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Class Notes Bundle

by: Kelly Dodge

Class Notes Bundle FIN 3300

Marketplace > University of Denver > Finance > FIN 3300 > Class Notes Bundle
Kelly Dodge
GPA 3.83
Dr. Vaneesha Boney Dutra

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Investments class notes for Spring Quarter 2015. Great quality notes for people interested in a foundation investments course.
Dr. Vaneesha Boney Dutra
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This 53 page Bundle was uploaded by Kelly Dodge on Sunday October 18, 2015. The Bundle belongs to FIN 3300 at University of Denver taught by Dr. Vaneesha Boney Dutra in Spring 2015. Since its upload, it has received 77 views. For similar materials see Investments in Finance at University of Denver.


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Date Created: 10/18/15
March 24 2015 Chapter 1 Investments Background and Issues Why do we care to dedicate a whole class to investments Developed and underdeveloped countries depends on the access to capital and the ability to take this capital and turn it into a pro t through investments Wealth of a Society Wealth of a society is measured by productivity How much do you produce in terms of services How much do you produce in terms of goods The sum of the good and services produced is the amount of wealth a society has 0 Productivity and wealth come about because you take the capital and invest it Real Asset Some good or some itementity that produces some type of income 0 Example land and buildings Financial Assets Claims to the income produced by those real assets 0 Example Sell ownership shares of apartments building the purchase of that ownership is the nancial asset Another great example is stock Types of Financial Assets Equity A nancial asset where you have an ownership in the real asset 0 Example Stock you become a partial owner in that rm meaning you have the residual right to the income of that rm after they pay off their expenses 0 You share in the good and the bad doesn39t guarantee return 0 Usually offers more return because there is more risk The more risk you take on the more the investor requires in return o Fixed income Return is known and there is a level of certainty also known as debt 0 Example Bond known as an IOU a xed income security 0 Coupon interest rate in the guaranteed return this is known 0 Par value 1000 and the coupon rate is 6 then coupon payment is 60 you receive 60 a year 30 semiannually and 15 quarterly o Derivatives A nancial contract involving two parties where one buys and one sells and that value of the contact is based off of the price of the underlying asset o A nancial asset that derives its value from the value of something else a function of March 24 2015 Example A farmer wants to sell corn before their seeds are even planted a buyer from King Soopers makes an agreement with the farmer about how much the farmer will sell a bushel of corn the option is to buy for 10 The King Soopers buyer paid a small amount to enter the agreement to have the option to buy for 10 If market value is greater than 10 12 yes the buyer would want to buy this corn lf market value is less than 10 8 she has the right to buy can expire and she lost the small fee entered to have that option Higher market value higher value of contract Could sell option in open market to make pro t 0 O 0 Risk Adverse Don39t like risk more return in needed because you try to avoid risk and if there is higher risk you want a higher payout Why do stock prices vary between rms Apple Stock price Represents the discounted value of expected future cash ows of the rm Market has revised its expectation of what the rm will produce down the line Apple is a prime example Sell more computers create more income sales is always a good metric to use More demand for stock price goes up You know that Apple will do better down the line The sales of mac computers decrease People sell their stock supply goes up and the price goes down The sales of mac computers increase at 8 per quarter More income is now available to stockholders Demand goes up and price goes up Stock prices are relative to what we expect down the line After Christmas the January market is ready to hear how retailers did We care because when consumers are spending that is a good sign It is an excellent indication about how people feel the economy is performing and their con dence in the economy Overall health and wealth of the economy the market is always looking for signs about how the economy is doing is ready to unveil the new iPhone 6 Why does stock price change The market knows that people are loyal to Apple and they already assume that people are going to buy the new phone Revenue is expected to increase which means that there is more residual income available to