Unit 3: Economic Factors and Business Information.
Current ratio
A balance sheet computation involving current assets and current liabilities.
Monetarists Belief
A belief system to which they believe that the economy and inflation are best controlled through the management of the money supply rather than through fiscal policy stimulation.
Book Value Per Share
A fundamental analyst is described as one who focuses on the company's books. The calcula- tion is almost identical to one we have already studied—NAV per share of an investment company. Expressed as a formula: (tangible assets - liabilities - par value of preferred) / shares of common stock outstanding
consumer price index (CPI)
A measure of the general retail price level. By comparing the current cost of buying a basket of goods with the cost of buying the same basket a year ago, we can get an indication of changes in the cost of living. In doing so, the _____ figure attempts to measure the rate of increase or decrease in a broad range of prices, such as food, housing, transportation, medical care, clothing, electricity, entertainment, and services. The _____ is published on a monthly basis by the Bureau of Labor Statistics (BLS) and is the most commonly used measurement of the rate of in ation.
Standard deviation
A measure of the volatility of an investment's projected returns, computed by using historical performance data. It is a statistical term that measures the amount of variability or dispersion around an average.
REGULATORY RISK
A sudden change in the regulatory climate can have a dramatic effect on the performance or risk of a business and entire business sectors. Overreaching bureaucrats and court judgments that change the rules a business must comply with can devastate individual companies and industries almost overnight. A very common example of this is rulings by the EPA (Environmental Protection Agency), which can sometime play havoc with the oil and gas industry. Investments that could be affected by regulatory changes include so-called "green" industries (and those that tend to pollute), oil and gas exploration, airlines, and pharmaceutical manufacturers. The most common example of this risk comes from governmental agency attempts to control or influence product prices or the competitive structure of a particular industry through the passage and enforcement of regulations.
Reinvestment Risk
A variation of interest rate risk. This risk is associated as to interest and principal. An investor receiving a periodic cash flow from an investment, such as interest on a debt security, may be unable to reinvest the income at the same rate as the security itself is paying. For example, if an investor purchased a bond with a 10% coupon and several years later comparable securities were only paying 7%, the investor would not be able to compound the investment at the original rate. Zero-coupon bonds avoid this risk because there is nothing to reinvest.
Cash Flow From Financing Activities
All financing activities deal with the flow of cash to or from the business owners (equity nancing) and creditors (debt nancing). For example, cash proceeds from issuing stock or bonds would be classi ed under nancing activities. Likewise, payments to repur- chase stock (treasury stock) or to retire bonds and the payment of dividends are nancing activities as well. Will only use items from the balance sheet.
Earnings Per Share (EPS)
Among the most widely used statistics, this measures the value of a company's earnings for each common share: = (earnings available to common) / ( number of shares outstanding)
current assets
An asset that appears on a balance sheet that includes all cash and other items expected to be converted into cash within the next 12 months, including the following: Cash and equivalents; Accounts receivable; Inventory; Prepaid expenses.
Growth Industries
An industry is considered in its growth phase if the industry is growing faster than the economy as a whole because of technological changes, new products, or changing consumer tastes. Social media and bioengineering are examples of current _______ industries. Because many growth companies retain nearly all of their earnings to nance their business expansion, growth stocks usually pay little or no dividends.
technical analysis
Analysis that relies on charts of past performance to forecast future price movements.
Fixed assets
Assets that appears on a balance sheet that are property, plant, and equipment. Unlike current assets, they are not easily converted into cash. These assets, such as factories, have limited useful lives because wear and tear eventually reduce their value. For this reason, their cost can be depreciated over time or deducted from taxable income in annual installments to compensate for loss in value.
