Finance 12,13,14

fixed interest rate

does not change during the term of the bond

floating interest rate

changes regularly with the market

bond issue price

the price you pay for bond when it is first issued

maturity date

when the issuer of the bond has to repay the principal to investors

Bond may be callable

they are redeemable before maturity (paid off early)

Bonds may be issued with various covenants

conditions the borrower must meet to protect the bondholders, the lenders

Stocks

shares of ownership

Dividend

profit paid to owners

Option

the right to buy or sell at a specific price at a specific time in the future.

mutual fund

an investment portfolio consisting of securities that an individual investor can invest in all at once without having to buy each investment individually

index fund

performance index that is used to track the funds of a particular stock account

Exchange-trade funds

structured like closed-end funds but are traded like stocks

Financial engineering

the innovation of new financial products, often through mathematical models

An investment policy statement

outlines an investors goals and constraints

risk tolerance

ability and willingness to assume risk

risk averse

it’s important to maintain what I have than to attempt to gain more

Divestment

taking money out of investments

Socially responsible investment

the term meant for investing based on ideas that a product would be socially acceptable

expected return

amount expected to gain from investment in the future

standard deviation

risk that is measured by the amount of volatility

standard deviation is usually measured by

taking the different between actual returns and average returns

Investment asset classes

are categorized in terms of the market they trade in

Types of investment asset classes

• shares in public corporations

• bonds- public debts of corporations or governments

• derivatives- based on the performance of assets

• fine arts and collectibles

Capital allocation

is diversifying your capital between risky investments and low-risk cash equivalents

Asset allocation

decides which risk in market you invest in

Life cycle investing

changing your asset allocation as you age

Security selection

choosing individual investments within in each asset class

A benchmark

a standard against which any specific investment in that asset class can be measured

Passive management

making an investment in an index fund without any security selection decisions

Active management

Making security selection decisions to try to outsmart the market

Market timing

shifting the asset allocation based on projected economic shifts or market volatility

Efficient market

prices that reflect fundamental value

Behavioral finance

the study of why individuals and markets do not always make “rational” decisions

Availability bias

occurs because investors rely on information to make informed decisions, but not all information is readily available

Representativeness

decision-making based on stereotypes, characterizations that are treated as “representative” of all members of a group

Overconfidence

is a bias where you have too much faith in the precision of your estimates

Anchoring

when you cannot understand new things because you are too anchored on your original thinking

Ambiguity aversion

the tendency to prefer the unfamiliar

Framing

refers to the context at which you make a decision

Mental accounting

the way individuals think about economic thinking

Loss aversion

the tendency to loathe a loss, choosing to ignore the feeling

Investor profile

combination of characteristics based on personality traits

Pure arbitrage

mean buying and selling in the same markets to lock in profit

Arbitrage

trades on relative mispricings

Arbitrageurs

knowledgeable investors who carry out market corrections through their investment decisions are

Technical analysis

involves analyzing securities in terms of their price history, expressed in the form of charts of market data such as price and volume

Ponzi or Pyramid scheme

investors are paid with returns, where they earn a very small amount of money

Leading Economic Index

The way economist look at the economy

Broker

an agent who trades on behalf of clients to fulfill client directives

Dealer

a firm that trades off its own account

Broker-dealers

trading on behalf of both clients and the firm’s account

Discretionary trading

the broker is empowered to make investment decisions and trades on behalf of the client

Advisory dealing

the broker provides advice and guidance to the client, but investment decisions remain with the client

Execution-only

the broker’s only role is to execute trades per the investor’s decisions

Churning

an unwarranted and unnecessary amount of trading in your account for which the broker is being compensated

Cash account

you can trade only using cash in the account

Margin requirement

the percentage of the investment’s value that must be paid for in cash

Custodial accounts

accounts created for minors

limit order is an order

to buy or sell shares when price is lower or higher

Long position

when you buy a security you own it officially

Short position

buying a security and selling, then eventually buying it back for your broker

Stop-loss order

An order to sell a security once its price has fallen below a specified price

stop-buy order

to buy a stock at a certain price (above the current price) if you have “shorted” a security and want to limit your loss if its value rises

Prudent-person rule

a legal principal where a broker is limited fiduciary to the types of investments that a prudent might buy

Due diligence

brokers/advisors must investigate and report potential investments to investors

Front-running

The practice of trading for the broker’s account before the client’s

Insider trading

Material private information about a company is inside information, and making trades on the basis of inside information

Self-regulatory organizations (SRO’s)

the SEC delegates authority SRO’s such as NASD, and national stock exchanges such as NYSE

Currency risk

is the risk to the value of the foreign assets from changes in currency exchange rates

People you will transfer their surplus…

to someone who will pay the capital, a broker

Bond are

debt

If a company wants to borrow money

they can find a lender and borrow

the interest on a bond may either be

fixed or a floating interest rate

The brokerage firm acts

as a dealer, buying from or selling to investors

Stock/equity

shares of ownership

The size of your share of the corporation is proportional

to the size of your share holding

commodities

resources or raw material

Mutual fund

investment portfolio that an investor can invest in all at once

Mutual funds have become more popular because…

provide diverse investments with minimum transaction costs

Planning framework

• The process of creating policy means adjusting goals based on assessment

• The policy statement gives you an active role in your investment planning

• Your policy statement is portable

• Your policy statement is flexible

Defining return objectives

is the process of quantifying the required annual amount

Your financial safety net includes your

insurance policies

Socially responsible investment

investments made on the idea of about products or business that are socially desirable

Returns are also

your compensation for investing

Two costs to investing

• Giving up money for future benefit

• The risk that you won’t get that money back at all

Investment risk

the idea that investment will perform as expected

Three steps to diversifying…

capital allocation, asset allocation, security selection

Capital allocation

diversifying your capital between risk and riskless

Capital allocation decision

is the first diversifying decision

Asset allocation

deciding which asset classes, and therefore which risks and which markets, to invest in

life cycle investing

changing your asset allocation as you age

Security selection

is the third step in diversification, choosing individual investments within each asset class

Diversification is not defined by the number of investments

their different characteristics and performance

if you invest in S&P 500

you are investing in 500 of the largest companies in the US

Passive management

the strategy of bypassing the security selection decision