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Securities Analysis

Final Review (Prof. Hamid)

Value Investing Focus is on price, mainly P/E; buy stocks that have low P/E in hopes they will revert back to normal levels
Value Investing - Risks Stocks may be permanently depressed or worth less than expected
Low P/E (sub-style of value investing) Purchase cyclical; out of favor industries
Contrarian (sub-style of value investing) Focuses on low P/BV; purchase temporarily depressed stocks that have high leverage and low quality
Yield (sub-style of value investing) Conservative value style; focus is on firms with high earnings or dividend yield
Growth Investing Focus is on earning growth; find stocks that will show increased EPS growth; invest in high P/E stocks; invest in high quality firms
Growth Investing (risks) Future growth may not materialize
Consistent Growth (sub-style of growth investing) Focus on high quality firms that have history of continuous growth; usually invest in consumer industry leaders, health, and technology stocks
Earnings Momentum (sub-style of growth investing) Purchase stock in anticipation of acceleration in earnings; no particular industry favored
Style Rotation Movement from one style of investing to another because other styles are favored
Style Rotation (timeline) 1987 to 1989 - value strategy favored; 1989 to 1993 - growth strategy favored; 1993 to late 1990's large cap favored
Value vs. Growth Investing In the long run, value investing > growth investiing
Economic Analysis (importance) 1/3 of the movement in stock prices is explained by macroeconomic variables; an understanding of the economy and its impact on securities is vital for securities analysis
Business Cycles (four phases) (1)expansion (2)peak (3)contraction (4)bottom
Recession When real GDP declines for 2 or more consecutive quarters
Cyclical Industries Demand for their products, and sales, move with the business cycle; very sensitive to the economy; usually outperform other industries during expansion
Defensive Industries Have low sensitivity to the business cycle; tend to outperform others when the economy is in recession
Anticipatory Surveys (economic forecasting method) Consumer and business surveys
Indicators (economic forecasting method) Leading, coincident, and lagging indicators are good for predicting turning points; leading indicators turn before the economy turns
Excess Liquidity (economic forecasting method) Equal to growth in money supply (-) growth in GDP; the excess is invested in stocks; high EL results in ^ future demand for securities, resulting in higher stock prices
Technical Analysis Develops technical trading rules from historical data on price and volume; believes the market is its own best predictor
Technical Analysis (basic assumption) Price trends and changes in them are the product of fundamental variables such as earnings, discount rates, and risk.
Technical Analysis (main problem) The ability to distinguish cyclical fluctuations from trends
The Dow Theory Around 1890's Charles Dow suggested that stock price movement is like the movement of water, suggesting forecasting market trends may be more reliable than forecasting individual stocks
Cyclical Trends Determine the direction of price change
Primary (cyclical trend) Long range cycle that moves the whole market up or down
Secondary (cyclical trend) Act as a restraining force on the primary trend and corrects deviations from it
Minor (cyclical trend) Day to day fluctuations in the market that have little analytical value
Bull Market Occurs when successive highs are reached after secondary correction; each peak is higher than the previous; the upswing correction is of longer duration than the downswing
Bear Market Occurs when successive lows are reached after secondary correction; each bottom is lower than the previous; the upswing correction is of shorter duration than the downswing
Breadth of Market Index Looks at the number of advances vs. declines in the stocks; the net difference between the adv. & declining stocks in NYSE is calculated, then added to the previous day difference to form the index
Most Active List index The 20 most traded stocks in NYSE usually make up 1% of the number but 15% of the volume
CBOE Put/Call Ratio Investors buy call options when they expect prices to rise, and buy put options when expecting prices to decline; the rule is to sell when ratio > 90% and buy when < 70%
Simple MA ∑(Pi) / n ; buy signal if the 1-day MA rises above the 200-day MA (price is > MA) and sell signal if the 1-day MA falls below the 200-day MA (price is < MA)
Weighted MA ∑(Wi*Pi) / ∑Wi ; past prices receive weight based on age, the more recent the greater the weight; oldest price is given a weight of 1, next oldest 2, etc.
Exponential MA expM(t-1) + (2/n)*(Pc(t)-expM(t-1)) ; gives decreasing weight to older data, but older data is not dropped as new data is added.
Blowoffs (volume signal) In a rising price trend: a sharp increase in price with a large increase in volume means a peak has been reached and reversal is likely (bullish)
Selling Climaxes (volume signal) In a declining price trend: sharp decline in price with a sharp increase in volume means the bottom has been reached and reversal is likely (bearish)
Rally Day When the intra-day high price is higher than the previous day high, and low is same or higher than previous low
Reaction Day When the intra-day high price is lower than previous day, and low is same or lower than previous day
Stochastics K = 100 * [(C-L) / (H-L)]
Weak Market Efficiency Current security prices reflect all historical information
Semi-Strong Market Efficiency Security prices reflect all available past and current public information
Strong Market Efficiency Security prices reflect all public and private information
Random Walk Change is stock price is random; probability of small change > large change; greatest probability is no change in price
Size Effect (market anomalies) Small firms stocks produce higher returns than large firms even after adjusting for risk
January Effect (market anomalies) Stock returns are systematically higher in January than other months
Weekend Effect (market anomalies) Return for Mondays is lower than other days
Time of Month Effect (market anomalies) First half of month produces higher returns than last half of month
Overreaction (market anomalies) Market seems to overreact to good and bad news
Mean Reversion (market anomalies) Stocks that under-perform in a period are more likely to out-perform the next period (and vice-versa)
Forward Contract Agreement between buyer and seller to exchange the asset at a future date at a price set today
Futures Contract A standardized forward contract with an exchange or clearing house as the counter party
Long Position (futures) Buy futures if you expect spot price at future time of exchange to rise above current futures price
Short Position (futures) Sell futures if you expect spot price at future time of exchange to fall below current futures price
No. of Contracts - Stock Index Futures (Bp*Vp) / (Vf) ...where Vf = 250(x)futures price
No. of Contracts - T-bond Futures (Dp*Vp) / (Df*Vf)... where Df = duration of t-bond(+)time to maturity for futures... and Vf = 100,000(x)futures price
Call Option Gives buyer the right to buy stock for the exercise price at or before maturity
Put Option Gives buyer the right to sell stock for the exercise price at or before maturity
For call option buyer: Max loss is cost of option. Max gain is unlimited.
For call option seller: Max loss is unlimited. Max gain is cost of option.
For put option buyer: Max loss is cost of option. Max gain is exercise price minus cost of put option (E - P)
For put option seller: Max loss is exercise price minus cost of put option (E - P). Max gain is cost of option.
Lower Bound on option price The lower bound is zero (0) for call and put options
Upper Bound on option price For call option - upper bound is price of stock (S); For put option - upper bound is the exercise price (E)
Created by: mgonz06