ALPHA
Basically, it means that an investment performance is better than what would have been anticipated, given the risk in terms of volatility that was taken. (total portfolio return - risk-free rate) - (portfolio beta × [market return - risk-free rate]) Example: Portfolio return 10% Risk-free rate 2% Market return rate 8% Beta 1.2 The computation of ____ would be: (10% - 2%) = 8%. Then (1.2 times [8 - 2]) which is 1.2 × 6 = 7.2. Plug that into the formula, giving us 8 - 7.2 or an alpha of .8 (positive alpha)
FORM 10-Q
Because one year between filings is a long time and a lot can happen quickly, we also have this form, and it is led quarterly (Q for quarterly). It contains unaudited financial statements and for all but the companies with a public float of less than $75 million, it must be led within 40 days of each of the first three fiscal quarters of the year (no filed at the end of the fourth quarter—that information is taken care of by the ling of the 10-K).
Changes in reserve requirements
By raising the amount of funds commercial banks must leave on deposit with the Fed, the amount of money available for these banks to lend out is decreased. This shrinkage of the money supply generally translates into higher interest rates. The reverse is true when reserve requirements are eased. Important: Although the Fed's actions certainly impact all interests rates, you'll need to know that the Fed does not set the prime rate -- that is done by the major commercial banks.
Defensive industries
Companies in these industries are least affected by normal business cycles. These companies generally produce nondurable consumer goods, such as food, pharmaceuticals, tobacco, and energy. Public consumption of such goods remains fairly steady throughout the business cycle.
expansion
If the yield curve between corporate bonds and government bonds is narrowing, an economic ______ is expected and investors are willing to take risks. They will sell government bonds to buy higher-yielding corporates.
recession
If the yield curve spread between corporate bonds and government bonds is widening, a ______ is expected. Investors have chosen the safety of government bonds over higher corporate yields, which occurs when the economy slows down.
Cash Flow From Investing Activities
Investing activities include transactions and events involving the purchase and sale of securities, land, buildings, equipment, and other assets not generally held for resale as a product of the business. It also covers the making and collecting of loans. Will only use items from the income statement
Footnotes
In a financial statement, these identify significant financial and management issues that may affect the company's overall performance, such as accounting methods used, extraordinary items, pending litigation, and management philosophy.
double-entry book- keeping
Know by, every financial change in a business requires two offsetting changes on the company books. For example, when a company pays a previously declared cash dividend, cash (a current asset) is reduced while dividends payable (a current liability of the same amount) is eradicated. This results in no change to working capital or net worth because each side of the balance sheet has been lowered by the same amount.
depression
Longer, more severe contractions. the economy is in a _______ when a decrease in GDP last for six consecutive quarters.
balance of payments
Measures all the nation's import and export transactions with those of other countries for the year. These accounts contains all payments and liabilities to foreigners (debits) and all payments and obligations (credits) received from foreigners.
expansionary
Monetary policy is said to be _______ (or accommodative or easy) when the central bank increases the quantity of money and credit in an economy.
FINANCIAL RISK
Often confused with business risk (it is similar), this risk relates primarily to those companies that use debt financing (leverage). An inability to meet those debt obligations could lead to bankruptcy and, once again, total loss for the stockholders. For that reason, this is sometimes called credit risk or default risk.
Revenues
One of the three primary components of an income statement. It indicate the firm's total sales during the period (the money that came in).
Pretax income
One of the three primary components of an income statement. This is the amount of taxable income, is operating income less interest payment expenses.
cost of goods sold (COGS)
One of the three primary components of an income statement. This is the costs of labor, material, and production (including depreciation on assets employed in production) used to create nished goods.
Leading indicators
One of three broad categories of economic indicators. These are economic activities that tend to turn down before the beginning of a recession or turn up before the beginning of a business expansion. These indicators are used by economists to predict the future direction of economic activity four to six months hence. They include the following: Money supply, Building permits (housing starts), Average weekly initial claims for unemployment insurance, Average weekly hours, manufacturing, Manufacturers' new orders for consumer goods, Manufacturers' new orders for nondefense capital goods, Index of supplier deliveries—vendor performance, Interest rate spread between 10-year Treasury bond and the federal funds rate, Stock prices (e.g., S&P 500), Index of consumer expectations
Quick Asset Ratio (Acid Test Ratio)
Sometimes it is important for the analyst to use an even stricter test of a company's ability to meet its short-term obligations. This ratio uses the company's quick assets instead of all of the current assets. Quick assets are current assets minus the inventory. Then divide these quick assets by the current liabilities to arrive at the quick ratio.
