to receive the next coupon distribution. The par value is £100.
What running yield will Peter receive on his investment?
6.19%
6.00%
5.71%
5.45%
The dirty price paid is not used in a running yield calculation, as it is simply an extra payment to secure all of the next coupon distribution.
The running yield is the coupon ÷ the clean price, so £6 ÷ £105 = 5.71% running yield.
Remember
Running yield = Interest yield = Flat Yield
Derek recently bought shares in 3 different banks as per the table below. Assuming all transactions were completed on CREST, how much Panel on Takeovers and Mergers (PTM) levy will he have paid?
Bank / Amount subscribed
A = £20,000
B = £11,000
C = £9,000
£0
£1
£2
£3
A PTM levy of £1 is paid on each transaction above £10,000 so he would have paid £1 when buying shares A & B
Therefore £2
For this question you must know the Takeovers and Mergers (PTM) levy
Christopher has carried out several share deals this year. What is the total Stamp Duty/Stamp Duty Reserve Tax he would have paid on the following?
Bought £10,000 company A shares using CREST.
Sold £5,000 company B shares using CREST.
Bought £7,500 company C shares using a paper-based system.
Bought £2,500 company D shares using a paper-based system.
Possible Answers:
£100
£105
£125
£130
Stamp Duty / Stamp Duty reserve tax is paid at 0.5% on purchases only:
Bought £10,000 company A shares using CREST: £10,000 x 0.5% = £50
Sold £5,000 company B shares using CREST: £0 no stamp duty on sales because it was SOLD
Bought £7,500 company C shares using a paper-based system: £7500 x 0.5% = £37.50 but rounded up to £40 as paper transactions are rounded up to nearest £5
Bought £2,500 company D shares using a paper-based system: £2500 x 0.5% = £12.50 but rounded up to £15 as paper transactions are rounded up to nearest £5
ANSWER: Total = £50 + £40 + £15 = £105
READ QUESTIONS CAREFULLY AS TO WHETHER IT WAS BOUGHT OR SOLD
Jack holds shares with three different companies, and has just received a dividend from each as shown below.
Which of these has given Jack the greatest dividend yield?
Company / Share Price / Dividend Paid / Profits attributable to shareholders
A / £6.30 / 35p / £500,000
B / £1.20 / 10p / £620,000
C / £0.90 /5p / £850,000
Dividend yield is calculated by dividing the dividend by the share price x 100.
‘Profits attributable to shareholders’ would be needed to calculate Dividend Cover, but not dividend yield.
Company A = 5.56% dividend yield
Company B = 8.33% Dividend yield
Company C = 5.56% dividend yield
Company B gave Jack the highest dividend yield
Jager has little investment experience but wants to get into shares. He is happy to pay a premium for growth shares.
Using the price/earnings ratio only, which of the following shares would you suggest he buys?
Company / Earnings per share / Share price
A / 75p / £5.50
B / 50p / £6.15
C / 20p / £2.25
D / 10p / £1.25
The price earnings ratio gives the formula in its title. Price/Earnings= P/E ratio.
A high ratio usually indicates that investors are confident about future earnings growth.
Company A = 7.33
Company B = 12.3
Company C = 11.25
Company D = 12.50
Company D has highest Price/Earnings so to answer question it is D. In real life other factors will be taken into account
Chad, a first-time buyer, has just bought a flat in Wolverhampton for £500,000. His brother Dave, also a first time buyer, has bought a house in Solihull for £650,000. What is the total Stamp Duty Land Tax that they will pay?
£15,000
£20,000
£23,750
£32,500
Answer = £23,750
Chad’s purchase price is £500,000, so he qualifies for the first time buyer rates.
£0 - £425,000 x 0% = £0
£75,000 x 5% = £3,750
Because of the purchase price of Dave’s house, he cannot qualify for first time buyer rates, and will instead be subject to normal rates. He will pay:
£0 - £250,000 x 0% = £0
£250,001 - £650,000 x 5% = £20,000
Total £3750 + £20000 = £23,750.
Gerald owns a retail shop of 125 square metres that he previously rented out for £2,000 per month, providing a 6% annual yield. Earlier this year he purchased the shop next door, which he has combined with the existing property to create a new retail space of 225 square metres. The purchase and improvements cost £250,000.
How much rent must he charge to achieve the same yield?
£3,250 per month
£2,800 per month
£3,600 per month
£3,000 per month
The annual rental income previously was £2,000 x 12 = £24,000. If the yield was 6%, the cost of the original property was £24,000 / 0.06 = £400,000.
Therefore the total cost of the combined retail space is £650,000.
