CFA Level 1 FRA
Elasticity of demand
A measure of how consumers respond to price changes; Perfectly elastic is when the demand curve is horizontal; Perfectly inelastic is when the demand curve is perfectly vertical
Margin Debt
An increase in the number indicates bullish sentiment; Sentiment indicator
Contents of Auditor's Opinion
+Independent view of the firms financial statements +Generally accepted accounting policies were used and judgements were reasonable +Explanation when accounting policies change from year to year
Cycle Theory
+Presidential Cycle = 4 years +Decennial Cycle = 10 years +Kondratieff Wave = 54 years
Objectives of International Organization of Securities Commissions
+Protect investors +Ensure market fairness, efficiency and transparency +Reduce systemic risk
SEC Forms
+S-1 +10-K +10-Q +DEF-14A +8-K +144 +Forms 3, 4, 5
Process for Testing Hypothesis
+State Hypothesis +Select Test Statistic +Specify Level of Significance +State Decision Rule Regarding Hypothesis +Calculate Sample Statistics +Make a Decision about Hypothesis +Make a Decision Based on Test
Steps of Financial Statement Analysis Framework
+State the objective and context +Gather data +Process data +Analyze and interpret data +Report conclusions and recommendations +Update analysis
Contents of Footnotes
+The basis of presentation such as the accounting period +Information about the accounting methods used +Additional information about extraordinary events
Contents of Management Discussion and Analysis
+The basis of presentation such as the accounting period +Information about the accounting methods used +Additional information about extraordinary events
Auditor's Opinions
+Unqualified opinion +A qualified opinion +An adverse opinion +A disclaimer opinion
Oligopoly models
-Kinked demand curve -Cournot duopoly -Nash equilibrium -Dominant firm model
Accounting Information Flow
1. Journal record every transaction by order of date in the general journal 2. The general ledger sorts the entries in the general journal by account 3. An initial trade balance is prepared at the end of the period to show the balance of each account and adjustments are then made 4. Financial statements are made from the adjusted trial balances
T-Distribution
A bell shaped distribution symmetrical about its median used to make confidence intervals with small samples (<30) and unknown population variance; Degrees of freedom = # of Observations - 1
Confidence Interval
A range of values the population parameter is expected to fall under; When a distribution has a known population variance, found by: (sample mean) (+\-) (z-statistic) * (standard error); When distribution population variance is not known, found by: (sample mean) (+\-) (t-statistic) * (standard error)
Giffen good
An inferior good for which the income effect outweighs the substitution effect so that the demand curve is positively sloped (higher the price, higher the demand)
Form 10-K
Annual report
Relationship cost curves
AFC slopes downward Vertical distance between ATC and AVC equals AFC MC initially declines, then rises MC intersects AVC and ATC at their minimums ATC and AVC are u-shaped The MC above the AVC is the firm's short-rum supply curve
Herfindahl-Hirschman Index
Adds up the sum of the squares of the largest firms in the market
Substitution effect
Always acts to increase the consumption of a good that has fallen in price
Kinked demand curve
Based on the assumption that an increase in a firm's product price will not be followed by its competitors, but a price decrease will; Firms assume that demand is more elastic above a certain price than below it; Firms produce the quantity at the kink, assuming if they increase production, their revenues will be eroded by decreased prices and if they decrease production the price won't go up much; Model doesn't account for cause of kinks
Descending price (Dutch) auction
Begins with a price greater than what any bidder will pay and the price is reduced until a bidder agrees to pay it; If there are multiple units available, each bidder and specify how many they want to buy; Can be modified so that winning bidders all pay the same price
Ascending price (English) auction
Bidders can bid amounts greater than the previous bid, and the bidder that first offers the highest bid wins the item and pays the amount
Bernoulli Random Variable
Binomial random variable with only one trial
Simple Random Sampling
Completely random, systemic sampling is picking every nth member of a population; Sampling error is the difference between the sample statistic and the population's statistic
Positive substitution, negative income greater than positive substitution
Consumption decreases
Positive substitution, negative income smaller than positive substitution
Consumption increases
Positive substitution, positive income
Consumption increases
Nth firm indicator
