Investment Flashcards
Stages of Financing
Seed: reasearch and development
First-Stage: initial manufacturing and sales
Bridge: companies that expect to go public w/in a year
Start-Up: product development and marketing for companies that have not publically sold products/services
Alpha
Formula:
Portfolio ROR+[Risk Free ROR-(Market ROR-Risk Free ROR)xBeta]
note: ROR entered as whole numbers NOT decimals
Treynor Ratio
- measure of relative systematic risk using Beta
- Higher T ratio = outperformance
Formula:
- (portfolio ROR - risk free ROR) ÷ Beta
Note: market beta = 1
ROR enterest as decimal along with beta
Beta (β)
- Relative measure of systematic risk
- meaningful if R-squared > .7 (1 = exact)
Investment Beta Formula:
COV btwn asset and market ÷ (SD market) squared
or
(R btwn asset and market x SD asset) ÷ SD market
Portfolio Beta Formula:
Step 1:
FMV A x Beta A = Product A
FMV B x Beta B = Product B
FMV C x Beta C = Product C
Step 2:
(Products: A + B + C) ÷ (FMVs: A + B + C) = Portolio Beta
Efficient Market Hypothesis
Weak:
- assumes market prices incorporate all historical price info
- Technical analysis = useless
- Fundamental analyses = may help
Semi-Strong
- Technical AND Fundamental analysis = useless
- insider info may help
Strong
- Technical, Fundamental AND insider info useless
- throw a dart to decide
Coefficient of Variation
- relative measure of total risk (with standard deviation) per unit of expected return
- compares investments of differing ROR and SD
Formula:
- CV = standard deviation ÷ expected ROR
Lower = better (ie. less risk per unit return)
Options
Call: right to buy @ set price &
- Buy (bull): participate in upward movement ie. “call it in” (gain = unlimited; loss = premium paid)
- Sell/write (bear): expect price to fall (gain = premium received; loss = unlimited if naked)
- buy the right to buy; sell the obligation to sell
Put: Right to sell @ set price
- Buy (bear): downside protection for long position (gain = exercise price - premium paid; loss = premium paid)
- Sell/write (bull): “sell put, buy stock”; expect price to rise (gain = premium received; loss = exercise price - premium received)
- buy the right to sell; sell the obligation to buy
Covered: own security
Naked: don’t own security
Strategies:
- Zero-cost collar: protect gain in long stock position; long stock + long put + short call; cashless -> call premium covers put purchase price
- Straddle: put + call with same price/expiration; long = best if price change > premium paid; short = best if no price change
Think through: did I write or buy? do I owe or receive
Call Up, Put Down
Correlation Coefficient (R) / Coefficient of Determination (r2)
Correlation coefficient ( R or ρ ):
- extent to which two securities are related
- R < +1 –> reduced risk
- can use to reduce risk and increase return for blended portfolios (diversification)
- R = COV ÷ (SD asset 1 x SD asset 2)
Coefficient of determination (R-squared):
- relationship between both variables
- percent variability of asset explained by changes in the market
Standard Deviation (σ)
Measures of variability btwn return and mean
-1x SD = 68%
-2x SD = 95%
-3x SD = 99%
Formula (keystrokes):
1. 2nd, 7
2. (in “X01”) variable 1, enter, down arrow (past Y01 to X02)
3. follow step 2 until all variables entered then…
4. 2nd, 8 (“STAT” screen)
5. 2nd, enter
6. continue step 5 until “1-V” apprears
7. down arrow until “Sx” –> this is SD for data set
example
mean return for Meyer, Inc., is 18% and the standard deviation is 6%. What is the probability of a negative return for Meyer, Inc.?.
1. Zero is 3 standard deviations from the mean [(18% – 0%) ÷ 6%]. The return on Meyer, Inc., should fall within 3 standard deviations of the mean 99% of the time. Therefore, 1% (100% – 99%) of outcomes will fall either below 0% or above 36%.
2. To determine the likelihood that the return will be negative, simply divide the 1% in half. Thus, there is a 0.5% chance that an investor will realize a negative return with Meyer, Inc., stock
Covariance (COV)
- Measures the extent to which two variables (the returns on investment assets) move together
- Needed to calculate Correlation Coefficient
Formula:
COV (btwn 2 assets) = ρ (correlation coefficient btwn assets 1 and 2) x σ (SD) asset 1 x σ (SD) asset 2
Systematic Risk (PRIME)
Purchasing power
Reinvestment rate
Interest rate
Market
Exchange rate
Kurtosis
Leptokurtic
- more peaked
- investors that want to minimize volatility
- “Lept high for Less volatility”
Platykurtic
- less peaked
Z-Score
- Measures the number of SDs a value is from the mean (above or below)
- value > mean = positive and vice versa (ie. z-score of 1.5 = value is 1.5 SD above mean)
Formula
- (value - mean) ÷ SD
Standard Deviation of Two Asset Portfolio
To calculate:
- on formula sheet “W” is the weighting of each asset in the portfolio
- W asset 1 + W asset 2 should be 100%
- COV is R btwn a1 and a2
Holding Period Return
(end value - begin value + CF) ÷ begin value