yield curve
Plotted on a graph, the difference between short- and long-term interest rates normally reflects an upward sloping line. When it is an upward sloping curve it is a positive, or normal, ________. Long-term interest rates are normally higher than short-term rates for a number of reasons. Lenders must be compensated for the: time value of money; reduced buying power of money resulting from inflation; increased risk of default over long periods; and loss of liquidity associated with long-term investments. A normal, or ascending, _____ occurs during periods of economic expansion—it generally predicts that interest rates will rise in the future. A flat ______ occurs when the economy is peaking, and no change in interest rates is expected.
CURRENCY OR EXCHANGE RATE RISK
Purchasers of foreign securities, whether through direct ownership or ADRs, face the uncertainty that the value of either the foreign currency or the domestic currency will fluctuate. For example, as of the date of publication, the euro is down almost 35% against the U.S. dollar in the past 12 months. As a result, someone who invested one year ago in the stock of a company domiciled in the eurozone will find that, even if the stock has remained level or slightly higher on its local market, in terms of dollars, the value has fallen.
gross operating profit
Revenues - cost of goods sold (COGS)
BUSINESS RISK
This is an operating risk, generally caused by poor management decisions (e.g., Edsel, New Coke, or more recently, RIMM failing to pay attention to the success of the iPhone— remember when everybody had to have a Blackberry?). At best, earnings are lowered; at worst, the company goes out of business and common stockholders probably lose their entire investment.
Open market operations
The Fed buys and sells U.S. Treasury securities in the open market under the direction of the Federal Open Market Committee (FOMC). When Treasuries are purchased, it adds to the money supply. This is because the FOMC is purchasing these securities from commercial banks causing the banks to have greater reserves. When the FOMC sells Treasuries, the money supply is reduced because funds are pulled out of the bank's reserves to pay for those securities. Important: Although the Fed's actions certainly impact all interests rates, you'll need to know that the Fed does not set the prime rate -- that is done by the major commercial banks.
Debt-to-Equity Ratio
The best way to measure the amount of financial leverage being employed by the company is by calculating this. For example, imagine current assets of $20 million, fixed assets of $50 million, and total liabilities of $45 million (of which $10 million is considered long-term). This is computed by dividing the issuer's long-term debt by their total capitalization. Total capitalization is the company's net worth (assets minus liabilities) plus the long-term debt. In this example, the net worth is $70 million minus $45 million, or $25 million. Adding the long-term debt of $10 million results in total capital of $35 million. Divide the $10 million by that $35 million to arrive at 28.57%. As we point out in the LEM, this is really a misnomer—it should be called the debt to total capital ratio, but probably will not shown that way on the exam.
Range
The difference between the highest and lowest returns in the sample being viewed. For example, if we look at the numbers we used to determine median, we reorder the numbers: 4, 7, 8, 11, and 13. This makes the ____ 9 (13-4) and the mid-____ is 8.5, close to, but not the same as the median.
Geometric Mean
The mean of any given set of numbers (n) is obtained by multiplying all of them together, and then taking the nth root of them. For example, over the past five years, a stock has annual returns of 10%, 5%, 15%, 8%, and 12%. Its ____ mean is 9.36%. This is computed by multiplying 10 × 5 × 15 × 8 × 12 which equals 72,000 and nding the 5th root. TEST TOPIC: The arithmetic mean will always be higher unless the numbers being used are the same (e.g. 5, 5, 5), reason is because the ____ mean uses imputed compounding.
prime rate
The most preferential interest rate on corporate loans at large U.S. money center commercial banks. Each bank sets its own ______, with larger banks generally setting the rate that other banks follow. Banks lower their _______ when the Fed eases the money supply and raise rates when the Fed contracts the money supply.
real rate of interest
The nominal rate of interest minus the expected rate of inflation.