How much market share is held by the top N firms in the market; Isn't affected by two large companies merging
Sentiment Indicators
Discern the potential views of buyers and sellers
Form 8-K
Discloses material events
Standard Error
Dividing the sample variance by the square root of the number of observations since the populations standard deviation is rarely known
Nonparametric Tests
Do not make any assumptions about the population and are used when parametric tests cannot be
Sealed bid auction
Each bidder submits one bid, which is unknown to the other bidders and the bidder with the highest bid wins the item and pays the price; The reservation price is the highest price that a bidder is willing to pay; The optimal bid for the bidder with the highest reservation price is just slightly above the bidder with the second highest reservation price; Bids are not necessarily equal to reservation price
Income effect
Either increase or decrease a good that has fallen in price; Typical of normal good to have a positive income effect; Typical of inferior good to have negative substitution effect
Price elasticity
How responsive the quantity demanded is to a change in price
F-Test Statistic
Examines two sample variances, with the larger in the denominator and smaller in the numerator
Tax Burden
Falls on the party with less elastic curve
Form S-1
Filed before sale of a new security
Average Revenue > AVC
Firm continue production
Average Revenue < AVC
Firm should shut down
Average Revenue > ATC
Firm should stay in business for long-run
Central Limit Theorem
For simple random samples of size n from a population with a mean u and a finite variance o, the sampling distribution of the sample mean x approaches a normal distribution with mean u and a variance equal to the population variance divided by the number of sample observations
Marginal cost pricing
Forces the monopoly to reduce price to the point where the firms marginal cost curve intersects the market demand curve
Causes of demand changes
Income Increases as prices of substitute goods increase Decreases as the prices of complement goods increases
Unqualified auditor's opinion
Indicates the auditor believes the statements are fine
Perfect competition
Many firms compete with identical products, low barriers to entry, and the only way to compete is on price; Perfectly elastic demand curves for each firm; A firm will continue to expand production until marginal revenue equals marginal cost, which maximizes profit or where MR = MC; Economic loss occurs when marginal revenue is less than marginal cost; Firm can't make economic profit in long-run; Long-run equilibrium output is where marginal revenue equals marginal cost equals average total cost ; An increase/decrease in market demand will increase/decrease both equilibrium price and quantity; Short-run supply curve is the marginal cost curve above the average variable cost
Monopolistic competition
Many firms that compete with differentiated products; Demand curve is downward sloping and is highly elastic; Quality, Price and Marketing are key differentiators ; Low barriers to entry; Firms must advertise and innovate; In short run maximize economic profits by producing where marginal revenue equals marginal cost ; In long run, price equals average total cost and economic profits are 0
Volatility Index (VIX)
Measures the volatility of options on the S&P 500 index; The higher the level, the more scared the market; Sentiment indicator
Type II Error
Not rejecting a false null
Concentration measures
Nth firm indicator Herfindahl-Hirschman Index
Panel Data
Observations of the same characteristic of multiple entities over time
Longitudinal Data
Observations over time of multiple characteristics of the same entity
Cournot duopoly
One firm will look at the other's price and production and adjust accordingly until both firms meet at an equilibrium of the same price and quantity
Oligopoly
Only a few firms compete and each must consider the actions of others when setting price and strategy; High barriers to entry; Demand is less elastic than monopolistic competition
Monopoly
Only one seller in the market and there are no good substitutes; High barriers to entry; Maximize profit, not price; Profit maximized when marginal revenue equals marginal cost when demand curve is above ATC
Spearman Rank Correlation Test
Order all of the data and examine its correlation to see if there is any relationship at the extremes ; Used when data isn't normal
Power of Test
Probability of correctly rejecting the null; Found by subtracting the probability of a Type II error from 1
Profit maximized
Producing up to but not over MR=MC; Producing quantity where TR-TC is at a maximum
Form DEF-14A
Proxy statement
Put/Call Ratio
Put volume divided by the call volume; The higher the ratio, the more negative the sentiment; Sentiment indicator
Form 10-Q
Quarterly report
