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CeMAP 1 - UKFR > Topic 7 > Flashcards

Topic 7 Flashcards

Other direct investments

1
Q

What are four factors affecting share prices?

A

Company profitability
Strength of the market sector
Strength of the UK and global economy
Supply of and demand for shares and other investments

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2
Q

What are equities?

A

Equities, also known as ordinary shares, are securities issued by UK companies that represent ownership in the company.

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3
Q

Who typically buys equities?

A

Private investors
Institutional investors (e.g. pension funds, life insurance companies)

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4
Q

What are the two main rights of shareholders?

A

Receiving dividends: A share of the company’s distributed profits.
Voting rights: Participating in decisions at shareholder meetings.

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5
Q

Where can investors check the rights attached to a specific share?

A

In the company’s articles of association, available at the registered office or Companies House.

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6
Q

Why is direct investment in shares considered high risk?

A

If the company fails, shareholders could lose all their capital.

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7
Q

How can investors reduce the risks of investing in shares?

A

By diversifying their investments across different companies and sectors, using products like unit trusts.

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8
Q

What are securities?

A

Financial assets that can be traded, divided into:

Equities (ownership)
Debt instruments (gilts, corporate bonds, etc.)

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9
Q

What is a dividend?

A

A portion of a company’s profits distributed to shareholders.

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10
Q

What factors affect the level of dividends paid?

A

Company profitability
Strategic decisions, such as reinvesting profits for business expansion.

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11
Q

What is the London Stock Exchange (LSE)?

A

The UK’s market for stocks and shares, where shares, gilts, corporate bonds, and options are traded.

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12
Q

What are the two markets for shares on the LSE?

A

Main market (requires full listing)
AIM (Alternative Investment Market) (for smaller, growing companies)

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13
Q

What are the requirements for a company to be listed on the main market?

A

Must comply with FCA’s Listing Rules
Must have been trading for at least three years
At least 25% of issued share capital must be held by the public

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14
Q

What are the two functions of the LSE?

A

Primary market: Where companies raise finance by selling securities
Secondary market: Where investors buy and sell existing securities

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15
Q

What is the purpose of AIM?

A

To help new and small companies raise capital by issuing shares, with fewer listing requirements than the main market.

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16
Q

What are share indices, and why are they important?

A

Share indices measure the overall performance of shares in the market.

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17
Q

What are the key FTSE indices?

A

FTSE 100: Top 100 companies by market capitalisation
FTSE 250: Next 250 largest companies
FTSE 350: Combination of FTSE 100 and FTSE 250
FTSE All-Share: Around 600 companies, covering various sectors

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18
Q

What is market capitalisation?

A

The market value of a company, calculated as:
Number of shares issued × Share price

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19
Q

What is over-the-counter (OTC) trading?

A

A type of trading where institutions trade large blocks of securities privately, often referred to as ‘dark pools’.

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20
Q

What is limited liability in the context of shareholders?

A

Shareholders are not personally liable for a company’s debts but may lose their investment if the company goes into liquidation.

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21
Q

Why do investors expect higher returns from equities compared to deposit-based investments?

A

Because equities carry higher risk, including the potential loss of investment, they typically offer higher returns over the long term.

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22
Q

What are the two main forms of financial returns shareholders seek?

A

Capital growth (increase in share price)
Dividends (profit distribution to shareholders)

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23
Q

What does it mean when a share is ‘ex-dividend’ (xd)?

A

The dividend payment process has started, and new buyers will not receive the next dividend; the share price typically falls by the dividend amount.

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24
Q

What does ‘cum-dividend’ mean?

A

The share is purchased before going ex-dividend, so the buyer will receive the next dividend.

