Investment Analysis Final Quiz Review

A set of vocabulary flashcards for the key concepts and definitions in investment analysis.

Market Capitalization

Total market value of a company = Share Price x Shares Outstanding.

Book Value

Net worth reported on the balance sheet based on historical cost; does NOT capture growth potential.

Market Value

Where the market believes the company is worth now, based on actual money being traded, reflects the firm as a 'going concern.'

Liquidation Value

Fire-sale value — what you'd get selling all assets after paying off debts; represents the 'floor' for stock price.

Replacement Cost

What it would cost to recreate the company from scratch (rebuy all assets, fund with liabilities).

Tobin's Q

Market Value / Replacement Cost. Trends toward 1 in the long run; highly theoretical.

Intrinsic Value (IV)

The investor's estimate of the stock's true worth = PV of all future cash flows discounted at k.

Market Capitalization Rate (k)

The consensus required rate of return agreed upon by the market; derived from CAPM.

Positive Alpha

When a stock earns a HIGHER return than required for its level of beta risk; stock was acquired cheaply relative to intrinsic value.

CAPM Formula

k = Rf + Beta x [E(Rm) - Rf]

Market Risk Premium

E(Rm) - Rf. The additional return required to hold the risky market portfolio instead of the risk-free asset.

Beta

Measures volatility of a security relative to the market. Beta = 1: same risk. Beta > 1: riskier. Beta < 1: safer.

Expected HPR Formula

E(r) = [E(D1) + E(P1) - P0] / P0 = Dividend Yield + Capital Gains Yield.

Gordon Growth DDM

V0 = D1 / (k - g). Use only when g < k. If g >= k, use Multistage DDM.

Sustainable Growth Rate

g = ROE x b. Maximum growth rate without raising new equity or taking on new debt.

Cash Cow

A firm with lots of cash flow but limited investment opportunities. Should return cash to shareholders.

PVGO

Present Value of Growth Opportunities. P0 = E1/k + PVGO.

P/E Ratio Formula

P0/E1 = (1-b) / (k - ROE x b). P/E rises when ROE rises, k falls, or b changes favorably.

EMH Weak Form

Prices reflect all historical price data; technical analysis cannot earn excess returns.

Derivative

Financial instrument whose value depends on an underlying asset (stocks, bonds, currencies, commodities, etc.). Also called a contingent claim.

Call Option

RIGHT (not obligation) to BUY underlying at strike price K by expiration. Max loss = premium paid.

Put Option

RIGHT (not obligation) to SELL underlying at strike price K by expiration. Max loss = premium paid.

Option Premium

The price paid to acquire an option; maximum loss for the buyer.

American vs European Option

American: can exercise any time up to expiry; European: ONLY on expiration date.