SIE Exam Chapter 3

Quick Ratio (Acid Test Ratio)

(Current Assets - Inventory) / Current Liabilities. More stringent measure of checking companies liquidity because it considers only cash and cash equivelants.

Earnings per Common Share

(Net Income - Preferred Dividend) / Common Shares Outstanding. If there are $480,000 of common shares and par value is $4 the amount of common shares outstanding is 120k shares. EPS measures the portion of earnings available to common stockholders after the preferred stock has received its dividend.

Net Profit Margin Ratio

(Net Profit - Preferred Dividend)/Sales (Revenue). Measure of profitability.

Book Value Per Share

(Total Shareholder Equity - Preferred Equity) / Total Common Outstanding Shares. Is the liquidation value per common share of stock. Book value per share is the residual per share left for the common stock if company was liquidated.

Dividend Yield

Annual dividend/current stock price.

Dividend Payout Ratio

Annual dividend/earnings per share. Gauges generosity of board of directors. Portion that isn't distributed goes to retained earnings

Shareholder's Equity

Assets - Liabilities

Lagging

Consumer Price Index (CPI), Average length of unemployment, prime rate, commercial and industrial loans

Working Capital

Current Assets - Current Liabilities. Measures company's solvency (liquidity). Abilities to pay short-term obligations. Negative number means they are insolvent.

Discount Rate

Fed sets the discount rate. Is the rate the main Fed Bank charges member banks for loans to meet overnight requirement. If the Fed lowers the discount rate the T-bill and Fed Funds rate will decline. When a member borrows from the Fed bank at the discount rate it is said to borrow at the discount window. Borrowing at this window may be an indication that the borrower is experiencing financial trouble because the main Fed is considered the lender of last resort.

Gross Domestic Product (GDP)

GDP is total national output of goods and services.

Coincident

Industrial production (GDP), personal income

Price/Earnings Ratio

Market Price/earnings per share. Compares price per share to annual earnings per share. Indicates how fairly priced the stock is relative to comparable stocks.

SEC Financial Reportings

Must file annual reports (10-Ks) and quarterly reports (10-Qs). Submissions are available to public on EDGAR

Cash Flow

Net Income + Current Depreciation + Amortization. Is actual cash generated by operations.

Treasury Bonds

US bonds with maturities ranging from 10-30 years, semi-annual interest, exempt from state and local taxes

Repurchase Agreement

a form of short-term borrowing for dealers in government securities

Collateralized Securities

a security that is backed by a specific asset or pool of assets

Coincident Indicators

are current indices (show the current phase of the cycle), and the most current the index, the more coincident. Coincident indicators are payroll employment (excluding agriculture), personal income (excluding social security), Industrial production (GDP), and manufacturing and trade sales

Economic Indicators

are statistical data showing trends in the economy. Important tools for identifying business cycles. Economists watch macroeconomic indicators to gauge health of economy.

Money Market Rates

are usually slightly higher than fed funds. Banks earn money market rates when they invest on short-term basis. Highly liquid with very short maturities. Include the following. Repo Rate: are created when a bank dealer sells collateralized securities with a promise to buy them back; Commercial Paper: is a short-term unsecured money market instrument issued by big corporations with great credit rating to finance short-term credit needs (maturities range from 30-270 days); Bankers' Acceptance: is a short-term fixed rate loan used to finance trade-related transactions; Certificates of Deposit (CD Rates): are time deposits with a fixed maturity date and fixed interest rate (in this scenario minimum investment is 100k)

Supply Side Economics

as long as the government does not meddle with the economy business will take care of itself. Growth is achieved by tax cuts and deregulation

GNP

broader measure of economic activity. Includes GDP plus income earned by residents from overseas minus income earned within the domestic economy by overseas residents. Shifted to GDP as primary measure in 1991

Broker Call Loan Rate

broker call loan rate is interest rate that banks charge b/d for money that they lend to margin account investors

Top Of Balance Sheet

companies most liquid assets

Current Ratio

current assets/current liabilities. Another liquidity measure. Number greater than 1 means the company can pay its short-term obligations with current assets.

Maturity Date

date a term or dollar bond pays par value where remaining principal and interest are due

National Bureau of Economic Research (NBER)

determines peaks and troughs. Founded in 1920. Private nonprofit that conducts economic research.