Core CPI
The pricing and inflation index for all items, less food and energy, is often unofficially referred to as the _____, a term created by the media and not the Bureau of Labor Statistics. The reasoning behind excluding food and energy prices when computing core inflation is because of their high short-term volatility.
Sovereign risk
This risk ratings capture the risk of a country defaulting on its commercial debt obligations. Headlines were made several years ago when the credit rating of the United States was reduced from AAA. That is an example of the perceived increased ______ that existed at the time. More recent examples with Greece point out that even countries can have dif culty paying their obligations.
Fundamental analysts
These analysts obtain information from corporate financial statements as well as other relevant sources. These analysts are concerned with the earnings ability of corporations derived from corporate financial statements.
Coincident, or current, indicators
These are economic measurements that change directly and simultaneously with the business cycle. These include the following: Nonagricultural employment; Personal income, minus Social Security, veteran benefits, and welfare payments; Industrial production; Manufacturing and trade sales in constant dollars
Lagging indicators
These are measurements that change four to six months after the economy has begun a new trend and serve to confirm the new trend. These indicators help analysts differentiate long-term trends from short-term reversals that occur in any trend. These include the following: Average duration of unemployment; Ratio of consumer installment credit to personal income; Ratio of manufacturing and trade inventories to sales; Average prime rate; Change in the CPI for services; Total amount of commercial and industrial loans outstanding; Change in the index of labor cost per unit of output (manufacturing)
Special situation stocks
These are stocks of a company with unusual profit potential resulting from nonrecurring circumstances, such as new management, the discovery of a valuable natural resource on corporate property, or the introduction of a new product. In most cases, the phase of the business cycle is irrelevant to this company's near-term prospects.
Intangible assets
These assets are nonphysical properties, such as formulas, brand names, contract rights, and trademarks. Goodwill, also an _____, reflects the corporation's reputation and relationship with its clients.
Constant dollars
These dollars are mathematically adjusted to remove the effects of inflation, so when economists compare the gross domestic product of one period with that of another, they measure economic activity rather than inflation.
Cyclical industries
These industries are highly sensitive to business cycles and inflation trends. Most ______ industries produce durable goods, such as heavy machinery and automobiles, as well as raw materials, such as steel.
countercyclical industries
These industries tend to turn down as the economy heats up and to rise when the economy turns down. Gold mining has historically been a _______ industry.
current liabilities
These liabilities are corporate debt obligations due for payment within the next 12 months. These include the following: Accounts payable—amounts owed to suppliers of materials and other business costs; Accrued wages payable—unpaid wages, salaries, commissions, and interest; Current long-term debt—any portion of long-term debt due within 12 months; Notes payable—the balance due on equipment purchased on credit or cash borrowed; Accrued taxes—unpaid federal, state, and local taxes. Under current accounting practice, deferred tax credits are treated as a liability.
Long-term debts
These liabilities are financial obligations due for payment after 12 months. Examples would include bonds and mortgages. These liabilities include mortgages on real property, long-term promissory notes, and outstanding corporate bonds.
Business cycles
These reflect fluctuations in economic activity as measured by the level of activity in such macroeconomic variables as the rate of unemployment and the GDP. They have 4 stages: Expansion, Peak, Contraction & Trough.
FORM 8-K
This form is used to report newsworthy events to the SEC, thereby making them available to the public. Included are items such as change in management, change in the company's name, mergers or acquisitions, bankruptcy lings, and major new product intro- ductions or sale of a product line. Usually filed within four business days of the occurrence. TEST TOPIC: One thing that would not trigger a _____ is the relocation of a wholly owned subsidiary. However, sale of that subsidiary would require a filing and that, like any other _____ filing, must be done within four business days of the event.
consumer price index (CPI)
This index reflects the average cost of goods and services (a market basket) purchased by consumers, compared with those same goods and services purchased during a base period, currently 1982-84. These statistics are published monthly by the Bureau of Labor Statistics (BLS). Mild inflation can encourage economic growth because gradually increasing prices tend to stimulate business investments. High inflation reduces a dollar's buying power, which can reduce demand for goods and services.