Mutual Fund Cash Position
Ratio of a mutual fund's cash to its total positions; Increases in a down market, decreases in an up market
Type I Error
Rejecting the null when it is true; Significance level is probability of Type I error
Parametric Tests
Rely on assumptions regarding the distribution of the population and are specific to population parameters
Causes of supply changes
Rises if technology increases; Rises if input prices decrease
Point and Figure Chart
Shows price movement by having price on the vertical axis and the number of changes in direction on the horizontal axis; X = increase one box size O = decrease one box size
Point Estimates
Single values used to estimate population parameters
Coefficient of Variation
Standard deviation divided by the mean
Relative Strength
The asset's price charted against the index price
Second sealed bid auction (Vickrey auction)
The bidder with the highest bid wins the item but pays the price bid by the second highest bidder; No reason for a bidder not to bid his reserve price; Similar to a an ascending price auction, the winning bidder tends to pay one increment of price more than the bidder who values the time the second most
Lognormal Distribution
The function e^x where x is normally distributed; Positively skewed; Bound to the left by 0 ;Price relative is the ending price divided by the starting price
Z-Value of Normal Distribution
The number of standard deviations away a random variable is from the population mean ; z = (variable - population mean)\(standard deviation)
Roy's Safety First Criterion
The optimal portfolio minimizes the probability that the return of the portfolio falls below A minimum acceptable level; = (Historical Return - Return Threshold)/(Volatility) Shortfall risk is the probability of being to the left of the minimum return
Test's Significance
The probability that a true null hypothesis will be rejected by chance
Short Interest Ratio
The short interest divided by the average daily trading volume; Can indicate a bearish sentiment but also an upcoming spike from shorts closing positions; Sentiment indicator
Adverse auditor's opinion
The statements are not presented fairly or don't conform to standards
Qualified auditor's opinion
There is an exception to accounting principles
Oligopolists and Collusion Agreements
There is an incentive to cheat and raise your share of the joint profit
Properties of Estimators
Unbiased - Low sampling error Efficient - Small variance Consistent - Accuracy increases as sample size increases
Z-Test
Used to calculate a mean when population is known to be normally distributed
T-Test
Used to compare two means when population is known to be normally distributed
F-Test
Used to compare two variances
Chi-Squared Test
Used to test hypothesis about one variance
Private value auctions
Value is subjective and different to each bidder
Binomial Random Variable
Variable may be defined as the number of successes in a given number of trials where the outcome can be either a success or failure; Expected value = (probability of success) * (number of trials); Variance = (expected value) * (1 - probability of success)
Discrete Uniform Random Variable
Variable where all possible outcomes for a discrete random variable are equal
Discrete Random Variable
Variable where the number of outcomes can be counted and each outcome has a measurable and positive probability
Continuous Random Variable
Variable where the number of possible outcomes is infinite, even if upper and lower bounds exist
Alternative Hypothesis
What is concluded if null is rejected
Null Hypothesis
What you are testing
Dominant firm model
When a firm with the vast majority prices smaller firms out of the market over time by lowering prices to the point where it falls below the average total cost of smaller competitors
Stratified Random Sampling
When a population is divided up into smaller groups based on distinguishing characteristics; Proportions of groups in sample same as in population
Unstable equilibrium
When a supply curve intersects a demand curve more than once, the unstable equilibrium is an equilibrium where supply can increase towards another equilibrium that results in a lower price; Caused by a nonlinear supply function
Reversal Pattern
When a trend approaches a range of prices but fails to continue beyond that range
Disclaimer auditor's opinion
When the auditor cannot issue an opinion
Natural monopoly
When the average cost of production is falling over the relevant range of demand and having two or more producers would lead to hire production costs and hurt the consumer
Nash equilibrium
When the choice of all firms are such that there is no other choice that makes any firm better off; Each decision maker will unilaterally choose what's best for himself
Incidence of tax
Who ends up bearing the cost of a tax
Statutory incidence
Who is legally responsible for paying a tax