stockholders Demand goes up and price goes up as well Now that the iPhone has been out for a couple of months there have been many problems reported with the phone What happens to the stock The expectations that people will continue to buy the phone decreases meaning Apple will not make as much income and won t have that much to disperse to their stockholders There could also be a recall and could cost Apple a huge expense causing the same thing to occur The reverse March 24 2015 expectation for future cash ow is down and the stock price decreases as supply increases Decisions are based off of future expectations Expectation of future cash ows depends on product lifecycle Reasons to investconsumption timing The shifting or transferring of income from periods of high income to period of low income retirement The 401k plan is a great example Other examples include mutual funds stocks bonds and annuities Allocation of risk Allocate investment dollars according to risk you are willing to take More risk higher return investors require Chapter 1 Continued More on xed income nancial assets Money market A xed income instrument short term maturity of a year or less and tends to be a very liquid asset With that being said there is a lower return because it is safer with less risk There is a lot more uncertainty about what will happen in the long term whereas the short term is more predictable If something pays back sooner than later it is less risky and requires less return which also means it is more liquid Treasury bills TBills Debt issued by the government If the government is issuing treasury bills to the market this means that they are selling them and raising capital aka borrowing 0 Treasury bills short term 0 Treasury notes medium term 0 Treasury bonds long term Preferred stock Another form of raising capital It is a hybrid between equity and xed income The most important characteristic of preferred stock is that it pays stated dividends which means that the dividend is guaranteed and can accumulate overtime if not paid 0 The major difference between preferred stock and common stock is that common stock is not guaranteed a dividend payment Risk allocation Investors can choose desired risk level 0 Bonds are less rislq than stock 0 Risk return tradeoff Agency Issue When you own or buy stock you become a partial owner of that rm You then pass on scal responsibility to the management and there March 24 2015 is a separation between those that own and those that manage the rm which results in a con ict of interest 0 0 Example Is it okay for the CEO to have a private jet 2 private jets A gold toilet Most investors believe this money should be used to invest in new projects to generate more return for the rm which leads to more return for the owners 0 How to x the agency issue and align interests 0 Performancebased compensation They will put capital to good use salary tied to performance However they might invest in more risky projects Board of directors They are in place to protect the shareholders and have the ability to re managers beware of the golden parachute clause which gives management huge payout bonus even if they are red Threat of takeover Private equity rms can come in and buy rms that are undervalued if not managed correctly 0 Asset allocation A diversi ed portfolio the primary determinant of an asset You want to make your portfolio as diverse as possible to decrease risk 0 Area of in ation The value of goods increases When wages don39t rise at the same rate as in ation buying power decreases How do we measure risk 0 Risk is measured by the standard deviation of the returns and the variability in the price movements 0 The higher the standard deviation the higher the risk 0 Active management Choosing stock that you believe will outperform You are actively picking stocks and creating a portfolio You believe the market is inef cient 0 Passive management You are not actively picking stock you want to hold the market because you believe that the market is ef cient and you need to hold a diverse portfolio O 0000 Passive portfolio Believe the markets are ef cient and can t beat any other money managers that are picking stocks Can be called indexing Very dif cult to beat the market Not looking for undervalued securities Also no attempt to time Who are the players Business rms net borrowers Households net savers March 24 2015 Government can be both borrowers and savers 0 When the government buys treasuries they are adding money to the market stimulating the economy When capital is added to the market interest rates decrease o More supply of money lower interest rates downward pressure 0 More demand of money higher interest rates upward pressure Systemic risk Risk that cannot be diversi ed away The best example is 911 attack 0 Risk of breakdown in nancial