Investments Flashcards
(123 cards)
1
Q
what are the primary characteristics of negotiable CDs?
A
deposits of $100k+
institutional investors
transacted in secondary market
2
Q
how is T-bill interest taxed?
A
taxed at federal level as ordinary income
exempt at state and local
3
Q
what are main characteristics of commercial paper?
A
negotiable short-term unsecured issued by large corps to finance A/R and inventories issued in $100k increments substitute for ST bank financing purchased by money market mutual funds 270 day max maturity
4
Q
what is the repo rate?
A
difference between the repurchase price and amount borrowed in a repurchase agreement
5
Q
what are characteristics of banker’s acceptances?
A
ST used to finance imports and exports
for companies too small to issue commercial paper
taxable as ordinary income
6
Q
what are Eurodollars/Eurodollar CDs?
A
U.S. dollar-denominated deposits at foreign banks to settle international transactions
millions in each deposit
maturity < 1 year
less liquid, higher yields
7
Q
what is a bond’s call provision?
A
included in bond indenture and allows issuer to pay off bond principal after specified period, usually at price higher than par
8
Q
what is the rating threshold for an investment grade bond?
A
BBB- or higher
9
Q
what is a downward revision bond rating?
A
quality rating goes down
rate declines
yield increases
10
Q
what’s the difference between U.S. treasury bills, notes and bonds?
A
bills - ST
notes - maturity of 2 - 10 yrs
bonds - 30 yr maturity
11
Q
what is the bid-ask spread?
A
difference between what the buyer pays for the bond (bid) and what the seller wants for the bond (ask), allowing for transaction costs
12
Q
what are treasury STRIPS?
A
zero coupon bonds created separating semiannual coupon payments and principal repayment portions of note/bond
interest income accrued and not paid until maturity or sale, so best in a tax-deferred account
13
Q
how are changes in face value of TIPS treated for tax purposes?
A
increase taxed as ordinary income
basis increased to current value and stepped up in event of sale to calc capital gain
14
Q
how are series HH bonds acquired?
A
only through exchange of series EE bonds
15
Q
when is interest income from municipal bonds excluded from state taxes?
A
if bondholder is a resident of state/municipality that issues
16
Q
what are general obligation bonds?
A
muni bonds issued to finance capital improvements benefitting community
exempt from federal tax
repaid by taxing power of the state
17
Q
what are revenue bonds?
A
those use to finance any municipal facility (e.g. community airport) that generates enough income to satisfy ongoing debt obligation
backed by credit of project
maturity aligns with duration of project financed
18
Q
what are private activity/purpose bonds?
A
part of municipal bond issue where 10%+ of proceeds of the issue are used for private business use
services debt through project revenues
19
Q
define qualified private activity bonds
A
tax-exempt, issued by municipality where proceeds use for defined qualified purpose by entity other than the government issuing bonds
(over 95% must be used for IRC qualified purpose)
20
Q
what is the conversion ratio?
A
par value of convertible security /
conversion price
21
Q
what is phantom income?
A
accrued bond interest included in taxable income annually, even though proceeds not actually received
22
Q
what are yankee bonds?
A
foreign bonds payable in USD, not subject to exchange rate risk
23
Q
what does a callable bond allow the issuer to do?
A
escape high interest rates if market rates decline by calling the bonds and paying bondholder off
24
Q
how is interest and capital gain taxed on public purpose bonds?
A
interest - tax-free
capital gain - included in gross income
25
what are the key characteristics of zero coupon bonds?
sold at deep discount from par
no coupon payments
redeemed for face at maturity
maximum price volatility and respond significantly to interest rate changes
26
what types of investments are attractive during periods of increased inflation?
natural resources, gold, real estate
fixed income investment values decline
27
define ex-dividend date
first date on which a security is traded that a buyer is not entitles to receive a previously declared dividend
28
what criteria is required for qualified dividends to be treated with favorable LT capital gain rates?
