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Unit 2 > Unit 2 > Flashcards

Unit 2 Flashcards

1
Q

How often does preferred stock make dividends?

A

Semi-anually

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2
Q

What is a preferred stock’s dividend rate based upon?

A

Its Par Value

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3
Q

Why is preferred stock fixed?

A

Because regardless of how the market price fluctuates, it always pays the percentage of the par value on original offering

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4
Q

What is the yield?

A

The rate of return an income-producing securities provides

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5
Q

What is the yield if an investor purchases a 5% 100 par stock in the secondary market at 80 bucks?

A

5 dollars/80 dollars (the market price)

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6
Q

What’s the difference between the dividend and the yield?

A

Dividend never changes from original par, yield fluctuates depending on market price

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7
Q

The ____ the preferred stock market price, the ___ the yield

A

Higher, lower

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8
Q

Why does the percentage rate of return decrease the more they pay for the stock?

A

Because it’s the proportion between how much the par value was giving divided by the current market price

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9
Q

What does it mean if a preferred stock is selling at a discount?

A

That the stock is trading lower than the price at par

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10
Q

What does it mean if a preferred stock is selling at a premium?

A

That it is trading at higher than it’s original par value

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11
Q
A
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12
Q

When is a stock trading at discount?

A

When the yield (percent) is higher than the dividend rate

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13
Q

When is a stock trading at a premium?

A

When the yield (percent) is lower than the dividend rate

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14
Q

What influences the demand for preferred stock?

A

Interest rate changes

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15
Q

3 reasons the economy thrive when interest rates are low

A
  1. More goods purchased
  2. Business profitability rises
  3. Government can spend less
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16
Q

Why do preferred stock dividend rates tend to be higher than bond interest rates?

A

Because preferred stock is riskier because dividends are subject to BOD approval

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17
Q

At what dividend rate are preferred stocks usually pared and why?

A

The current interest rates because they are competing with the investors of bonds

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18
Q

What happens to preferred stock if interest rates rise?

A

They are no longer as valuable because someone can buy a new bond/preferred stock with a higher interest rate now

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19
Q

How can you mitigate the drop in value of preferred stock due to interest rates?

A

Lower the market price of the stock so that the percent yield is higher

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20
Q

How can an investor increase their overall return on preferred stock with interest rates?

A

If the interest rates drop, they can higher the market price to create a yield better than the current interest rate. It is now sold for more than it is bought

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21
Q

When are preferred stock redeemable?

A

If issued with a call feature and it is exercised

22
Q

What happens when an issue is called

A

The issuer forcibly redeems (buys back) the security for a specified price

23
Q

Two reasons preferred stock value falls?

A
  1. Interest rates
  2. Issuer’s financial status declines
24
Q

What is the difference between cumulative and straight preferred stock?

A

Cumulative, the issuer must pay missed dividends to preferred stockholders at some point. Straight, the issuer does not have to make up.

25
Q

How is the cumulative added up?

A

All of the percentages from each year missed

26
Q

Which type of stock is more desirable to investors (cumulative or straight)

A

Cumulative

27
Q

What is the profile of cumulative stock in the primary and secondary markets?

A

Primary: Lower market dividends
Secondary: Higher prices and lower yields

28
Q

What is the profile of straight stock in the primary and secondary markets?

A

Primary: Higher dividend rates to incentivize
Secondary: Lower prices and higher yield

29
Q

What are 4 types of features?

A
  1. Cumulative vs. straight
  2. Participating
  3. Callable
  4. Convertible
30
Q

What do participating preferred shares offer?

A

If the company has a profitable year, they will increase dividends

31
Q

What is the profile of desirable preferred stock in primary and secondary markets?

A

Primary: Lower dividend rates
Secondary: Higher prices and lower yields

32
Q

What are callable preferred stock?

A

The shares can be bought back (redeemed) from the issuer

33
Q

Two reasons issuers call preferred stock?

A
  1. “Pay it off” Avoid making future dividend payments
  2. Refinance preferred stock
34
Q

What is refinancing?

A

When you take out a loan with lower interest rate to pay out a previous loan with a higher interest rate

35
Q

How do companies perform a call?

A
  1. Issue new preferred shares with a dividend rate reflecting current interest rate (lower)
  2. Call the older (higher interest rate) shares using the proceeds of the lower preferred shares
36
Q

What is reinvestment risk?

A

The risk of a company refinancing their preferred stock and you getting less dividends

37
Q

What is call premium?

A

Amount above par issuer agrees to call shares at issuance

38
Q

What is call protection?

A

The time before the issuer can exercise the call feature

39
Q

Who are call features beneficial for?

A

The issuer

40
Q

What must issuer do to make call features more marketable?

A

They have to have higher dividend rates in the primary market

41
Q

What are convertible preferred shares?

A

Shares that can be exchanged into a specified number of common shares of the same issuer

42
Q

If a common stock is trading at $40 at issuance, what is the conversion feature if the convertible ratio is 2:1?

A

$80

43
Q

What determines what the conversion features worth?

A

The convertible ratio and the current market price

44
Q

What is an arbitrage?

A

When a common stock is trading at a value in which the conversion rate would allow an instant profit. For example: common stock trading at 60 at 2:1 ratio preferred stock trading at 110

45
Q

What three things do features benefical to stock holders result in?

A
  1. lower dividend rates
  2. Higher market prices
  3. Lower yields?
46
Q

What three things do features benificial to issuers result in?

A
  1. Higher dividend rates
  2. Lower market prices
  3. higher yields
47
Q

Two rules of preferred stock dividend payment?

A
  1. must be approved by BOD
  2. Must be paid before common stock dividends
48
Q

What are two characteristics of the conversion ratio?

A
  1. Determines how many common shares received at conversion
  2. Set at issuance and stays fixed
49
Q

What’s the order of riskiness in common stock, preferred, and debt security

A
  1. Common stock
  2. Preferred
  3. Debt security
50
Q

Less risky stocks lead to higher or lower yields?

A

Lower

51
Q
A

Unit 2 (18 decks)

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