systemspillover effects from one market into others This risk will hit the market regardless Idiosyncratic rm speci c risk Risk that can be diversi ed away which reduces risk 0 Find investments that aren39t highly correlated Highly correlated means they move with the market together March 26 2015 Chapter 2 Asset Classes and Financial Instruments 0 Certi cate of deposit CD A time deposit with a bank You put your money into something the maturity is a year or less capital is locked away and you make a small return If you withdraw early you pay a fee These are not very liquid 0 Commercial paper Short term borrowings by a rm usually have a maturity of 7 days 0 Example Need to borrow money to pay payroll and meet short term onganns 0 Firms that issue commercial paper they are very strong nancially not backed by collateral and have a good track record 0 Eurodollar Dollardenominated deposits at foreign banks or foreign branches of American banks By locating outside of the US these banks escape regulation by the Federal Reserve Board 0 Repurchase agreement Shortterm sales of securities with an agreement to repurchase the securities at higher price They are backed by collateral and lender makes a small return 0 Federal Funds Each member of the Federal Reserve System is required to maintain a minimum balance in a reserve amount with the Fed Funds in the bank s reserve account are called Federal Funds 0 The Federal Reserve is charged with monitoring the health and wealth of the economy 0 They try to keep things steady 0 Low interest rates borrowing is more frequent promotes more consumption 0 Federal funds are controlled by the Federal Reserve and are less dependent on the market 0 Federal funds use the interbank loan rate the rate that banks borrow from each other 0 Monetary policy buy decrease rates sell increase rates 0 Constantly moving because of supply and demand 0 LIBOR London Interbank Offer Rate London s name for Fed Funds rate 0 Rate at which large banks in London lend to each other 0 Base rate for many loans and derivatives 0 LIBOR is variable and it more controlled by the market supply and demand Why do rms use xed income market vs equity market securities 0 During lean times where revenue is uncertain the equity route might be a better bet because with bonds or loans you are required to pay any interest March 26 2015 rates When selling stock you are not obligated to give shareholders anything and you can raise a good amount of capital Fixed income interest payments are required 0 Firms are borrowing right now because interest rates are so low The value of bonds goes down when interest rates increase 0 Example 1000 5 annual coupon payment of 50 annually on 30 year bond 0 In July 2015 Janet Yeen raises interest rates by 50 basis pointsDinterest rate goes to 55 0 July 20151000 55 annual coupon payment of 55 annually 0 Coupon payments never change from original therefore the price of bond is the factor that will change when interest rates uctuate o Bonds will start trading at a discount when the interest rates rise because investors always want to get the higher interest payments Denomination 10000 or 100000 for treasury securities 0 Risk Less risk associated with government because they likely won t default trustworthy o Taxation Longterm capital gain short term is taxed at regularstated tax ratebrackets 0 Municipal bonds are not taxed 1 Treasury In ation Protected Securities TIPS Securities in the market that guard an investor against in ation o This changes as in ation rates change 0 Investor cares about in ation because it affects purchasing power 0 There is a xed piece and a variation piece based on in ation 0 Government Agencies Issue debt 0 Home oaner association 0 Most are homemortgage related 0 FHA Loan backed by the US government FOFmUIaS I Bank Discount Rate Trbill quotes 1 Bank Discount Rate The rate at which a TBill will quote r W P x 35H 10000 2 Par a Assumes that a year has 360 5mm days E hank discuuntrate b Assumes that denominator is P maricetprice ufthe Ttiill par 1quot numbernfdaystu maturity c Assumes that each month has 30 days 2 Bond Equivalent Yield a Assumes 365 days in a year b The denominator is price used to nd return c Can t compare treasuries and bonds directly 3 Effective Annual Yield a Takes compounding into account for annual yield 4 Taxation Formula March 26 2015 Bind Equivalent Yield P price ef the T Ji r 5 n number ef days te n39nat39uri L13lF menu P H 33955 feetrquot f E eetiueAnnuel Yield 5 El3W3 1 513 r w 1 523 it 3155 1uuuuP T rEA Y 1 P price ef the T hil n number at days to maturityr rte exempt rtexetile K I Tax rate r Interest rate March 31 2015 Chapter 3 Securities Markets 0 The DowJones contains 30 stocks 0 It is calculated based off of price weighting 0 The SampP 500 contains 500 stocks 0 It is calculated by the market