Financial leverage
This is a company's ability to use long-term debt to increase its return on equity. A company with a high ratio of long-term debt to equity is said to be highly ______. Stockholders benefit from this if the return on borrowed money exceeds the debt service costs. But this is risky because excessive increases in debt raise the possibility of default in a business downturn. In general, industrial companies with debt-to-equity ratios of 50% or higher are considered highly _________. However, utilities, with their relatively stable earnings and cash flows, can be more highly ________ without subjecting stockholders to undue risk. If a company is highly __________, it is also affected more by changes in interest rates.
INFLATION RISK (PURCHASING POWER RISK)
This is another systematic risk. Inflation reduces the buying power of a dollar (or whatever currency is used where you live). A modest amount of inflation is inherent in a healthy, growing economy, but uncontrolled inflation causes uncertainty among individual investors as well as corporate managers attempting to evaluate potential returns from projects. Fixed income securities are the most vulnerable to this risk; equity securities are historically the least susceptible.
Working capital
This is the amount of capital or cash a company has available and is a measure of a firm's liquidity, which is its ability to quickly turn assets into cash to meet its short-term obligations. Factors that affect _______l include: increases in working capital, such as profits, sale of securities (long-term debt or equity), and sale of noncurrent assets; and decreases in working capital, such as dividends declared, paying off long-term debt, and net loss. The formula is calculated as follows: current assets - current liabilities = _________.
capitalization
This is the combined sum of its long-term debt and equity secu- rities.
inflation inertia (also known as inertial rate of inflation or inertial inflation)(Test Term)
This is the concept that the rate of inflation does not immediately react to unexpected changes in economic conditions. Rather, it lags behind, sometimes for several quarters, before there is an effect. This is the persistent rate of inflation that continues at the same rate until an economic shock leads to a change. One of the results of this is that prices rarely go down. After all, what company wants to lower the prices of its goods or services and how many workers are willing to accept wage cuts? So, prices generally continue to advance, hopefully at a slow rate.
mid-range
This is the number that is exactly in the middle of the range.
Changes in the discount rate
This is the rate the Fed charges member banks when lending them money. Higher rates discourage borrowing, reducing the money supply with lower rates having an opposite effect. Important: Although the Fed's actions certainly impact all interests rates, you'll need to know that the Fed does not set the prime rate -- that is done by the major commercial banks.
capital structure
This is the relative amounts of debt and equity that compose a company's capitalization. Some companies finance their business with a large proportion of borrowed funds; others finance growth with retained earnings from normal operations and little or no debt. Corporations build this with equity and debt including the following four elements: Long-term debt; Capital stock (common and preferred); Capital in excess of par; Retained earnings (earned surplus);
Shareholder equity, also called net worth or owners' equity
This is the stockholder claims on a company's assets after all of its creditors have been paid. It is equal to total assets less total liabilities. On a balance sheet, three types are identified: capital stock at par, capital in excess of par, and retained earnings.
Dividend Payout Ratio
This measures the proportion of earnings paid to stockholders as dividends: (annual dividends per common share) / (earnings per share (EPS))
FORM 10-K
This report is a comprehensive overview of the company's business and financial condition and includes financial statements that have been audited by an independent accountant. Generally contain more detailed financial information than the annual report, while the annual report will have much more detail about the company itself and its future plans. TEST TOPIC: SEC rules provide that a company may provide share holders with a copy of this form instead of sending an annual report.
Market risk
This risk is measured by a security's beta. This risk cannot be diversified away. However, two strategies that might be used are (1) buy put options on a broad index, such as the S&P 500 (remember, put options become profitable when the underlying asset falls in price), or (2) sell short an ETF based on a broad index (remember, selling short generates a profit when the security falls in price). Furthermore, the longer the investor's time horizon, the better one is able to absorb this risk.