1. dividend received from domestic corporation or qualified foreign corporation
2. stock must be help for more than 61 days during the 121 day period beginning 60 days before the ex-dividend date
3. regular dividends from REITs will not qualify for reduced rate, but LT distribution dividends will be taxed at reduced rate
4. dividends from regulated investment company will qualify for reduced rate to extent they resulted from LT capital gain. LT gain on sale of shares will qualify
29
how are nonqualified dividends taxed?
as ordinary income
30
what happens when a stock dividend is issued?
basis per share of stock adjusted downward
| ordinarily not included in income, unless stockholder has right to receive dividend in cash rather than stock
31
what are "rights" in the context of stock?
issued by corporation to existing stockholders to maintain their current ownership percentage of company
right to purchase shares for limited period of time below market price
trade on secondary market during subscription period
shareholders may exercise right, sell for cash, or let expire
32
how do warrants differ from call options?
1. warrant is issued by corporation, call is written by individual
2. warrant customized to fit needs of issuing corp, call includes standard terms required by options clearing corp
3. warrant has maturity of several years, call normally expires within 9 mo.
33
what are American depository receipts? (ADRs)
trust receipts issued by US bank for shares of foreign company purchased and held by foreign branch of bank
denominated and pay dividends in USD - dividends issued in foreign currency, then converted to USD
readily available information about foreign company
liquid and marketable - ADR price corresponds to foreign stock's price in home market
34
what is the net asset value (NAV)?
```
FMV of securities w/in portfolio - outstanding liabilities /
# shares outstanding
```
35
```
where should client funds be invested for following general objectives?
growth
income
safety
liquidity
```
stock
bond
government bond
money market
36
what are the characteristics of closed-end funds?
subject to supply and demand, may trade at a premium or discount
traded on exchange
traded in secondary markets and not redeemed by issuing company
fixed amount of shares involved
37
what is a unit investment trust?
investment company whose unit are sold in secondary market but not major exchanges
units purchased, instead of shares, and sold at NAV + commission
unmanaged, passively managed
no corporate officers, board, or investment adviser
unit holders taxed like shareholders of mutual fund (cap gains, interest, dividends passed through and taxed to unit holders)
38
ETFs may be advantageous for investors who:
seek to invest in industry/index, but do not want actively managed securities
low cost, tax efficient portfolio
security that may be bought on margin and sold short
39
define characteristics of a hedge fund
unregistered, privately offered, managed pool of capital for wealthy, sophisticated investors investing in broad range of investments
actively managed
managers compensated on fund performance and typically own significant percentage of fund's shares
40
risks w/ hedge funds:
leverage
short selling
higher risk investments
lack of transparency
41
what are the primary characteristics of a separately managed account?
diversified portfolio of individual securities managed by professional money manager
model portfolio specializing in certain area of market
minimum investment typical of $50k+
investor owns 100%
managers purchases and sells on behalf of investor, not fund
more control from income tax standpoint to buy/sell individual securities (maintain individual cost basis in sub-investments)
42
define venture capital
financing for privately held companies (e.g. startups, leveraged buyouts, turnarounds, expansion)
convertible preferred stock
high risk, high return
lack of liquidity, low correlation w/ equities
43
define private placements
company sells issue (typically bonds) to small group of institutions or sophisticated individual investors
avoid SEC registration requirements of IPO
limited to 35 unaccredited investors
unlimited accredited investors (individuals/spouses w/ more than $200/300k, respectively, also officers/directors of issuer)
44
what are the main characteristics of a limited partnership?
general partner controls business activities and determines distributions and has unlimited liability
LPs do not manage and have limited liability
adv: business venture participation, financing shared w/ other partners
disadv: riskier than bonds/ETFs, illiquid, sale may be restricted
45
what basis is used when selling an investment if no basis is elected?
