FIN3244 Review Sheet Exam 1 on Thursday January 26th 25 multiple choice test 1 Risk levels of short term securities a Short term investments typically mature within one year b Generally hold little to no risk c Primary risk results from inflation risk the loss of potential purchasing power that occurs when the rate of return on these investments falls short of the inflation rate Typical of the traditional savings account d Virtually no risk of default nonpayment with short term investments e Exposure to capital loss is low because the value of short term investments does not change much in response to changing interest rates 2 Investment Securities a Common stock i An equity investment that represents ownership in a corporation Returns on investment result from dividends and capital gains b Fixed income securities i Investment vehicles that offer a fixed periodic return Popular during periods of high interest rates 1 Bonds 2 Convertible securities Long term debt instruments issued by corporations and governments A special type of fixed income obligation Has feature permitting investor to convert it into a specified of shares of common stock 3 Preferred stock Represents ownership in a corporation but has a stated dividend rate that takes preference over common stock dividends of the same firm Has no maturity date i A company that raises from sale of its shares and invests in and professionally ii manages a diversified group of securities Issue and repurchase shares of the fund at a price that reflects the value of the portfolio at the time the transaction is made investment vehicles are mutual funds that invest solely in short term iii Money Market Mutual Funds i Derive their value from an underlying security or asset Possess high levels of risk because of their uncertain returns 1 Options Securities that give the investor the opportunity to sell or buy another security at a specified price over a given period of time Investor is not guaranteed a return contract will make delivery and the buyer of the contract will take delivery Legally binding obligations stipulating that the seller of futures 2 Futures c Mutual Funds d Derivative Securities of an asset at some specific date at a price agreed on at the time the contract is sold Considered a high risk proposition 3 Types of income a Active income 4 Financial markets forum s i Consists of everything from wages and salaries to bonuses tips pension income and alimony Made up of income earned on the job as well as most other forms of noninvestment income i Earnings generated from various types of investments Covers savings accounts stocks bonds mutual funds options and futures In reference to returns consists of interest dividends and capital gains b Portfolio income c Passive income i Composed chiefly of income derived from real estate limited partnerships and other forms of tax advantaged investments a Forums in which suppliers and demanders of funds make financial transactions often through intermediaries They include securities commodities and foreign exchange markets i Dominant in USA is the securities market Includes stock markets bond markets and options markets ii Financial markets streamline the process of bringing together suppliers and demanders of funds and they allow transactions to be made quickly at a fair price b Money Market and sold i Markey where short term securities with maturities less than one year are bought ii Company files a registration statement with the SEC including the prospectus 1 Describes the key aspects of the issue the issuer and its management and financial position c Capital markets i Where investors make transactions involving long term securities with maturities greater than one year such as stocks and bonds Can be classified as either primary markets or secondary markets seen below 5 Institutional Investors characteristics a b Investment professionals who are paid to manage other peoples money and make the investment decisions Include financial institutions such as banks life insurance companies mutual funds and pension funds c Generally invest larger sums of money on behalf of others and therefore are often more sophisticated in investment knowledge and methods 6 Aspects of ADR s a American Depository Receipts b A way of directly investing in a foreign company c Dollar denominated receipts for the stocks of foreign companies that are held in the vaults of banks in the companies home countries i More than 2 000 ADRs representing 50 different home countries are traded on U S exchanges 7 Portfolio Risk Determinants a When in the accumulation of securities phase you want the market to be at a low point b Uses diversification the inclusion of a of different investment vehicles in a portfolio to earn higher returns and to be exposed to less risk than if you put all of your eggs in one basket c Many investors purchase mutual funds to easily achieve diversification and to receive the benefit of professional management 8 Capital gain calculation a Result from selling stock or any asset at a price that exceeds its original purchase price b Buy a stock for 40 and a few years later sell it for 44 You have a capital gain of 4 9 Short term investment characteristics a Generally carry little or no risk b Often used to warehouse idle funds and earn a return until those funds are invested in long term vehicles c Popular among conservative investors d Provide liquidity i Converted into cash quickly with little or no loss in value Investors suggest that you hold between three to six months worth of after tax income in short term investments a Can be converted into cash quickly and with little or no loss in value i Common in short term investment vehicles Income taxes at the federal state and local levels have the greatest impact on security investments whose returns are in the form of dividends interest and increases in value b Property taxes can have a sizable impact on real estate and other forms of property c Tax rates for ordinary income in a progressive tax structure 10 15 25 28 33 and 35 i Ex Say Joni has ordinary income of 25 000 To find her taxes paid you use this equation 10 x 7 550 15 x 25 000 7 550 755 2 618 3 373 12 Rights offerings a An offer of new shares of stock to existing stockholders on a pro rata basis b If you already own 20 of the shares of a company and the company decides to issue more shares you are given the option to buy more shares in the amount you already own to maintain your
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