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25
What is earnings per share (EPS)?
Net profit ÷ Number of shares. It shows how much profit is attributable to each share but does not indicate dividend payments.
26
What is dividend cover?
The ratio of profits to dividends. A cover of 2.0 or more is considered acceptable, while a figure below 1.0 suggests dividends are paid from past reserves.
27
How is the price/earnings (P/E) ratio calculated?
Share price ÷ Earnings per share. It indicates a share’s growth potential, with a high P/E suggesting high demand and expected future earnings growth.
28
What are the tax implications of dividend income?
Dividends are taxable based on the individual’s tax band. A dividend allowance (DA) applies, meaning some dividend income is tax-free. Higher-rate taxpayers pay more tax on dividend income.
29
How is capital gains tax (CGT) applied to shares?
Profits from selling shares may be subject to CGT, but investors can offset gains against their annual CGT exempt amount.
30
What is a rights issue?
A rights issue is when a company offers new shares to existing shareholders (e.g., 1 new share per 3 held) at a discounted price before offering them to the public.
31
What happens if a shareholder does not want to buy new shares in a rights issue?
They can sell their rights to another investor, allowing them to be compensated for the dilution of their existing shareholding.
32
What is a scrip issue (bonus issue)?
A company issues free additional shares to existing shareholders by transferring reserves, which increases the number of shares and reduces the share price proportionately.
33
How do preference shares differ from ordinary shares?
Fixed dividend rate Paid before ordinary shareholders Cumulative (unpaid dividends accumulate until paid) Usually no voting rights, except in some cases (e.g., unpaid dividends)
34
What happens to preference shareholders if a company is wound up?
They have a higher claim than ordinary shareholders but still rank below creditors in repayment priority.
34
What are convertible preference shares?
Shares that can be converted into ordinary shares at a future date, often issued with lower interest rates than standard corporate bonds.
35
What is a warrant in share trading?
A financial instrument that allows the holder to buy shares at a fixed price in the future. If the share price is higher than the fixed price, the holder profits; otherwise, the warrant lapses.
36
What are two benefits of property investment?
Property is an acceptable form of security for borrowing. The UK property market is well-developed and operates efficiently.
37
What are three risks associated with property investment?
Location risk: A poorly located property may struggle to gain value. Market risk: Property prices can fall during economic downturns. Liquidity risk: Property is harder to sell quickly compared to other investments.
38
What tax applies to the purchase of a property?
Stamp Duty Land Tax (SDLT) applies, with a surcharge for additional properties.
39
How is rental income taxed?
It is treated as non-savings income and subject to income tax after allowable expenses.
40
What tax applies when selling an investment property?
Capital Gains Tax (CGT) applies, but capital expenditure on property enhancements can be deducted.
41
What are buy-to-let (BTL) properties?
Residential properties bought as an investment to rent out rather than for personal use.
42
List three risks of buy-to-let investment.
High entry costs: Legal fees, SDLT, and mortgage costs. Void periods: The property may be empty, reducing income. Tenant risk: Tenants may damage the property or require legal eviction.
43
How did tax changes impact the buy-to-let market?
Mortgage interest relief is now capped at the basic rate instead of the landlord's marginal rate. Wear-and-tear allowance was replaced by relief for actual replacement costs. SDLT surcharge applies to second properties, making BTL investment more expensive.
44
What types of properties are considered commercial property?
Commercial property includes: Retail units (shops, shopping centres) Offices Industrial units (factories, storage) Hotels and leisure facilities Mixed-use properties (shops/offices with residential units)
45
What are three advantages of investing in commercial property?
Regular rent reviews (typically every five years) Longer leases than residential property More stable, long-term tenants
46
What are three drawbacks of commercial property investment?
Higher property values, making risk diversification harder Slower capital growth compared to residential property Higher interest rates on commercial property loans
47
What factors do lenders assess before approving a loan for commercial property?
Quality of the land and property Reputation of builders and professionals involved Suitability of likely tenants
48
What is agricultural property investment?
Buying farmland either to operate a farm or rent out the land to generate income.
49
What are the key risks of agricultural property investment?
The market is highly specialised with limited demand Liquidity concerns (selling farmland can be difficult)
50
What is agricultural relief for inheritance tax?
A tax relief on farmland, crops, and buildings: Up to 100% relief for owner-occupied farms 50% relief for let-out farmland
51
What are money-market instruments?
Short-term debt instruments where interest is typically earned through the difference between the investment amount and the repayment amount.
52
What are Treasury bills (T-bills)?
Short-term securities issued by the UK Debt Management Office, usually for 91 days, sold at a discount to their par value and considered very low risk.
53
How do Treasury bills generate returns?
They are issued at a discount and redeemed at full value; the difference represents the investor’s return.
54
Why are Treasury bills considered low risk?
They are backed by the UK government, which has an extremely low risk of default.
55
What are certificates of deposit (CDs)?
Fixed-term deposits issued by banks or building societies, providing a fixed interest rate and usually requiring a minimum investment of £50,000.
56
What is a key feature of certificates of deposit?
They are bearer securities, meaning ownership is determined by physical possession rather than a register entry.
57
How can an investor access their money early from a certificate of deposit?
By selling it to a third party, as early withdrawals incur significant penalties.
58
What is commercial paper?
A short-term unsecured promissory note issued by companies to raise funds for working capital.
59
Who typically buys commercial paper?
Large institutions like pension funds and insurance companies.
60
What is the usual term length for commercial paper?
Between 5 and 45 days, with an average of 30 to 35 days.
61
Why might a company ‘roll over’ its commercial paper?
To maintain flexibility and avoid being locked into a fixed interest rate for a long period.
62
How can companies with lower credit ratings issue commercial paper?
By securing a letter of credit from a bank, which guarantees repayment in case of default.

CeMAP 1 - UKFR (25 decks)

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