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Investments > Types of Investment Risks and Quantitative Investment Concepts > Flashcards

Types of Investment Risks and Quantitative Investment Concepts Flashcards

1
Q

Risk

A

realized returns will not equal expected returns

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2
Q

Systematic risk

A
  • non diversifiable (cannot be avoided)
  • PRIME
  • expressed by beta
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3
Q

Purchasing power risk

A

loss of purchasing power through inflation
eg. rising price of good erodes purchasing power on fixed income securities

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4
Q

Reinvestment rate risk

A

risk that proceeds available for reinvestment must then be invested at a lower interest rate
eg. when CDs mature, investors may have to invest proceeds on new lower yielding CDs

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5
Q

Interest rate risk

A

change in interest rates will cause the market value of the fixed income security to fall
eg. interest rates rise, bond prices fall

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6
Q

Market risk

A

the risk of the overall market, cannot be avoided if you are invested
eg. downside swing of market affects stock prices

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7
Q

Exchange rate risk

A

risk associated with changes in the value of currencies
eg. value of foreign securities falls and rises with value of currency of issuer
- uncertainty in returns after they convert foreign currency back to own currency, if the rates moved

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8
Q

Country risk

A

political risk
uncertainty of returns caused by the possibility of major political changes and economic environment
closely related to exchange rate risk

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9
Q

Unsystematic risk

A

diversifiable (nonsystematic)
can be largely eliminated by owning securities with low correlation
- Business and Financial risk

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10
Q

Business Risk

A

risk related to the nature of a firms corporation
eg. demand for corps products declines due to new tech

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11
Q

Financial risk

A

risk related to how the firm finances its assets
eg. corp is forced to close because it cant service its debts

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12
Q

Total Risk

A

-expressed by standard deviation
- combination of systematic and unsystematic risk

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13
Q

Political risk

A

sovereignty risk
- risk that the foreign government will default on its loan or fail to honor business commitments because of a change in national policy

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14
Q

Devaluation

A

lowering of the value of a currency relative to the currencies of one or all other nations
- can result from a rise in value of other currencies
- in real example if yen is worth 90 to 1 dollar and goes up to 100 to 1 dollar. it is actually losing value relative to dollar. for 1 dollar i can buy more yen bc its cheaper now

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15
Q

Revaluation

A

increase in the currency value
- ways it increases is actually getting closer to the actual 1:1 conversion. So the currency can decrease, and still be revaluation.
- Eg. Yen was 100 to 1 dollar. Yen decreased to 80 to 1 dollar. less to buy one dollar, value went up
- my $1 buys less now, dollar lost some value

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16
Q

Investing internationally

A
  • risk reduction through lower correlation to US stocks
  • exchange rate risk
  • less efficient than us markets because of fewer analysts
  • typically taxed twice, once in foreign country and again in US
17
Q

Liquidity

A

security that can be sold or purchased without delay and substantial change in price absent new information
- describes both transaction speed and stability of price

18
Q

Marketability

A
  • only to the speed of the transaction
  • price can significantly different from last transaction
  • savings/checkings/MMA are not marketable, they are redeemable. Needs to be traded. Not MF either
  • ## REIT, ETF< closed end, brokered CD
19
Q

Liquid vs Nonliquid

A

Liquid
- short term CD
- laddered CD
- insurance cash value
- open end money market mutual funds

Nonliquid
- open end mutual funds
- closed end funds
- etf
- brokered CD

20
Q

Mean

A

middle point between two extremes
- arithmetic mean: sum of each value divided by total number of values

21
Q

Normal vs lognormal distribution

A

Normal
- possible range of returns for a portfolio
(pos or neg)
- mean is likely return
- return is symmetrical about the mean
- more likely to be close to mean than far away
- bell curve

Lognormal
- possible ending portfolio value in $ at a future date (never less than 0) - clients monte carlo report/cash flow report, less at end
- upper limit is unlimited
- positively skewed (most values near lower limit)
- mean will be to the right of the highest point of the curve

22
Q

Correlation Coefficient

A
  • expresses the extent to which the movements of securities in the same portfolio are similar or not (covariance too)
  • corr. coef. falls within specific range
  • values range from +1 (perfectly pos. correlated) and -1 (perfectly neg correlated)
    -covariance and and standard deviation are needed to calculate
23
Q

Covariance

A

measures the extent to which two stocks are related to each other or how the price movements of one of the securities is related to the price movements of a second security
- covariance considers infinite possibility of outcomes

24
Q

Perfectly positively correlated investments

A
  • +1
  • securities move exactly together
  • no reduction in portfolio risk
  • maximum risk
  • SD of portfolio is equal to weighted average of SD of two assets
25
Q

Perfectly negatively correlated investments

A
    • 1
  • move exactly opposite one another
  • risk is completely eliminated
  • SD is 0
26
Q

Coefficient of variation (CV)

A
  • measure of relative variability used to compare investments with widely varying rates of return and standard deviation
  • SD / mean
  • indicated risk per unit of expected return
  • higher the results, higher the risk
27
Q

Standard deviation vs beta

A
  • both used to express risk of a security
  • SD measures variability of returns used in a nondiversified portfolio and is the measure of total risk. has both systematic and unsystematic risk
  • beta measures volatility of returns in a diversified portfolio and is a measure of systematic risk. We diversified all the nonsystematic risk out so whats left is the systematic risk and so its diversified in a way
28
Q

Calculating SD of single investment

A

Enter return then sigma key
gold 7 key for mean
gold 8 key for SD

29
Q

Applying SD

A

absolute measure of variability of results around mean
68% falls within 1 SD
95% falls within 2 SD
99% falls within 3 SD

30
Q

Portfolio weighted SD

A

The risk (SD) and return can be determined by multiplying risk (weighting) and return for each stock and adding them together

31
Q

Beta

A
  • measure of volatility of a particular securities rate of return or price relative to the volatility of the market as a whole
  • calculated based on the historical movement of the securities price
  • market as a whole has constant beta of 1.0. a security’s beta may be more or less or equal
  • beta over 1, more volatile than stock market. the greater the more systematic risk, no unsystematic risk
  • beta under 1 less volatile than stock market

Investments (9 decks)

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