INTEREST RATE RISK
This risk is sometimes referred to as the market risk for bonds. Rising interest rates can be bearish for some common stock prices as well, particularly those of highly leveraged com- panies such as public utilities. Having a diversified portfolio of bonds won't help because an increase in interest rates will cause all bonds to decline in price. The longer the duration, the greater the _____ risk.
Country Risk
This risk monitors the political and economic stability of countries. Country risk evaluates the total investment risk of a country, such as risk of default on a bond, risk of losing direct investment, risk to global business dealings, and so forth, by both qualitative and quantitative values. As an example, one would give the qualitative factors a 70% weighting and combine it with three basic quantitative values (30% weighting).
LEGISLATIVE RISK
This risk results from a change in the law. And, because there is frequently a political agenda behind legislation, this risk is sometimes referred to as political risk, although most consider political risk to be of its own making. A governmental agency, state or federal, may pass certain regulations, but only a legislature can pass a law. Changes to the tax code are the most obvious legislative risks. It is common to lump together regulatory risk with this risk. An example of this risk is how the domestic boat-building business in the US was nearly wiped out in the 1990's after the government instituted a luxury tax for yacht purchases.
Capital stock
This stock includes preferred and common stock, listed at par value. Par value is the total dollar value assigned to stock certificates when a corporation's owners (the stock- holders) first contributed capital. Par value of common stock is an arbitrary value with no relationship to market price.
Inverted (Negative) Yield Curve
This yield curve can be the result of high current demand for money relative to the available supply. Short-term interest rates tend to be more sensitive to Fed policy than long-term rates. An ________ may occur because of a sharp increase in short-term rates. Therefore, you can expect that interest rates have rapidly risen and, according to most analysts, they will soon retreat. An _________ occurs when the Federal Reserve Board has tightened credit in an overheating economy; it predicts that rates will fall in the future.
UNSYSTEMATIC RISK
Unlike systematic risk which is non-diversifiable, these risks can be reduced through diversification. They are risks that are unique to the specific industry or business enterprise and would include things such as labor union strikes, lawsuits, and product failure. TEST TOPIC: The 5 primary ____ risks are: Business Financial Liquidity Political Regulatory
recessions
What Economists call mild short-term contractions. According to the U.S. Department of Commerce, the economy is in a ________ when a decline in real output of goods and services—the GDP—continues for two or more consecutive quarters.
Inflation
a general increase in prices as measured by an index such as the consumer price index (CPI). A global definition would be "a decrease in the value of the monetary unit." Increased in _____ drives interest rates higher and drives bond prices lower. Decreases in the ______ rate have the opposite effect: bond yields decline and bond prices rise.
Monetary expansion
a rapid increase in a nation's money stock in excess of the nation's growth rate.
trade surplus
an excess of one country's export over its imports and is reported as part of the balance of payments figures. Over time, an excessive _____ can lead to the strengthening of a country's currency.
trade deficit
an excess of one country's imports over its exports and is reported as part of the balance of payments figures. Over time, an excessive _____ can lead to the devaluation of a country's currency because the country will be converting, or selling, its currency to obtain foreign currency to pay for its increasing imports.
gross national product (GNP)
another measure of economic activity. In addi- tion to GDP, ________ includes the income a country's citizens earned abroad and excludes the income foreigners earned domestically. GNP measures the output generated by the country's citizens regardless of where they did so. Today, virtually all measurements are in GDP rather than GNP.
Expansion
characterized by increasing consumer demand for goods and services, possibly leading to an: increasing rate of inflation; and increasing industrial production, generally leading to a decreasing unemployment rate as hiring accelerates, falling inventories, rising stock markets, rising property values, and increasing GDP.
Troughs
characterized by: a change from negative to positive GDP growth rate; a high unemployment rate, increasing use of overtime and temporary workers; spending on consumer durable goods and housing may increase; and a moderate or decreasing inflation rate.
Peaks
characterized by: a decrease to the GDP growth rate; a decrease to the unemployment rate, but a slowdown in hiring; a slower rate of growth in consumer spending and business investment; and an increase to the inflation rate.
