Series 65 Session 12

A corporation sponsors a defined benefit pension plan. The assets of the plan are invested in a diversified portfolio of large-cap stocks. Which of the following options positions would be most appropriate if the corporation wished to protect their ability to meet their obligations to employees?

Buy ___ puts. Regardless of the security, the best way to protect a long position is to buy a put, either on that security or an index with a close correlation.

Internal Rate Of Return Can..

Calculate investments that have uneven cash flows

NPV

Determines the ability to invest in new equipment

NPV Income Is

Discounted to PV

NPV is in ____ amounts

Dollar

Yield Analysis

Drawn using US treasury securities

Income In Perpetuity

Income forever for a relative or charity

Internal Rate of Return Computes

Long term return. Takes into account time value of money

NPV

More important than IRR. Difference between the present value and cost

Mid Range

Number exactly in the middle of range

Fundamentalists Look At

PE ratios

Not A Factor In Lump Sum Investment

Salary

Fundamental analysts give significant credence to financial ratios. Which of the following tends to give an indication of the profitability of the enterprise?

Sales to earnings ratio

High In Standard Deviation

Small cap funds. Specialized funds, with certain stocks

Very High Or Low P/E Ratios

Speculative companies. "Black and white"

Best Indicator Of A Stock's Volatility

Standard deviation

YTM Reflects

The interest rate of return

Present Value

Used to determine the amount of deposit in the present to meet a future need, like college education

Standard Deviation

Used to find risk and reward. Distance from the mean

Central Tendency

Uses mean, median, mode

Future Value

What amount invested today will be worth in the future

IRR Calculated

With Iteration, which means that it's mostly trial and error

To Find Number Of Years It'd Take To Double Investment

72 divided by interest rate To find earnings rate it'd take to double the investment: 72 divided by years

An investment adviser representative is looking for a suitable investment for a client. The IAR wishes to find something that will offer an attractive return commensurate with its systematic risk. The choices have been narrowed down to Security C and Security L and the selection will be based on alpha. C has a beta of 1.0 and earned 13% while L has a beta of 0.8 and earned 10.1%. The alpha of Security L is:

Alpha is obtained by comparing how a security actual performed to the performance one would have expected based upon its beta. A beta of 1.0 is used to indicate the expected volatility of the overall market. Because Security C has a beta of 1.0, its 13% return matches that of the "market". With a beta of .8, one would expect Security L to produce a lower return, but how much lower? Its return should be 80% of the "market" or, in this case, 80% of 13% which computes to 10.4%. However, its actual return fell short of that by 0.3% giving it a negative alpha of 0.3. Had its actual return been 10.7%, it would have had a 0.3 positive alpha. Although this question doesn't ask it, based upon the criteria given, the IAR would have selected Security C.

NPV Can Evaluate Client's Investment In

Any vehicle

Quantitative Analysis (Quants)

Arithmetic mean is greater than Geometric mean. Unless all of the same numbers are used

Exhausting The Principal

Client has a fixed sum and wants to know how long it will last until it reaches zero

IRR Is Not For

Common stock

Book Value

Company's theoretical liquidation value per share

Internal Rate Of Return

Computes long term returns and takes time value of money into account. Discount rate that makes the future value equal the present value (cash flows)

Net Present Value Takes Into Consideration

Future cash flows, discounted to the present, and comparing that to the capital investment necessary to obtain those flows.

Negative Correlation

Good for the diversification of a portfolio

Acceptable if NPV is

Greater than zero

High P/E Ratios

Growth companies

A customer's portfolio has a beta coefficient of 1.1. If the overall market increases by 10%, the portfolio's value is likely to:

Increase by 11%

Beta Or Beta Coefficient

Measures variability between stock movement and market

Technical Tools

Outstanding short interest in market. Resistance and support levels. 200 day moving average

Alpha

Portfolio managers having positive alpha means that their investment performance is better than what was anticipated

If Projected Income Of Factory Is Greater Than Cost, It'll Be A _____ NPV

Positive

If Computing PV Or FV and actual return is less _____

Present value (initial required deposit) is higher than expected

Price Earnings Ratio Formula

Price of stock divided by earnings of stock

Future Value Depends On

Rate of return. Number of years invested

Internal Rate Of Return

Results in investment having an NPV of 0

Standard Deviation 67/95 rule

Same as stats . Expected return 12% . Standard deviation 5% Range within 7-17% 67% of the time

Correlation

Shows how much the portfolio is diversified. Index funds want perfect correlation

Net Present Value

The difference between the sum of the discounted cash flows that are expected from an investment and its initial cost

Beta

The measurement that compares a stock's price history to the movement of a total market index for the same period

Price To Book Value Ratio

The price to book value ratio compares the company's market price to its book value per share. The higher the ratio, the greater premium the public is willing to pay over the intrinsic value of the enterprise. Usually, a ratio of less than 1 indicates an undervalued company

Yield Analysis Expects

To view bonds of single issuer over different maturities

Present Value "Formula"

Today's values of future cash flows are discounted at an interest rate to get the present worth

Two securities with which of the following correlation coefficients could be combined to create a risk-free portfolio?

-1.0. Risk elimination can be achieved if two securities with a perfect negative correlation are combined.

Stock With Beta of 1.00 Stock With Beta of 1.50 Stock With Beta of .70

1.00 = Similar variability or risk with market. 1.50= Higher variability than market. .70= Less variability than the market

XYZ Corporation has a beta of 1 and ABC has a beta of 1.4. XYZ has returned 12% and ABC 18.8%. Based on this information ABC had alpha of

Alpha is the extent to which a security's performance exceeds (or falls short of) what would be expected based on its beta. A stock with a beta of 1.4 would be expected to perform 40% better in an up market than one with a beta of 1.0. Because XYZ with a beta of 1.0 gained 12%, ABC should return 140% of that or 16.8% (12% x 1.4). With an actual return of 18.8%, ABC beat the expected by 2% and that is its alpha. More accurately, this question should also include the risk-free rate, but if, as in this case, it doesn't, the computation is easier. If the RF rate was shown, then that would have to be subtracted from "both sides." If the RF was 2%, then the computation would be (12% - 2%) × 1.4 - 14%. Then, we subtract the 2% RF rate from the 18.8 to get 16.8%. The difference between 16.8% and 14% would be alpha of 2.8%. Reference: 12.2.5 in the License Exam Manual