Goodwill

difference between price paid for asset and market value

Interest Rates

directly affect cost of doing business. When FRB sells securities it removes money from the supply which causes rates to rise. As rates rise the yield curve turns from positive and upward sloping to inverted and negative. Means short-term rates are higher than long-term debt yields draws investos away from long-term investments in equities and bonds to short-term money market instruments. A recession provides the cure for inflation. recession followed by recover, then prosperity, then expansion and then theres inflation whcih causes another recession.

P/E Ratio

dividing price per share of stock by earnings per share

Dividends

earnings distributed to stockholders

Contract Phase

economic activity is in decline

Keynesian Theory

economic theory that advocated using fiscal policy to jump-start economy. Believes economy runs at an equilibrium level that is determined by income, spending, and aggregate demand. Believed if people are out of work they do not consume or spend money so government has to increase spending

Expansion Phase

economy is prospering and growing

Pegged or Fixed Stystem

exchange rate is set and artificially maintained by government. Rate will be pegged to another country's currency. Rate will not fluctuate from day to day. To keep rate stable national bank must hold large reserves of foreign currency to mitigate changes in supply and demand. If a demand were tom happen to drive up rate national bank would release currency to meet demand. Also can buy up currency or lower it. If countries are immature or have unstable systems they can use it.

Federal Funds Rate

fed funds rate is slightly higher and is most sensitive money market indicator. First rate to be affected by changes in discount rate. Rate that banks charge each other for overnight borrowing. Federal funds rate is average. Have nothing to do with the Fed directly.

Floating Currency

floating exchange rate is determined by supply and demand forces in the market. Floating rates are considered more efficient because the market will automatically correct the rate to reflect inflation and other economic forces. Economies with table economic markets will use floating system

Consumer Price Index (CPI)

gauges inflation by measuring costs in constant dollars. Is defined as too many dollars chasing too few goods and services

Recession

generally accepted definition is two consecutive quarters (6 months) of a decline in GDP.

Yield Curve

graph depicting relationship between yields on short and long-term bonds

International Economic Factors and Currency Exchange Rates

if interest rates in the US are higher than foreign rates foreign investors will want to invest in US dollars making it stronger which leads to exchange rate to increase. Strong US dollar makes foreign goods more affordable which leads to more imported goods and less exported.

Net Operating Income

income after subtracting operating expenses related to selling, general and administrative, and depreciation and ammortization

Net Income

income resulting from operations and financing activities after taxes

Leading

initial claims for unemployment insurance, S&P 500, building permits and private housing, manufacturers' new orders

Currency Risk/Exchange Risk

is a form of risk that originates from changes in relative valuation of currencies which can influence overall investment returns. A security has exchange rate risk when market value is denominated or its interest and dividendsa re paid in a foreign currency.

U.S Balance of Payments (BOP)

is an accounting of country's international transactions over a specified period of time, typically quarter or year. Sum of all transactions in US and rest of the world. Any transaction flowing into country is a credit to BOP and anything leaving is credit. BOP measurers country's economic position. Indication of rising or falling currency values

Reserve Requirement

is an overnight cash reserve that each Fed member bank must maintain each night. Most powerful tool. FRB will raise requirement to tighten money supply or tighten to increase. Each night member banks calculate the requirement. If it is short it must borrow cash from another member or borrow from the main Fed in NY. Power of the reserve requirement is through ripple effect where impact is greater than initial impact. If a member bank is short they must borrow from another and the federal funds rate (Short-term interest rate) is the rate member banks charge each other for overnight loans. Federal funds rate is average interest rates member banks charge each other for overnight loans and is very volatile because it can change overnight. Fed's Federal Open Market Committee (FOMC) sets a target federal funds rate and conducts OMO to move rates toward target. Holds eight scheduled meetings a year to assess stance on monetary policy.

Monetary Policy

is controlled by the Fed. Federal Open Market Committee (FOMC) is top monetary policy-making. By raising or lowering short-term interest rates it indirectly controls inflation and employment. Primary focus is to promote price stability and full employment. If Fed believes it is growing too quickly it will tighten money supply which causes interest rates to rise. Conversely it will expand and lower interest rates to speed economic growth.