weighmarket capitalization How Firms Issue Securities 0 Primary market The issue is originally sold to the market place 0 The company is on the receiving end they receive proceeds from the sale of stocks or bonds 0 Secondary market Existing owner sells to another investor o The issuing rm doesn39t receive proceeds and is not directly involved 0 Example Buy pottery directly from an artist and they make pro t from your purchase primary market then you go and sell this piece of pottery on eBay secondary market 0 Public offering Needs to be registered with the SEC and can sell to the public 0 Private offering Does not need to be registered with the SEC and sold only to limited number of investors Privately held rms 0 Up to 499 shareholders 0 Don39t need to le with the SEC or release nancial reports to the public 0 Have fewer obligations Shares are not publicly traded private placement to a small group of wealthy investors 0 Companies tend to go public in order to raise capital Facebook was maxing out the 499 shareholder rule and was therefore forced to go public Public Traded Companies Sells securities to the general public investors trade shares in the securities markets Initial public offering The rst sale of stock by a formerly private company 0 SEO Secondary equity offering when a company issues stock for the second time etc o Underwriters Usually investment banks purchase securities from issuing companies and resells them 0 A syndicate is used to split the risk multiple investment banks purchase the stock Prospectus The description of the rm and the security being issued 0 Issuing stock is a big deal costly and time consuming Shelf Registration March 31 2015 SEC 415 Firms do not have to sell all of their stock at once Occurs after the rm has gone public A rm can preregister stock and keep it on the shelf has a shelf life of 2 years This is bene cial so if a rm needs to raise capital they are able to do so easily by taking it off of the shelf Allows timing of issues and you want to sell shares when the stock price is high Initial Public Offerings No one knows the value of the stock of an IPO so the underwriter determines the value of the stock The issuer and banker put on a road show to potential investors and ask how much they would be willing to pay for this stock and how many shares they would buy The purpose of this is bookbuilding When a company goes public the rst day the stock rises quite a bit This is the process of underpricing 0 Sell 20sharemake 1850 0 30shareDcould have made 2850end of 1st day trading 0 IPO underpricing They should have priced the stock originally at 30share However you don39t want to start at 40share and end up only selling for 30share How Securities are Traded Functions of Financial Markets Overall purpose facilitate lowcost investment Brings together buyers and sellers at low cost Provides liquidity by minimizing time and costs Allows for consistently updated prices of nancial assets Reduces information costs associated with investing Types of Markets Direst Search Markets Buyers and sellers locate one another on their own 0 Example Craigslist Brokered Markets Thirdparty assistance in locating buyer or seller 0 Example Realestate broker Dealer Markets Third party acts as intermediate buyerseller 0 Example Used car dealers Auctions Markets Brokers and deals trade in one location trading is more or less continuous 0 Example New York Stock Exchange Types of Orders Market order Buy or sell at market price best price Bid price Price at which the dealer will buy securities Ask price Price at which the dealer will sell securities Pricecontingent order Buysell at speci ed price March 31 2015 0 Example Buy at 100limit sell 105 Above current market price 0 Limit buysell order Speci ed the price at which investors will buysell 0 Purpose is to maximize gains and you set the price 0 Stop order Used to protect from loss not to be executed unti price point hit 0 Bought 100stop loss 95 will sell to stop losing money below current market price Trading Costs 0 Commission Fee paid to broker for making transaction 0 Spread Cost of trading with dealer Ask bid 0 Bid Price at which dealer will buy from you 0 Ask Price at which dealer will sell to you 0 Combination On some trades both are paid Buying on Margin Margin Describes securities purchased with money borrowed in part from broker 0 Net worth of investor39s account 0 Buying on margin is the equity that you put in o 0 Example T0100 shares 100 10000 60 margin Borrowed 4000 Equity 6000 0 What if price falls to 70 100 shares 70 7000 Borrowed 4000 Equity 3000 0 Initial Margin Requirement IMR Minimum set by Federal Reserve under Regulation T currently 50 for stocks 0 Minimum initial investor equity 0 1 IMR Maximum amount investor can borrow Equity Position value Borrowing Additional cash 0 Maintenance