FIFO
46
when must shares be purchased to receive the quarterly dividend?
at least day before ex-dividend date (which is one day before record date)
47
how is undeveloped land taxed upon sale?
```
dealer = ordinary income
non-dealer = capital gain
```
48
what are the risks associated with undeveloped land as an investment?
rezoning
difficulty to obtain permits to build
restricted physical access
population growth anticipated does not occur
49
how is net operating income (NOI) calculated for rental real estate purposes?
focuses on property's cash flow
```
gross rental receipts
+ nonrental/other income
= potential gross income
- vacancy and collection losses
= effective gross income
- operating expenses
= net operating income
```
50
how is the value of rental real estate determined?
NOI / capitalization rate
51
what is the major disadvantage of real estate limited partnerships?
limited partners do not meet minimum participation rules per the IRC, so ability to deduct losses is restricted for tax purposes
52
what are the main types of REITs?
equity (income generating properties)
mortgage (financing real estate development)
hybrid
53
define REMIC - real estate mortgage investment conduit
self-liquidating, flow-through entity (like partnership) that invests exclusively in RE mortgages or MBS and terminates when underlying investments (RE properties) are repaid
54
what is a CMO
collateralized mortgage obligation
mortgage derivative backed by large pools of mortgages
cash flows divided into repayment periods (tranches)
investors of first tranche receive all principal payments until repaid, then moves along to second tranche
55
define a GIC and the types
guaranteed investment contract
issued by insurance company
guaranteed rate of return, but not federally insured like a CD
types = participating (variable rate of return based on interest rates), nonparticipating (fixed)
56
when is an option in, at, and out of the money?
positive intrinsic value
exercise price of option = market price of stock
intrinsic value is zero
57
what is a covered call?
written on security already owned by writer
| used to earn premium income for portfolio
58
what are the keys to option taxation for holder?
```
exercised = add/reduce premium to amount realized by sale (for call/put, respectively)
expires = premium is capital loss on date of expiration
sold = difference between premium paid and amount received for same is capital gain/loss
```
59
what are the keys to option taxation for writer/issuer?
```
exercised = increase/decrease amount realized on sale/purchase of stock by call/put premium, respectively
expires = premium is ST capital gain on expiration date
sold = no impact
```
60
what are the key factors of the black scholes model and which moves inversely to the value of the option?
```
underlying stock price
exercise price (***)
time to expiration
risk-free rate of return
volatility/standard deviation
```
61
what is the difference between European and American options?
american - exercise whenever
| euro - exercise at maturity
62
what is put-call parity?
arbitrage opportunity resulting if premium for a call and put option of the same characteristics is not equal
should be call price - put price and = market price of stock and PV of exercise price
63
how are futures taxed?
always 60% long-term capital gain, 40% ST
gain/loss inherent in futures contract is reported annually (as if open positions were closed on last day of yr for tax purposes)
64
what are the components of systematic risk?
```
PRIME
purchasing power
reinvestment rate
interest rate
market
exchange rate
```
65
what are the main advantages and disadvantages of stochastic modeling?
A:
- clear tradeoffs of risk and return
- properly modeled tax analysis
- tax burden changes with market returns and withdrawals considered
- clearer understanding of ST and LT risk
- ability to see impact of additions and withdrawals to portfolio
- helps answer questions with time basis about retirement and savings needs
D:
- simplistic use of historical data
- does not take into account fund fees associated with investment class
66
what are the main things to know when interpreting standard deviation?
1 std dev = 68% of chance to occur
2 std dev = 95%
3 = 99%
67
what is the z-statistic (z-score)?
number of standard deviations a data value is from mean (above or below)
68
define kurtosis
measure of degree of peak in distribution of returns
degree to which exceptional values occur more frequently (high kurtosis, playkurtic distribution) vs. less frequently (leptokurtic distribution)
69
define semivariance
measure of average square deviation below mean
| lower semivariance = less likely security will incur substantial loss in value
70
define R2 or coefficient of determination
percentage of variability in one variable explained by changes in a second variable
R2 = 1 means no unsystematic risk
71
how is beta calculated?