To achieve the same yield, the rent required is £650,000 x 6% = £39,000 per annum or £ 3,250 per month.
The information about the size of the property was a red-herring, as the question was not asking you to express it as ‘£ per square metre’.
An investor pays a clean price of £114.60 for £100 nominal value of stock, with a 6% coupon. Assuming the stock has exactly seven years to run until maturity, what will the simplified gross redemption yield be?
3.42%
2.09%
5.24%
6.00%
ANSWER = 3.42%
Calculate the running yield/interest yield/flat yield first by dividing the coupon by the clean price then use the gross redemption yield equation.
£6 ÷ £114.60 x 100 = 5.24%
Then calculate the loss or gain that would be made at redemption: £114.60 – £100 = £14.60.
This would be a loss, as they are paying over par to buy it. Divide this loss by the number of years remaining. £14.60 ÷ 7 years = £2.09 annual loss.
Divide this annual loss by the clean price: £2.09 ÷ £114.60 x 100 = -1.82%
Deduct this figure from the running yield: 5.24% – 1.82% = 3.42%
You must know both the gross redemption yield equation and interest yield equation
Joanne is buying a property for £275,000 and Kai is buying a property for £375,000. Joanne is also paying an additional £15,000 for items of furniture that the current vendor is willing to leave in the property. How much more Stamp Duty Land Tax will Kai pay than Joanne, assuming neither are first time buyers?
£3,000
£4,250
£5,000
£6,250
Answer: Kai pays £5,000 more
Stamp Duty is paid at a rate of 0% of on the first £250,000, and 5% on £250,001 to £925,000.
There is no stamp duty on the money that Joanne is paying for the furniture items, therefore:
For Joanne:
£250,000 has no stamp duty
£25,000 has 5% stamp duty = £1,250
For Kai:
£250,000 has no stamp duty
£125,000 has 5% stamp duty = £6,250
= £5,000 bigger bill for Kai
A limited company has 5,000 ordinary shareholders. In the current financial year, the company made profits of £1,090,000. The company has just declared a dividend of £84 per ordinary share and a total dividend of £190,000 is due to preference shareholders. What is the dividend cover?
2.14
2.60
1.76
1.46
Answer = 2.14
Dividend cover is calculated by dividing the profits attributed to ordinary shareholders by the dividend payments to ordinary shareholders. The dividend payments are £84 x 5,000 = £420,000.
Profit attributed to ordinary shareholders is £1,090,000 - £190,000 (the dividend due to preference shareholders) = £900,000
The dividend cover is therefore: £900,000 ÷ £420,000 = 2.14
The company could pay the dividend distributed 2.14 times from the profits available for distribution.
Martin is a high rate taxpayer. He has just purchased an investment property for £190,000. The transaction costs add up to £3,000. If the rent is £700 per month, with 20% earmarked for expenses, what will be the net yield that Martin will receive on this property?
4.42%
4.35%
3.48%
2.09%
The overall acquisition price, taking into account the costs, needs to be established first. £190,000 + £3,000 = £193,000.
The rent needs annualising as before, so £700 x 12 = £8,400 and this is adjusted to reflect the expenses. £8,400 x 20% = £1,680.
So, overall annual rental income is £8,400 - £1,680 = £6,720.
Then calculate as before so £6,720 ÷ £193,000 x 100 = 3.48%.
Martin’s tax rate is not relevant here, as net property yield is pre-tax.
The share price of company X is 285p and the earnings per share are 15p. The share price of company Y is 181p and the earnings per share are 34p. The price earnings ratio of companies’ X and Y respectively, would be:
5.26 and 1.88
19 and 5.32
6.35 and 0.44
1.57 and 2.27
19 and 5.32
The P/E ratio is the price ÷ earnings so:
Company X = 285 ÷ 15 = 19
Company Y = 181 ÷ 34 = 5.32
A limited company has purchased a residential property in Kensington for £1,650,000. What would the Stamp Duty Land Tax be on this transaction?
£65,000
£72,000
£111,750
£247,50
£1,650,000 x 15% = £247,500
When considering the price of a conventional GILT…
you will always receive £100 per gilt at redemption
a price of £109.50 is said to be below par value
a purchaser of a gilt will usually pay a lower price than the seller will receive
a purchase of a bond between coupon payment dates will be transacted at the clean price
you will always receive £100 per gilt at redemption
All GILTS pay back the £100 nominal or par value at maturity and costs are inevitably involved in the transaction, meaning that the seller will not get all of the value of the sale.
