Investments Final Exam
Remember, active managers must overcome
1-2% transaction and management costs.
There is a
3 year work requirement for this credential
Assumptions of technical analysis
A. Market value or price is solely a function of supply of an investment, how many shares, bonds or units are available.
CHFC
Advanced financial planning for individuals, professionals, and business owners.
Active Portfolio Management
An attempt to outperform, on a risk-adjusted basis, a passive benchmark. Choosing the benchmark, sometimes called the normal portfolio is critical. The benchmark must reflect the objectives and constraints of the client.
Assumptions of technical analysis
B. The supply/demand relationship is governed by rational factors such as fundamentals and by irrational factors such as emotions.
Contrary Opinion Rules
Based on the theory that most investors are wrong most of the time. Goal is to determine when extreme bullishness or bearishness exists, and then to trade in the opposite direction.
Sampling
Buy a representative sample of stocks that comprise the index. Fewer stock transactions result in lower costs. However, performance will not track as closely.
Assumptions
C. Disregarding minor fluctuations, the prices for investments, such as individual securities and market indexes, move in trends that persist for appreciable lengths of time.
Chartered Financial Planner
CFP
The investor's mindset is
CRITICAL
Insurance agents can earn:
Chartered Life Underwriter (CLU) and Chartered Financial Consultant (CHFC)
The services and products that comprise the industry are as follows:
Commercial banking, consumer banking, trust, income tax prep, life insurance, health insurance, property and casualty insurance, business mgmt consulting, estate planning, cash mgmt, investment mgmt, education planning, and retirement planning
Assumptions cont.
D. Trading volume is important because it measures investor interest or enthusiasm. Therefore, if a stock declines on light volume that is much better than if it declines on heavy volume. So, you must consider price changes and related trading volume to assess the significance of trading situations.
More Assumptions
E. Technicians see NO need to study fundamentals, such as economic data or company variables, to estimate future values. They believe that the market is its own best predictor.
3 Techniques for constructing a passive index portfolio:
Full replication Sampling Optimization Programming
How an investment portfolio fits into the overall financial plan for an investor is an important consideration for a portfolio manager.
If a portfolio to be managed represents a relatively small portion of an investor's overall wealth, then the manager can take on more risk if the client is agreeable.
Mutual Fund Cash Positions
If mutual funds are holding a lot of cash because they are bearish (12% of portfolio), then it is time to buy because mutual funds are wrong most of the time. If they are holding less than 8% cash because they are bullish, then sell.
Moving Averages cont.
If the current price breaks up through on heavy trading volume and moves above the 200 day average, this is considered to be a bullish trend reversal. If the overall price trend has been up, the current price will lie above the 200 day moving average. If the price breaks down through this on heavy trading volume, it is considered to be a bearish trend reversal.
Odd lot and short sales
Individuals tend to buy in small quantities. If the volume of small trades is high, that means small investors are trading and they are WRONG most of the time. SO if they are BUYING you should SELL and vice versa.
Rotation
Keeping funds invested in stocks, but shifting into different economic sectors, industries, or investment styles based on expectations of near-term pricing trends. This strategy incorporates the top-down method of equity investing (economy, then industry, then company)
There are 3 exams:
Level 1 given in Dec. and June Level 2 and 3 given annually in June There is a 4 year work experience for this credential.
Series 65
License for people who are compensated by means other than sales commissions. This is what financial planners and portfolio managers hold.
3 Basic Methods of Active Management
Market Timing Rotation Bottom-Up stock picking
Critics charge that studies do NOT support technical analysis.
Most studies have not validated technical trading rules. Tech. Analysts do not believe that anyone can consistently get new fundamental information and process it quickly and correctly. A major advantage of technical analysis is that it does not rely on historic financial statements.
Bear Market
One that is on the decline. Downward trend.
Value Stock Investing (style)
Primary focus is stock valuation (p/e, price/book, price/cash, price/sales, dividend yield) Investors look for stocks that have declined in value to the point that the current stock price does not reflect the value of the company's assets or the company's potential earnings, assuming an average operating environment. Investors looking for a catalyst at a company, like a management change or an acquisition, to turn around negative trends. Biggest risk of a value stock is that a cheap stock (low p/e or price/book) stays cheap because the company is unable to improve its fundamentals (a value trap).
Bottom-Up stock picking cont.