Covariance / (market std. dev. ^ 2)
72
what is the difference between nominal and real returns?
nominal does not take inflation into account
73
how is real return calculated?
(1+R)/(1+I) - 1
74
what is the main drawback of using the holding period return?
does not consider timing of when cash flows actually occurred
if holding period is over one year, HPR overstates the true return of investment on annual basis
75
what is the most appropriate measure of a portfolio manager's performance?
time-weighted return
| managers don't have control over deposits and withdrawals made by clients
76
what are the key assumptions in modern portfolio theory?
each investment represents probability distribution of expected returns over specified holding period
investors estimate risk of portfolio based on volatility (st. dev.) of returns
investors base decisions solely on expected return and risk
investors base indifference to alternative investments on maximization of wealth over specified period
investors prefer higher returns to lower returns
77
what are the key assumptions for the CAPM to be used?
investors have same expectations
investors can always borrow/lend at RF rate
no taxes/transaction costs involved in buying/selling
capital markets are in equilibrium
78
what does it mean when asset plots above security market line?
undervalued
79
what is the Jensen's alpha?
excess/deficient returns from management (difference between actual return and CAPM return)
80
what is the treynor ratio?
(portfolio risk - risk free) /
| portfolio beta
81
what is the sharpe ratio?
(portfolio risk - risk free) /
portfolio st. dev.
best overall risk comparison
82
when are treynor and jenson's ratios used?
when beta correctly reflects most of the investment's risk (i.e. R2 at least 0.75)
83
what is the information ratio?
alpha / st. dev
straightforward method to evaluate investment manager performance
84
what is the coefficient of variation?
standard dev of asset /
expected return of asset
relative measure of total risk per unit of expected
always choose lowest
85
what are the 3 types of efficient market hypothesis and what information is relevant
weak - insider, fundamental analysis
semistrong - insider
strong - nothing
86
what are the most common EMH anomalies?
P/E ratios
small/neglected firm effect
January effect
value line enigma
87
how is the DJIA index weighted?
price weighted
88
what are the main drawbacks of the DJIA?
does not reflect cash dividends, fails to account for # shares outstanding
biased sample of blue-chip stocks
89
when do the 3 types of bond yield curves occur?
normal - economic expansion, predicts rising future rates
flat - economy peaking and no change in future rates expected
inverted - fed tightened credit in inflationary economy, predicts rates will fall and sometimes signals upcoming recession
90
define unbiased expectation yield curve theory
LT rates consist of many ST rates and LT rates will be avg of ST rates
91
define liquidity preference yield curve theory
LT bonds should provide higher returns than ST obligations because investors are willing to sacrifice some yield to invest in ST bonds to avoid the higher price volatility of LT issues
yield curve should always slope upward and any other shape is only temporary
92
define market segmentation yield curve theory
relies on supply and demand for various maturities of borrowing and lending into separate sub-markets:
ST, intermediate term, LT
yield curve reflects the maturity demands of financial institutions and investors
93
```
what is the relationship of a bond's duration to the following factors:
coupon rate
YTM
term to maturity
zero coupon
```
inverse
inverse
direct
equal duration and term to maturity
94
what is the relationship of coupon-paying bond duration and maturity date?
duration is always shorter
95
define convexity
measure of curvature of relationship between bond's YTM and market price (value)
helps explain change in bond prices not accounted for simply by bond's duration
more precise measure of change in price of bond given respective change in market interest rates
greatest w/: low coupon bonds, low YTM bonds, long maturity bonds
96
what is portfolio immunization?
interest-rate management technique, offsetting interest rate risk against reinvestment rate risk
duration = investor's time horizon
allows for specific return over period of time
often used in pension fund management as liabilities come due
97
what is the relationship to price fluctuation for the following when interest rates are expected to change?
smaller bond coupon rate
longer bond term to maturity
smaller bond YTM
greater price flux
greater
greater
98
if a fixed income investor expects an increase in market interest rates, what should the portfolio construction look like?
short maturity bonds with high coupon rates
| will provide investor w/ portfolio that has minimum interest rate sensitivity to minimize capital losses experienced
99
what is a pro forma income statement?
business income statement that projects for the future
100
what is fundamental analysis?
