LM 2: Security Market Indices

Question 1

What is a security market index?

Answer 1

index that represents a market segment or asset class

Question 2

What is a constituent securities?

Answer 2

individual securities that make up an index

Question 3

What is a divisor?

Answer 3

a divisor is a convenient initial level to compare performance

Question 4

How do you calculate index value over multiple time periods?

Answer 4

link returns geometrically if over multiple time periods.

Eg.
Initial Value: 1,000
Return 1: 4%
Return 2: -3%
Return 3: 7%

1000 * (1.04) * (0.97) * (1.07) = 1079.42

Question 5

What is the difference between price return and total return?

Answer 5

price return is based on price ending period and beginning period.

total return includes income as well as price ending period and beginning period

Question 6

What is price return formula?

Answer 6

PRi = Pi1 - Pi0 / Pi0

Question 7

What is total return formula?

Answer 7

TRi = (Pi1 - Pi0 + Inc1) / Pi0

Question 8

Whats the formula for calculating the price returns for an index given different weight and returns?

Answer 8

PR1 = w1PR1 + w2PR2 + + wN*PRN

N= number of stocks

Question 9

Whats the formula for calculating the total returns for an index given different weight and returns?

Answer 9

TR1 = w1TR1 + w2TR2 + + wN*TRN

Question 10

When selecting or creating an index what 3 things must you decide on? TIR

Answer 10

1. target market & security selection
2. index weighting
3. rebalancing and reconstitution.

Question 11

What are 4 types of index weighting? PEMF

Answer 11

1. price weighting
2. equal weighting
3. market capitalization weighting
4. fundamental weighting

Question 12

What is price weighting and formula?

Answer 12

weights each constituent security based on its price as a share of the sum of all the constituent security prices.

Total ending share price - total beginning share price / total beginning share price = weighting

Question 13

What is equal weighting index?

Answer 13

each stock given the same weight in index

Question 14

What is market capitalization weighting (aka value weighting)?

Answer 14

weight of each security is its market capitalization divided by the total market capitalization of all constituent securities.

Question 15

What is fundamental weighting?

Answer 15

uses a measure of company size not dependent on security price. eg book value, revenues, etc.

Question 16

What is reconstitution?

Answer 16

process in which the manager reviews and makes changes to the constituent securities.

Question 17

What are broad market indexes and what does the performance of broad market indexes represent?

Answer 17

index is considered to be broadly representative if it includes 90% or more of a market’s equities.

broad market indexes represent performance of an entire asset class.

Question 18

What is a multi market index?

Answer 18

These usually seek to represent multiple national markets in aggregate.

Question 19

What are sector indexes?

Answer 19

pure sector index includes only stocks from a specific sector, such as energy, finance, or health care.

Question 20

What are style indexes?

Answer 20

represent groups of securities classified according to market capitalization, value, growth, or a combination of these characteristics.

Question 21

What are 2 style indexes based on size?

Answer 21

1. small cap
2. large cap

Question 22

What are 2 style indexes based on investment style?

Answer 22

1. value
2. growth

Question 23

What are 4 types of style index that use both size & style?

Answer 23

1. Small-cap Value
2. Small-cap Growth
3. Large-cap Value
4. Large-cap Growth

Question 24

What are the 3 types of fixed income indexes?

Answer 24

1. broad market indexes
2. sector indexes (government, corporation, etc)
3. style indexes (high yield)

Question 25

What are the 3 types of alternative investments indexes? CRH

Answer 25

1. commodity indexes
2. R.E.I.T indexes
3. hedge fund indexes

Question 26

Commodity indexes don’t own real life, metals, energy, livestock, etc. So what do commodity indexes consist of?

Answer 26

consist of futures contracts on commodities

Question 27

What is the formula for calculating the price return of an equal weighted index?

Answer 27

PR= 1/n * ((PR1) + (PR2) + (PR3)…)

Question 28

What is the formula for calculating the price return of an price weighted index?

Answer 28

Price weighted index = (total of ending period of all stocks - total of beginning period of all stocks) / total of beginning period of al stocks

Question 29

What is the difference between value investing, growth investing, and core investing?

Answer 29

Value: focuses on buying undervalued stocks or assets (assets trading below intrinsic or fundamental value)

Growth: focuses on buying stocks or assets with potential for above average growth in earnings or revenues

Core: balanced approach between both value and growth investing (diversified portfolio with mix of stability and growth potential)

Question 30

What is float-adjusted market cap?

Answer 30

the weight of each constituent security is determined by adjusting market capitalization for its market float (market float refers to securities available to the market)

Question 31

How do you calculate an updated divisor?

Answer 31

1. add up total MV before splits
2. divide MV by divisor to get index value
3. add up total MV after splits
4. divide by the index value to get new divisor