Chap 1
Quiz yourself by thinking what should be in
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| real assets | assets used to produce goods and services like land, buildings, equipment, and knowledge
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| financial assets | such as stocks and bonds usually no more than pieces of paper or computer entries that are used to stake a claim on real assets or income generated by them.
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| What do financial assets do vs real assets? | real assets generate income while financial assets define the allocation of income among investors.
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| why do companies issue stocks? | to finance real assets like land, buildings, equipment, etc.
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| When we consider national wealth what things do we consider? | structures, equipment, inventories of goods and land.
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| how are real assets and financial assets connected in terms of profitability? | The succvess of failures of the financial assets we choose to purchase ultimately depend on the performance of the underlying real assets.
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| What are the 3 broad types of financial assets? | debt, equity and derivities
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| fixed income or debt securities | promise either a fixed stream of income or a stream of income that is determined according to a specified formula over a specific period. (example: corporate bond)
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| money market securities | fixed income securities that are short term, highly marketable, and generally of very low risk. (examples: us treasury bills and bank CD's)
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| capital market securities | long term securities such as treasury bonds.
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| Common Stock or equity | an ownership share in the corporation; equity owners are not promised a certain payment
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| Which one is tied directly to the to the success of the firm stocks or bonds and why? | Stocks, when the company does well the stock are worth more, but with the bonds no matter if the company does well or not they will pay a certain dividend and be paid out at the end of the term regardless unless bankruptcy.
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| What is riskier equity or debt securities? | equity because it is based on the performance of the company.
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| derivative securities | these are options and futures. They provide payoffs that depend on the values of other assets.
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| What is the primary use for derivatives? | to hedge risks or transfer them to other parties.
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| What would the more conservative investor buy more stocks or more bonds | bonds
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| How are large companies like GE managed? | stock holders elect a board of directors which hires and supervises the management of the firm. (the owners and the managers are different parties)
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| Agency problem | conflicts of interest between managers and stockholders.
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| what kind of solutions help solve the agency problem? | tie mgrs salaries to the success of the firm with a bonus of stock options, board of dir. can force out Management teams, outsiders like security analyst or pension fund mgr watch the firms and make life uncomf if necess, lastly can be subject to takeover
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| can share holders throw out the existing board and elect a new board? | yes, they can by launching a proxy contest to seek enough proxies to take control of the firm and vote in another board. (this usually does not happen though-most proxy fights fail)
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| who is the real takeover threat? | another firm, If one firm observes another underperforming, it can acquire the underperforming business and replace mgmt.
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| what was the largest bankruptcy in U.S. history? | WorldCom at 3.8 billion dollars
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| What was the second largest bankruptcy in U.S. history? | Enron.
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| Are agency problems still in effect today? | yes, WorldCom, Enron, Rite Aide and others to even include other countries like Italy's Parmalat and their financial scandals are proof of current agency prob.
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| Sarbanes-Oxley Act | attempts to tighten the rules of corporate governance. It requires corps to have more independent directors (not mgrs), CFO must vouch for account statements, oversite board to oversee auditing, auditors may only audit co. not other services
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| portfolio | his collection of investment assets. Once established, it is updated and rebalanced by selling securities and using the proceeds to buy new ones.
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| Asset allocation | allocation of an investment portfolio across broad asset classes.
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| security selection | decision is the choice of which particular securities to hold within each asset class.
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| Top Down Asset Allocation | Starts with asset allocation, how much to put in stock, bonds, real estate, commodities, etc.
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| What is the average return on a bond per year? | 12%
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| What is the average return on Treasury bill per year? | 3%
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| t or f T-bill returns are effective risk free? | true
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| security analysis | the valuation of particular securities that might be included in the portfolio.
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| bottom up strategy | the portfolio is constructed from the securities that seem attractively priced without as much concern for the resultant asset allocation.
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| security selection | choice of specific securities within each asset class
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| risk return trade off | assets with higher expected returns entail greater risks
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| diversification | many assets are held in the portfolio so that the exposure to any particular asset is limited.
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| efficient market theory | financial markets process all relevant information about securities quickly and efficiently, so the security price accurately reflects all info avail to investors
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| passive management | calls for holding highly diversified portfolios without spending effort to other resources attempting to improve investment performance through security analysis.
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| active management | the attempt to improve performance either by identifying mispriced securities or by timing the performance of broad asset classes.,
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| financial intermediaries | financial institutions who stand between the security issuer (the firm) and the ultimate owner of the security (the indiv) they bring lenders and borrowers together.
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| investment bankers | hired by corporations to represent them to the investing public. typically specialize in the sale of new securities to the public by underwriting the issue.
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| what are some examples of financial intermediaries? | banks, investment companies, insurance companies, and credit unions.
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| what is the primary social function of intermediaries | to channel household savings to the business sector.
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| investment companies | firms managing funds for investors. An investment company may manage several mutual funds.
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| primary market | a market in which new issues of securities are offered to the public
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| secondary market | previously issued securities are traded amon investors
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| what are the 4 important trends that have changed the investment environment | globalization, securitization, financial engineering and information and computer networks
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| globalization | tendency toward a worldwide investment environment, and the integration of international capital markets.
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| ADR's | American Depository Receipts, which are domestically traded securities that represent claims to shares of foreign stocks
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| how can U.S. investors participate in foreign investment opportunities? | purchase securities using ADRs, purchase foreign securities that are offered in dollars, buy mutual funds that invest internationally, buy derivative securities with payoffs that depend on prices in foreign security mkts
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| How do investment implications differ between ADR's and American stock? | ADRs still expose investors to exchange-rate risk
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| WEB'sS | World Equity Benchmark Shares (WEBS), a variation of ADRs. WEBs use the same depository structure to allow investors to trade portfolios of foreign stocks in a selected country. Allow US investors to obtain diversified prot of foreign stocks @ 1 time
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| euro | 11 countries in 1999 replaced their currency with this new universal currency. The idea was to encourage trade across national boundaries.
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| pass-through securities | pools of loans (such as home mtgs) sold in one pkg. Owners of pass-throughs receive all of the principal and interest payments made by the borrowers.
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| securitization | pooling loans into standardized securities backed by those loans, which can then be traded like any other security.
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| who are Fannie Mae and Freddie Mac? | two biggest players in the market to pool mortgages into mortgage backed securities.
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| what types of loans are pass-throughs other than mortgages? | car, student, home equity, credit card, debt of firms
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| brady bonds | used to allow U.S. banks to unload their portfolios of shaky loans to develop. nations, Named for sec of treas Nicholas Brady, US banks exchanged lns for bonds backed by the lns, These bonds cold be traded in cap mkts,banks removed loans by selling bond
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| financial engineering | the creation of new securities by unbundling or bundling.
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| bundling | combining more than one security into a composite security. This allows one to design securities with custom tailored risk attributes.
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| unbundling | breaking up and allocating the cash flows from one security to create several new securities.
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