```
process of determining FMV of a security and looking for mispricings
factors considered:
overall economic environment
interest rate
business cycle
monetary policy (money supply)
fiscal policy
industry analysis
market tendencies
```
101
what is technical analysis?
attempt to determine demand side of equation for stock and predict future price direction
based on belief that studying history of security trades/markets will provide opportunity
3 basic assumptions: markets discount the fundamentals, markets trend, trends repeat
102
what is the margin call formula?
```
debit balance (how much investor owes) /
(1 - maintenance margin)
```
103
what are the 4 decisions to be made w/ asset allocation?
asset classes
weights
allocation range
specific securities included
104
what is the difference between tactical and strategic asset allocation?
tactical - adjusts to changing market conditions (active)
| strategic - adjusts to investor's life stage (passive)
105
what is the formula for price to free cash flow?
(1 + g) /
| r - g
106
what are bond bullets?
fixed income strategy to have several bonds mature at same time
107
what is the formula for the discounted earnings model?
before tax earnings /
| capitalization rate
108
what are the main types of bond swaps?
substitution - one bond swapped for another within similar characteristics
intermarket spread - exchange of similar bonds in different markets when investors believe one type is mispriced relative to the other
pure yield pickup - selling ST bonds, purchasing LT bonds
rate anticipation - bonds swapped as a result of interest rate change expected
tax - investor sells bond for loss to reduce capital gain and invest proceeds in bond on similar quality/maturity
109
What federal housing organization US gov't agency is not subject to default risk and directly backed by the gov't?
Ginnie Mae GNMA
110
what is is naked call option?
writer of option does not own underlying security, extremely risky
111
what is the time value of an option?
option premium - intrinsic value
112
what are the 2 option bearish positions?
purchase call
| sell put
113
what are serial bonds?
Serial bonds have a series of maturity dates.
A portion of the bond issue matures each year.
Serial bonds are typically issued by municipalities.
114
what is the geometric mean?
sq rt of ((1+r1) x (1+rn)...) - 1
can also solve in financial calc (TVM)
always less than arithmetic mean
115
main use of bond ladder
reduce interest rate risk
116
how do you calculate current bond yield
annual interest payment / current market price
117
define macaulay duration
weighted average number of years until an investment is recovered
118
what is the relationship between YTM, CY, and Coupon Rate for par, premium, and discount bonds?
Premium bonds: CR > CY > YTM
Par bonds: CR = CY = YTM
Discount bonds: CR < CY < YTM
119
what are the 3 types of movements within the technical analysis dow theory?
primary - LT 1-4 yrs
secondary, technical correction - 2-4 mo
ripple - shorter
120
what is the main difference in use between treynor and sharpe's ratios?
treynor - systematic risk comparison (beta)
sharpe - total risk comparison (st dev)
these are equivalent if portfolio is sufficiently diversified (i.e. no unsystematic risk)
121
Breadth of the market is
the technical indicator that attempts to measure the overall strength of the market by comparing the number of advancing stocks to the number of declining stocks.s
122
what are the main forms of investment banking/underwriting?
```
firm commitment (commit to purchasing upfront)
standby underwriting (second round selling)
best efforts underwriting (commission based selling)
private placement (limited unaccredited, unlimited accredited investors)
```
123
characteristics of passbook savings accounts
no minimum deposit
issued by commercial banks
redeemable, not marketable
low rate of interest paid