Contractions/recessions
characterized by: rising numbers of bankruptcies and bond defaults; decreasing hours worked, increasing unemployment rate; decreasing consumer spending, home construction, and business investment; falling stock markets; a decrease to the inflation rate; rising inventories (a sign of slackening consumer demand); and a negative growth rate for the GDP.
Gross domestic product (GDP)
expresses the total value of all final goods and services produced within the United States during the year. This includes personal consumption (by far the largest component), government spending, gross private investment, foreign investment, and the total value of net exports. If imports exceed exports, that negatively affects _____ and that net amount is subtracted in our computation. The _______ measures a country's output produced within its borders regardless of who generated it. To account for inflation, ______ is based on a constant dollar, currently the value in 2005. Net exports will lead to an increase in GDP.
Microeconomics
focuses on the economic behavior of narrowly defined units, such as households or business rms.
Supply-side economics
holds that supply creates demand by providing jobs and wages.
deflation
is a general decline in prices. Usually occurs during severe recessions when unemployment is on the rise.
cash flow
is net income plus depreciation expense for that year.
Macroeconomics
is the branch of economics that analyzes aggregates, such as the rate of growth in national economic output as measured by the gross domestic product (GDP), the rate of inflation, and unemployment.
Book value
is the company's theoretical liquidation value expressed on a per share basis.
Opportunity cost
is the foregone return, or the return given up, on an alternative investment. In economic terms, it is is defined as the highest valued alternative that must be sacrificed as a result of choosing among alternatives. More simply, one can invest in short-term Treasury bills incurring virtually no risk. That is the risk-free alternative that can be earned by basically doing nothing. Any return that deviates from the risk-free return represents your opportunity gained or lost.
Current Yield (Dividend Yield)
like the current yield on bonds, expresses the annual dividend payout as a percentage of the current stock price: (annual dividends per common share) / (market value per common share)
POLITICAL RISK
most attribute this risk to potential instability in the political underpinnings of the country (think of a coup). This is particularly true in emerging economies, but, as history has shown, political insurrections can occur even in highly developed societies.
Excessive demand
occurs when aggregate demand exceeds the aggregate supply and prices rise.
budget deficit
occurs when government expenditures exceed tax revenues.
budget surplus
occurs when government tax revenues exceed expenditures
Capital in excess of par
often called additional paid-in capital or paid-in surplus, is the amount of money over par value that a company received for selling stock.
balance sheet
provides a snapshot of a company's financial position at a specific point in time. It identifies the value of the company's assets (what it owns) and its liabilities (what it owes). The difference between these two figures is the corporation's owners' equity, or net worth. Assets = liabilities + owners' equity; or Assets - liabilities = owners' equity.
price-to-earnings (PE) ratio
provides investors with a rough idea of the relationship between the prices of different common stocks compared with the earnings that accrue to one share of stock. Speculative companies typically have very high or very low ____ ratios. Growth companies have higher ____ ratios than do cyclical or defensive companies.
Fiscal policy
refers to a government's use of spending and taxation to influence economic activity. The budget is said to be balanced when tax revenues equal government expenditures.
Monetary policy
refers to the central bank's actions that affect the quantity of money and credit in an economy in order to influence economic activity.
Cyclical
refers to whether the industry is affected by business cycles of the economy. Items such as luxuries and large-ticket items (autos, homes, appliances) are normally ______. Food and tobacco are normally not ______.
price-to-book ratio
reflects the market price of the common stock relative to its book value per share. Book value is the theoretical value of a company (stated in dollars per share) in the event of liquidation and bears no relationship to the stock's current trad- ing price.
Earnings per share
relates only to common stock; it assumes preferred dividends were paid.