Margin Requirement MMR Minimum amount equity can be before additional funds must be put into account exchanges mandate minimum 25 Margin Call Noti cation from broker that you must put up additional funds or have position liquidated If Equity Market value lt MMR then margin call occurs 0 Market value Borrowed Market Value lt MMR solve for market value c A margin call will occur when Market value Borrowed1 MMR Trading Strategies Algorithmic Trading Use of computer programs to make rapid trading decisions March 31 2015 o Highfrequency trading Uses computer programs to make very rapid trading decisions in order to compete for very small pro ts 0 Competing for nickels 0 Computer doesn39t work in volatile markets Dark Pools ECNs where participants can buysell large blocks of securities anonymously 0 Blocks Transactions of at least 10000 shares 0 When normal people trade that information is available to anyone Short Sales Sale of shares not owned by investor but borrowed through broker and later purchased to replace loan Mechanics o Borrow stock from broker must post margin 0 Broker sells stock and deposits proceedsmargin in margin account you cannot withdraw proceeds until you quotcoverquot 0 Covering or closing out position Buy stock broker returns title to party from which it was borrowed Ap l22015 Chapter 4 Mutual Funds and Other Investment Companies 0 Mutual Funds A type of investment company that pool moneytakes in funds and invests those funds on the investors behalf 0 Different objectives purpose of the fund 0 Percentage of the assets they manage assets under management fee AUM 0 Coal to attract AUM raises capital 0 Functions of Investment Companies 0 Record keeping and distribution Diversi cation and divisibility Choosing right stocks for risk tolerance Professional management Lower transaction cost power in lager numbers high volume Investment company is a nancial intermediary OOOO Net Asset Value NAV Assets minus liabilities per share Openend fund Issues or redeems shares at net value NAV Closedend fund Shares can39t be redeemed are traded at prices different than NAV either at a premium or discount to NAC Load Sales commission charged on mutual fund OpenEnd and ClosedEnd Funds Key Differences Shares Outstanding Closedend No change unless new stock offered Openend Changes when new shares are sold or old shares are redeemed Pricing Openend Fund share price Net asset value NAV Closedend Fund share price may trade at premium or discount to NAV 0 Real Estate Investment Trusts REITs Similar to closedend funds invests in real estatereal estate loans avoids double taxation and 90 of income distribution if given back to owners 0 Hedge Funds Private speculative investment pool exempt from SEC regulation Form partnership with wealthy people Operate outside the eye of the SEC Investment pool Quali ed investor Wealthy assumes that you make reasonable and sound investments 1 million in liquid assets No customer just partners Ap l22015 Exam Review What is the issue of the dollar strengthening Sounded like this question is de nitely on the exam We produce a lot of goods and services that we export discourages consumers that do not hold the dollar from purchasing our products makes our product much more expensive abroad could impact economy because our exports decrease The positive great time for people holding the dollar to go abroad and travel the dollar is strong Also good time to consume Corporate bonds have more risk so there is a larger return then the treasuries that are issued by the federal government Investors are more willing to by the corporate bonds right now because there is a larger yield The lower the coupon payment the more the value of the bond is impacted by the change in interest rates and vice versa Increasing interest rates overall good signal When interest rates are expected to increase people will pull their money out of equity securities and put them into bonds because bonds are certain and you know exactly what your cash ows will be The equity market is volatile and not very certain With increasing interest rates there is a higher expected yield Chapter 1 All concepts on chapter one know de nitions agency problem Top down approach I like these sectors technology utilities start at top and funnel down to individuals stocks within these high performing sectors Start by looking at the broader pictures and then you narrow it down Only disadvantage is that you are somewhat constraining yourself to sectors have to pick the best stocks within that sector Bottoms up approach Doesn t give that sector constraint I like Apple and Bank of America start at securities level and build a portfolio around these securities Top down and bottom up is really just preference and doesn39t necessarily have any bene ts over the other Passive management Holding