Screen the database to find companies/ stocks that meet these criteria in order to narrow the list to a manageable number. Then you complete you analysis by further evaluating individual company situations. Sometimes managers formulate quantitative trading rules and run them in historical contexts to determine their efficacy. This is called back-testing.
Market Timing
Shifting funds in and out of stocks, bonds, and money markets based on broad market forecasts and estimated risk premiums. The problem with this approach is that stock prices rise and fall in concentrated moves. Therefore, missing a few key days in the market can drastically affect returns. Very few managers are right often enough to render this method worhtwhile.
The following are guidelines that should clarify the issues:
Since specialists have greater product knowledge, it makes sense to use them to address specific needs. Use a financial planner to get a basic understanding of your general financial needs.
The next step is to choose which industries to over-weight and which to under-weight
Start by reviewing the industry weightings in the S&P 500 index. The decision on portfolio weighting is a function of economic forecasting and individual company analysis.
Series 63
State license that must be passed by all holders of series 6 and 7
Both type of investors need to be saved from
THEMSELVES
Technical and fundamental analysts disagree on the extent of the influence of irrational factors.
Technicians believe that emotional responses can drive a security's price for an extended period of time. Fundamental Analysts believe stock prices adjust very quickly to new information. Technicians believe that new information is slowly disseminated through a network of declining investor sophistication.
Moving Averages
There are moving averages for several time periods, but the 200 day moving average is the one most commonly used. Moving averages are computed for indexes and for individual securities. If the overall price trend is down, the current price of an index or a stock price will lie below its 200 day average.
Follow the smart money
There are only two type of smart investors - insiders and specialists. The rule is to do what the "smart" guys are doing.
Some investors are risk-seekers
These investors require less diversified portfolios.
Some investors are risk-averse
They typically want a portfolio that is less risky than what is optimal.
Optimizing Programming
Uses computers and historical information on securities price changes and correlations to build a portfolio that will track an index. The drawback is the software relies on historical information and relationships that may not hold in the future.
Bottom-Up Stock Picking
Using computer databases to quantitatively screen for stock investment opportunities. Establish criteria such as: valuation (p/e, p/book value) Size (market capitalization or value) Company fundamentals (sales, earnings, or leverage) Stock price movement (momentum, relative strength or beta) Sensitivity to economic variables
If you want advice on mutual funds, or if you want to buy some individual stocks or bonds use
a broker
Topics Include:
accounting, statistics, economics, equity analysis, fixed income analysis, ethics, derivatives, alternative investments, and portfolio management.
Full Replication
all of the securities in the index are purchase in proportion to the weights of the index. Transaction costs and dividend reinvestment are problems.
Series 6
allows selling of packaged products like mutual funds, variable annuities, and unit investment trusts
To give finacial advice and to get compensated for doing so and/or to execute financial transactions,
an individual must be licensed. License needed are determined by the type of securites being sold, the method of compensation,a nd the scope of services to be provided.
Determine up front how your adviser(s)
are going to be compensated.
If you are going to have an on-going relationship with an adviser,
ask how many clients each manager has. If an adviser has more than 50 clients he/she my not give you the attention you deserve.
The major types of companies that provide services are:
banks, financial planning companies, insurance companies, accounting firms, law firms, brokerage firms, money management firms, mutual fund companies, hedge funds, and private equity firms.
Investment Advisory Opinion
bearish attitudes of a large portion of advisory services is a bullish signal and vice versa.
Series 7
broadest license that authorizes the holder to sell virtually any type of investment.
Money managers are compensated either by:
charging commissions on the investment vehicles that are purchased, or by charging commissions on the investment vehicles are purchased, or by charging a quarterly fee that is based on the value of the portfolio and the asset classes that are in the portfolio
Financial planners / asset managers are compensated by:
charging for the time they spend to develop a financial plan; charging commission for the investment vehicles they recommend; charging a quarterly fee based on the value of the portfolio and the asset classes in the portfolio.
Series 66
combines series 63 and 65
CLU
comprehensive insurance designation.
A primary way to ratchet up risk is
concentrate investments
With so many kinds of companies offering financial products and services,
consumers are often confused about how to choose the right providers.
Growth Stock Investing (style)
focus is potential for earnings growth. Growth investors attempt to analyze the products/services a company has to offer and the potential market for these products/services. Visionaries/Dreamers who do not require instant gratification. not very concerned with stock valuation measures such as P/E and price-to-book Feel the company's growth will drive the stock price and that the fundamentals will eventually catch up to high p/e's or price/book ratios.