Anything above £100 is trading over par, not under par. Most transactions occur at the dirty price, taking into account the interest adjustment.
Tabatha, who usually invests in equities, is looking to diversify her portfolio by investing in commercial property. You should advise her that…
any transaction is likely to be slower, and more complex, than she is used to
she is unlikely to pay Stamp Duty Land Tax
the income yields will be higher from more expensive properties
the commercial property sector is more liquid than the equity markets
any transaction is likely to be slower, and more complex, than she is used to
Any kind of direct property transaction is slow to complete and the market, even at its most buoyant, is somewhat illiquid. Stamp Duty Land Tax is payable.
Ibrahim is looking to invest in commodities to further diversify his investment portfolio. If he proceeds… SELECT ALL THAT APPLY
he will only be able to trade directly in hard commodities
the expected returns would be higher than any normal asset class
he could invest in a commodities OEIC or Unit Trust
commodities should diversify his equities well, as they are negatively correlated to them and move in different cycles
2 Answers:
He could invest in a commodities OEIC or Unit Trust
Commodities should diversify his equities well, as they are negatively correlated to them and move in different cycles
Explanation:
In theory, anyone can hold both direct and indirect commodities but in reality, it is impractical, with storage of the commodities being the biggest issue. So, many investors invest via funds.
Commodities have performed well and do work as a perfect foil against equities, but it is impossible to say that they will, or should, outperform other ‘normal’ asset classes.
Peter, a higher rate taxpayer, has £90,000 of savings in his only building society account. Karen, an additional rate taxpayer, has £101,000 in her only bank deposit account. Both accounts provide the same interest rate. In comparing the two accounts you would note… SELECT ALL THAT APPLY
Karen would have a higher level of protection from the FSCS
Peter’s account must have exit penalties, as building societies always pay higher returns
both accounts would have the same level of tax deducted automatically at source
Karen’s account is less likely to provide voting rights
the maximum Peter can deposit in a building society account is £100,000
ANSWER: both accounts would have the same level of tax deducted automatically at source
Karen’s account is less likely to provide voting rights
EXPLANATION:
Both would be protected by the FSCS up to the £85,000 limit. Building societies can have voting rights through their share accounts, but these do not guarantee better rates.
All interest from bank and building society accounts is paid gross irrespective of the tax status of the depositor. They both have £0 deducted at source because interest is paid gross
Theresa, an experienced investor, has diversified her portfolio by buying some shares in Bovis Homes. She should be aware that listed property company shares… SELECT ALL THAT APPLY
offer greater diversification than direct property investment
will not be eligible to put into a ISA
will be less volatile than direct property investment
are affected by the quality of the company management
will be easier to sell than direct property investment
ANSWERS: offer greater diversification than direct property investment, are affected by the quality of the company management & will be easier to sell than direct property investment
EXPLANATION:
Shares in property companies are a good indirect way of investing in the property market. A buoyant housing market should boost share prices across the industry, assuming that good company management is in place.
Housing companies will build and maintain many properties in different locations, diversifying their own portfolios. The shares are as readily saleable as any other stock, which can mean that they are actively traded, so their price will fluctuate, making them a more volatile investment than the value of a property owned directly.
Listed shares are eligible investments for an ISA. (its irrelevant whether property is involved, just that they are listed shares)
When depositing cash into a bank account, an investor should be aware that… SELECT ALL THAT APPLY
the only return will be interest, the capital will not grow
all accounts are obliged to pay an interest return
interest payments to non-taxpayers are always made without tax being deducted
protection from the FSCS may apply within certain limits
a term account is more likely to pay a higher rate than an instant access account
a, c, d & e are correct
Explanation:
Capital growth is not possible from bank accounts with the only income coming via interest distributions.
Accounts paying no or little interest are quite common
Interest is paid gross to all investors, not just non tax payers although the it is still correct given what the question is asking
FSCS protection applies to the first £85,000 of an investor’s deposit in any organisation that qualifies.
Jessica and Troy have their savings of £50,000 each in a NS&I investment account and a building society account respectively. When comparing the two accounts… SELECT ALL THAT APPLY
Jessica is effectively lending her money to the Government
both are protected under the FSCS rules
Troy will usually receive lower rates of interest
both accounts will pay interest net of basic rate income tax
Jessica can put a maximum of £1,000,000 in her account and Troy has no maximum
Answers: Jessica is effectively lending her money to the Government and Jessica can put a maximum of £1,000,000 in her account and Troy has no maximum
EXPLANATION
NS&I is the Government’s banking arm and so investors are technically lending their money by saving with them.
They are government, not FSCS protected so only one is FSCS protected
Both pay gross interest.