an index mutual fund portfolio of a broad range of stocks market portfolio DOW SampP stocks move against each other Believe that the market is ef cient and that you cannot do better than a professional that is picking stocks for you Just hold the market Holding an index is cheaper than holding an actively managed fund Active management Think you can nd inef ciencies in the market and think you can beat the market and make a higher return Systematic risk and unsystematic risk how to get rid of it and how can we get rid of it Ap l22015 Chapter 2 Also know the de nitions here Repurchase agreement sell someone something because have a short term overnight or up to a week need for funds and agree to repurchase it from them at a higher price later on Hold treasuries and have the need for cash and sell them Selling treasuries at a discount need funds Reverse repo Both situations the treasuries serve as collateral instead of needing money you are supplying the money The lender and get the spread Same thing but the opposite of the repurchase agreement Buying treasuries make yieldspread supplying fuds LIBOR Municipal bonds Know formulas Chapter 3 Know the IPO process Types of orders Short selling Margins Primary vs secondary market Seasoned equity offer Venture Capital Smaller rms go to raise money come in with capital and either fund something or they may take over something that is failing change management and then when it is running like a horse again they sell it for pro t A group of very wealthy investors private partnership Generally it starts with wealthy investors Chapter 4 Mutual Funds REITS Hedge Funds Fees Charges ExchangeTraded Funds Trades on an exchange just like stock Offshoots of mutual funds that allow investors to trade index portfolios Will trade very close to NAV Mechanisms for ETFs called In Kind Trade a way for authorized participants to take advantage of any price deviations between NAV and the actual price of the ETF Authorized participants can buy low and sell high Buy shares of the underlying asset and form a portfolio and create shares of the ETF and then sell at the higher price Create additional units of the ETF and sell it and do this very quickly 0 Advantages Trade continuously throughout the day 0 Can be sold or purchased on margin 0 Potentially lower tax rates 0 Lower costs no marketing lower fund expenses SampP is holding the index NAV10211 Mutual Fund traded at 10211 Ap 22015 0 Closed End Fund traded at greater or less than 10211 0 Exchange Traded Fund close to the original NAV fund 102 34 102 01tracking errors Ap l142015 Chapter 5 Risk and Return Past and Prologue 0 You have to take risk to capture return 0 Risk adversion Function about how much risk you are willing to take 0 Holding Period Return Rate of return on an investment over a speci c period of time 0 Usually 1 year or less because it ignores compounding 0 Up until you receive cash distribution 0 Semiannual bond only use for half a year ignoring compounding should earn interest ideally HlPlR P8 PB CF i PB PS Sale price PB Buy price ClF39 Cash fllw during lhlldling period 0 Assumes cash ow comes at the end of the period not quarterly and not semi o Summation of dividend yield and capital gain yield Good example on pg111 0 Capital gain The difference between when you buy and sell a stock 0 There are so many moving parts in a mutual fund high return People and investors chase returns 0 Bias money chasing 0 Capital in ows when there are high returns 0 The in ows are so large it is hard to create returns 0 How do you measure performance when there is cash in ows and out ows Arithmetic average The sum of returns in each period divided by the number of periods 0 The arithmetic average ignores compounding 0 When you are paying interest Want to pay this simple Geometric average The single perperiod return that gives the same cumulative performance as the sequence of actual returns 0 Takes into account compounding Apn142015 0 Time weighted average 0 Getting interest want compounding Returns on assets with regular cash ows such as mortgages and bonds usually are quotes as annual percentage rates or APRs which annualize per period rates using a simple interest approach ignoring compounding o APRPer period rate X Periods Per Year 0 Annual percentage rate including fees and points However because APR ignores compounding the APR does not equal the rate at which your invested funds actually grow This is called the effective annual rate or EAR EAR 1 1 Rate per period 1 1 I II Investing involves some degree of risk How does one plan when there are many unknowns 0 Regulation Health care Energy Banking 0 Financial Industry Much more costly and less pro table to be in the baking industry Interest rates are always changing Planning for the unknowns Scenario analysis Process of devising a