Series 3
for futures and options
Chartered Financial Analyst (CFA)
for people who want a career in securities analysis and/or portfolio management.
To become a CFP, one must:
have a bachelor's degree and complete college level courses in: principles of financial planning; insurance planning; investment planning; income tax planning; retirement planning; estate planning; communication; professional conduct.
Use a money manager to oversee your investments once you have determined
how much you are going to save and invest.
Money managers usually specialize in using
individual stocks and bonds or in using mutual funds.
CLU Covers:
insruance planning, individual life insurance, insurance law, estate planning, key man life, income taxes, group benefits, retirement, investments, disability insurance.
Get insurance advice and product from
insurance agents that specialize in each area of insurance.
One key to success is to stick with an active management style through good and hard times, because
investment styles cycle in and out of favor.
Technical Analysis
involves the examination of past market data such as prices and trading volume (charting), or recent trading activity by targeted groups of investors, like insiders or individual traders (sentiment), as a basis to estimate future market prices / moves for market indexes and individual securities. NOT LOOKING AT FUNDAMENTALS
Passive portfolio management
long-term buy and hold strategy designed to match the performance of a targeted index. This strategy should be adopted if one believes the market is efficient and that investors cannot consistently outperform it.
Bull Market
market that is on the rise. Sustained increase in market share prices.
Breadth of the Market
measure the number of issues that have advanced and declined each day. Because of price-weighted or value-weighted valulations used for market indexes, the indexes can be moving in one direction, but the majority of stocks can be moving in the opposite direction. If such a divergence exists, look for the index to change direction in the near term.
Technicians develop trading rules based on
observations of historic market trading and/or sentiment data. Many investors, newsletters, and major investment firms employ technical analysis.
CFP
often earned by insurance agents and by investment professionals who work with individual clients.
Examples include focusing on:
one geographical area, like the US, on on size sector, like large medium or small company stocks, and on one style like growth or value.
Each type of service has an
optimal fee structure. For ex. if you want a financial plan, pay a planner by the hour, or bu the plan to do one, but do no buy specific products from a planner.
Brokerage firms: Sales Force
otherwise known as brokers, account executives, financial consultants, or financial advisors. These are the people who market hte products and services offered by brokerage firms, as well as offer up their own counsel.
The financial Industry Regulatory Authority (FINRA)
oversees all licensing, record-keeping, and disciplinary functions.
There are two basic equity portfolio management approaches:
passive active (DO NOT CONFUSE APPROACHES WITH STYLES)
Money / Investment managers
people/firms are focused on investment management. Some basic financial planning is involved in order to formulate appropriate investment policies. But, the focus is on setting asset allocations and selecting investment vehicles.
Financial planners / asset managers:
provide all of the financial services listed above, but typically do NOT specialize in any of them. They usually start at brokerage firms or insurance companies, and see the money making potential of offering a wide assortment of financial products.
Once a license is earned, the holder must
register with either a brokerage firm or with a registered investment advisory firm, or with the state securities department, or with the SEC. Federal and state governments have developed comprehensive regulations that are designed to enforce fair dealing, suitable investments, and secure and complete record keeping.
Clients typically include
retirement plans wealthy individuals endowments and foundations
if an investor has a long time period to invest they should focus on
small sector stocks
Brokerage firms usually favor people with
strong marketing skills for these jobs. Financial knowledge is secondary because it can be taught or provided by others within the organization.
Once asset allocation has been determined:
the next step is to decide how to allocate funds into large, medium, and small company stocks. Investor risk and return parameters and market conditions are the primary considerations.
If however, the portfolio constitutes a large portion of an investor's wealth,
then the manager should try to diversify into all of the groups mentioned above.
It is important for their compensation to be structured so
they are motivated to do what is best for the client.
If you want to trade individual securities,
use a discount broker. If you are doing your own research or a full service broker that is paid per transaction if you need some advice.
If you have a significant sum that needs to be managed in a comprehensive portfolio,
use a money manager that charges a fee that is based on the value of the portfolio and who works within the context of a detailed set of investment policies.
Get a good feel for how people charge,
what it is they are selling, and what their experience and credentials are.
CBOE - put/call ratio
when the put/call ratio is high, that means most investors are bearish and are buying puts. This is a BULLISH signal.
If a financial planner gets a high commission for using a specific mutual fund,
won't the planner be tempted to use that fund?