The investment account has a £1m maximum deposit and pays its interest gross but taxable. There is not usually an upper limit on building society accounts unless it is something like a Cash ISA.
When comparing Richard’s preference shares and Rebecca’s ordinary shares in the same company, you would correctly note that… SELECT ALL THAT APPLY
only Richard will have voting rights
Rebecca will have less protection in the event of the company liquidating
both of them have less protection than any corporate bond holders
both of them can choose whether to have their dividends on a cumulative or non-cumulative basis
Answers:
Rebecca will have less protection in the event of the company liquidating & both of them have less protection than any corporate bond holders
Explanation:
Ordinary shareholders are at the end of the queue for payment in the event of a company’s liquidation. Preference shareholders are one in front of them, with corporate bond holders being in front of both because CB holders are classed as creditors
Voting rights exist in ordinary shares but are rare in preference shares, as they only get the right to vote if a dividend (or a series of them) is missed
Mark invests in several GILTS and corporate bonds. When comparing these…
GILTS are less volatile than corporate bonds
corporate bonds are sub investment grade, whereas GILTS are investment grade
if a higher yield is sought, a corporate bond is likely to be a better solution
corporate bonds are easier to trade than GILTS
GILTS are only available on the primary market
Correct Answers:
if a higher yield is sought, a corporate bond is likely to be a better solution & GILTS are less volatile than corporate bonds
EXPLANATION:
This question is all about the hierarchy of risk in bonds.
GILTS, with their government guarantee are the most secure, but offer the lowest returns. As a result, their value tends to be less volatile than corporate bonds.
Both GILTS and corporate bonds are often relatively liquid but smaller companies can be harder to trade.
Sub -investment is a term for lower-rated corporate bonds, however many of them are investment grade, as all GILTS are.
George has a portfolio of shares comprised of AIM-listed shares, FTSE100-listed shares, and FTSE 250-listed shares. He is unsure about the differences that the various listings make, and has asked you to explain this to him. You can correctly state that an AIM listed company is likely to be…
smaller than a company listed on the FTSE 100 index
less volatile than a FTSE 250 share listing
a newer company with more risks than an established company
less affected by rules when going through the listing process
Correct Answers: A, B & D
Explanation:
AIM is the easier to access, smaller company listing that many companies use as a stepping stone to full listing. They are typically more volatile than FTSE listed shares, due to their size and often infancy.
Gladys has a low attitude to risk. She currently holds £20,000 on deposit with her local Building Society, and £10,000 in Premium Bonds. She has just received an inheritance from her mother and has another £60,000 that she wishes to place on deposit. When considering Premium Bonds as an investment, Gladys would be correctly advised that…
she can contribute a maximum of £50,000 per annum
she is not guaranteed any return from her investment, but the capital is secure
Premium Bonds have different issues, with different returns on each one
the minimum purchase is £25
Answers are B & C
EXPLANATION:
Premium bonds have a total limit of £50,000 not an annual limit. Investment starts at £25. They cant guarantee a return because they use a prize draw system
Harry is 15, and has just started a Saturday job for the summer holidays. He will earn £40 per day, but will only be working for 7 weeks. His grandmother wants to encourage him to save, so has said that she will give him £1,000 to add to whatever he saves from his wages. As Harry is a new saver, he is asking about deposit accounts. You can correctly tell him…
normally, the longer the notice period, the higher the interest
term accounts usually pay higher interest
banks pay higher rates than building societies
building societies have more choice of accounts
Answers are A & B
explanation:
The longer you keep your money under wraps, the better your rate should be.
Banks and building societies have little between their rates and products
You need to be 18 to qualify for an investment ISA. For cash ISA its 16
What are the usual characteristics of a company listed on the Alternative Investment Market compared to shares of a FTSE 100 company?
It will have a wider share spread
It will have larger market capitalisation
Less Stamp Duty Reserve Tax will be payable on purchase
It will have lower returns
Answers: A & C
Explanation.
AIM Shares are smaller companies with lower market cap. It is impossible to say that they will have lower returns or higher returns.
The difference between the buying and selling price i.e. the spread will be wider
No SDRT is payable on AIM shares but is on FTSE100 shares.
No SDRT is payable on AIM shares but it is on FTSE100 shares.
True or false
True!
When is the PTM levy payable?
On share purchases of more than £10000
When is the PTM levy payable?
On share purchases of more than £10000
What is a shares spread
The difference between the buying and selling price
What is ‘internal rate of return’?
Another name for money weighted return
What is ‘internal rate of return’?
Another name for money weighted return