list of possible economic scenarios and specifying the likelihood of each one as well as the HPR that will be realized in each case Usually associated with some event new portfolio new product For example Apple Watch Best Case Good Case Average Below Average Worst More scenarios with a new product trying to unveil something totally new Must assign probabilities to each scenario and must be realistic 0 Based off of some type of data 0 Think about current state of economy 0 Probability distribution List of possible outcomes with associated probabilities Must sum to 1 Expected return The mean value of the distribution of holding period return 99 of what we expect is within the 3 standard deviations Smaller deviation get what you expectwant less risk Larger deviation Unlikely to get what you expectwant more risk Variance The expected value of the squared deviation from the mean 0 Standard deviation The square root of the variance O 0000 Value at Risk VAR The measure of downside risk The worst loss that will be suffered with a given probability often 5 Apn142015 o How much would I lose in a fairly extreme outcome for example if my return were in the fth percentile of the distribution You can expect your investment experience to be worse than this value only 5 of the time and better than this value 95 of the time 0 Use NORMSINV in Excel Kurtosis The measure of the fatness of the tails of a probability distribution relative to that of a normal distribution Indicates likelihood of extreme outcomes 0 We expect this to be zero if higher positive then there is more probability on the right side We prefer this to happen because it is positive Negative side is worse losing money Skewness Measure of the asymmetry of a probability distribution bell curve You must ask how much of an expected reward is offered to compensate for the risk involved in the stocks within a portfolio 0 We measure the reward as the difference between what the expected HPR on the index fund and the riskfree rate the rate you can earn on Treasury bills Also known as the rate of return that can be earned with certainty The difference is the risk premium An expected return in excess of that on riskfree securities 0 Excess return Rate of return in excess of the riskfree rate 0 Risk aversion Reluctance to accept risk 0 The ratio of a portfolio s risk premium to its variance is the price of risk 0 Risk aversion implies that investors will accept a lower reward in exchange for a suf cient reduction in the standard deviation A statistic commonly used to rank portfolios in terms of this riskreturn tradeoff is the Sharpe or rewardtovolatility ratio This is the ratio of portfolio risk premium to standard deviation Fisher IEqruatien IRrE EU Current expected initiation l R Nleminel interest rate Reel interest rate 0 The Fisher Equation is compensation for when we lend money to someone compensation for in ation and delay in consumption By lending money to consume what am I Iosing for not consuming today In ation causes us to lose purchasing power 0 Why are interest rates important to corporations 0 Interest rates high people are less likely to consume 0 Investor side bonds 0 Corporate WACC goes up and also discount of future cash ows Apn142015 0 High rates the present value of future cash ows decrease and costs companies more to nance projects 0 Are treasuries really risk free NO There is in ation risk Portfolio Expected Return and Risk P portfolio composition y proportion of investment budget rf rate of return on riskfree asset rp actual rate of return Erp expected rate of return 0p standard deviation Erc return on complete portfolio Erc yErp 1 Yrf 0c yarp 1 y c7r NaziAnn VLF Rm an Dm39R w j P Cther 7 Cap39al limeiL nal 0 54 7929 for 9422 CW Wk 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which an asset can be sold and still fetch a fair price or the price discount necessary to achieve and immediate sale The more liquid the asset the less risk the less return Horizon The planned liquidation date of the investment Example The time to fund a college education or the retirement date for a wage earner Regulations Only professional and institutional investors are constrained by regulations Regulations can cost companies a lot of money Energy is a highly regulated industry Highly regulated sectors are something to think about regarding how it affects cash ows Taxes The performance of any investment should be measured by its rates of return after taxes Municipal bonds are tax free high net worth individuals buy these You need to think about tax brackets and the taxes on what you will be investing in Weights of your portfolio will change over time Asset allocation will also change overtime Investing is a dynamic process that must be updated and reevaluated


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