Retained earnings
sometimes called earned surplus or accumulated earnings, are pro ts that have not been paid out in dividends. These represent the total of all earnings held since the corporation was formed less dividends paid to stockholders. Operating losses in any year reduce the ______ from prior years.
income statement
sometimes referred to as the profit and loss or P&L statement, summarizes a company's revenues (sales) and expenses for a scal period, usually quarterly, year to date, or the full year. It compares revenue against costs and expenses during the period. Fundamental analysts use this statement to judge the efficiency and profitability of a company's operation. Just as with the balance sheet, technical analysts gener- ally ignore this information—it is not relevant to their charting schemes. Think of simply like this: the ______ shows (1) what came in, (2) what went out, and (3) how much is left (before taxes).
interest rate
the cost of borrowing money. The rate a borrower pays for funds is determined by the supply and demand for loanable funds, the credit quality of the borrower, and the length of time for which money is borrowed. In addition, the cost of funds is influenced by factors not related to the borrower, such as current and expected inflation and the overall supply and demand for funds in the economy.
Net present value (NPV) :
the difference between an investment's present value and its cost. A positive ____ of $10 means that an investment that cost $100 must have a discounted present value (PV) of $110, for an NPV of $10. TEST TOPIC: The investment is a good one if it has a positive _____; stay away if the negative. This is generally considered more important than IRR.
time value of money :
the difference between the value of money today (its present value) and its value sometime in the future (its future value).
internal rate of return (IRR):
the discount rate (r) that makes the future value of an investment equal to its present value. This can be thought of as the r in the present and future value calculations. It is difficult to calculate directly; it must be determined by a trial-and-error process called iteration. This takes into consideration the time value of money. It is not practical for common stock due to uneven cashflow and no maturity date and price. TEST TOPIC: the method of computing long-term returns that takes into consideration time value of money. The yield to maturity of a bond reflects its ____.
broker call loan rate
the interest rate banks charge broker-dealers on money they borrow to lend to margin account customers. This loan rate is also known as the call loan rate or call money rate. These loan rate usually is slightly higher than other short-term rates and are callable on 24-hour notice.
nominal rate of interest
the money rate of interest or the actual amount a borrower pays for loanable funds.
federal funds rate
the rate banks that are members of the Federal Reserve System charge each other for overnight loans of $1 million or more. The rate is considered a barometer of the direction of short-term interest rates. This rate is listed in daily newspapers and is the most volatile rate; it can fluctuate drastically under certain market conditions.
discount rate
the rate the New York Federal Reserve Bank charges for short- term loans to member banks. The Federal Reserve Board establishes the _____. and, unlike the federal funds rate, is a managed rate. It is one of the tools of monetary policy. In contrast, the federal funds rate is a market rate determined by the demand for bank reserves on the part of deposit-based financial institutions.
Earnings available to common
the remaining earnings after the preferred dividend has been paid. Earnings per share relates to common stock only. Preferred stockholders have no claims to earnings beyond the stipulated preferred stock dividends.
Systematic risk
the risk in the return of an investment that is associated with the macroeconomic factors that affect all risky assets. Stated another way, it is the risk that changes in the overall economy will have an adverse effect on individual securities regardless of the company's circumstances. Risk associated with investing in the market. Example: Should a war break out between two major oil-producing countries, the stock market could decline dramatically. The stocks of individual companies would likely decline as well, regardless of whether the war directly affected their businesses. TEST TOPIC: The 3 primary forms of this risk are: market; interest rate; and inflation or purchasing power.
Liquidity risk
the risk that when an investor wishes to dispose of an investment, no one will be willing to buy it, or that a very large purchase or sale would not be possible at the current price. Although there is technically a difference, for exam purposes, you may also refer to this as marketability risk.
BETA/BETA COEFFICIENT
used to measure the variability between a particular stock's (or portfolio's) movement and that of the market in general. A stock with a beta of 1.00 will tend to have a market risk similar to that of the market as a whole. If the S&P 500 rises or falls by 10%, a stock with a beta of 1 rises or falls by about 10%, a stock with a beta of 1.5 rises or falls by about 15%, and a stock with a beta of .75 rises or falls by about 7.5%.
contractionary
when the central bank is reduc- ing the quantity of money and credit in an economy, the monetary policy is said to be __________ (or restrictive or tight).