Depression

is defines as 8 consecutive quarters (24 months) of decline. Decline phase ends when the economy bottoms out. Bottom is called trough. At trough economy begins to expand again

Exchange Rates

is rate at which one currency can be exchanged for another.

Prime Rate

is the interest rate that banks charge most creditworthy commercial borrowers for unsecured loans. It is the lowest rate for commercial loan and based on federal funds rate. Base most interest rates for retail borrowers on prime rates. When prime rate increases so does rates on mortgages and automobiles and credit cards. Rates on loans of these types are described of being prime plus which means the prime rate plus another percentage that is based on borrower's credit rating

Spot Exchange rate

is used when selling a fixed amount of one currency to purchase another currency. is current rate of exchange or rate that they can be exchanged at immediately

Current Liabilities

liabilities that corporation must pay in short term usually 30 to 60 days

Money Supply

money supply is the total stock of money circulating in US economy. Includes currency, and deposits held by the public at commercial banks. M1: cash and demand deposits (such as checking accounts) *most liquid. M2: M1 plus savings accounts and some money market funds. M3: M2 plus institutional investments and money markets

Open Market Operations (OMO)

open market is secondary market. OMO is the purchase and sale of securities in the secondary market by the central bank to implement monetary policy. Most frequently used methods to implement monetary policy. By adjusting the level of reserve balances in the banking system the Fed can offset or support permanent seasonal or cyclical shifts in the supply of reserve banks which affect short-term interest rates. If the Fed is buying Treasuries they are putting money into the economy. When FOMC buys securities from member banks they receive credit which allows the banks to make more loans which lowers interest rates. When the Fed sells Treasuries they are pulling money out of economy as sales are charged against the Fed reserve banks which reduce their ability to make loans which raises rates.

Stagflation

period during recovery where there is no growth but there is inflation and high interest rates

Balance Sheet

provides a snapshot of company's assets, liabilities, and shareholder's equity over a specific point in time

Income Statement

provides a summary of a company's income and expenses over a period of time (usually a year)

Discount Rate

rate is the lowest rate. Set by the Fed and rate it charges member banks for overnight loans to meet reserve requirement

Business Cycle

recurring patterns of expansion and contraction in the economy.

Fiscal Policy

refers to tax and spending policies of the government. Set by President and Congress. Focus is stable economic growth and high employment. Federal taxation and spending are primary tools. Congress can lower taxes to increase activity or decrease to lower. Government can increase spending on projects, military, or social programs to stimulate economy.

Lagging Indicators

reflect historical data. Indicate status of the economy in the past few months and include average length of unemployment (in weeks), inventories to sales ratio (manufacturing and trade), labor cost per unit of output (manufacturing), average prime rate, commercial and industrial loans, Consumer Price Index (CPI) for servides

Cash Flow Statement

shows a company's inflows and outflows of cash over a specified period of time

Leading Indicators

signal a turning point in the business cycle in advance of any change in aggregate economic activity and include the following, average weekly hours worked (manufacturing), average weekly initial unemployment insurance, manufacturers' new orders (consumer goods and materials), ISM (Institute for Supply Management new order index, Manufacturers' new orders (nondefense capital goods, excluding aircraft), building permits, S&P 500, leading credit index, Interest rate spread (10-year Treasury bonds less federal funds). S&P 500 is a big indicator.

Economy Cycles

starts with an expansion phase. Inflation is a common symptom of the expansion phase. Phase culminates at the peak (if it lingers it is considered stagflation where prices rise with no growth). Decline follows the peak (sometimes accompanied by deflation). Deflation is period of falling prices where there are too few dollars chasing too many good and services.

Amortization

the gradual reduction in the value of an intangible asset

Paid-In Capital Surplus

the total amount over par value that investors paid when purchasing the common shares from the corporation. Companies assign a par value to stock offered in some cases there are tax advantages available when a value is not assigned making it a no-par stock

Debt/Equity Ratio

total liabilities/stockholders equity.

Bankruptcy

when a company files they follow the right side of the balance sheet from top to down to liquidate

Recession or Contraction

when moving from peak to troguh

Expansion

when moving from trough to peak