CSC 2
An industry with a record of stable earnings and continuous dividend payments and which has demonstrated relative stability in poor economic conditions.
Defensive Industry
Chart formations that usually precede a sizeable advance or decline in stock prices.
Reversal Pattern
A method of market and security analysis that studies investor attitudes and psychology as revealed in charts of stock price movements and trading volumes to predict future price action.
Technical Analysis
The average of security or commodity prices calculated by adding the closing prices for the underlying security over a pre-determined period and dividing the total by the time period selected.
Moving Average
An active, leading, nationally known common stock with a record of continuous dividend payments and other strong investment qualities.
Blue-chip
A chart formation indicating that the current trend will continue.
Continuation Pattern
The theory that a stock’s price reflects all available information and reflects its true value.
Efficient Market Hypothesis
A trend reversal pattern that can occur either at a market top or at a market bottom and consists of a shoulder, a head, and a second shoulder and the breaking of a neckline.
Head-and-Shoulders Formation
An industry that has moved out of the maturity stage and is now growing at rates slower than the overall economy, or has a slowing growth rate.
Declining Industry
decline industry
An industry that experiences slower, more stable growth rates in profit and revenue than growth or emerging industries.
Mature Industry
An industry in which sales and earnings are consistently expanding at a faster rate than in most other industries.
Growth Industry
An industry that is particularly sensitive to swings in economic conditions.
Cyclical Industry
Which investors use sentiment indicators to determine what the majority of investors expect prices to do in the future so that they can take the opposite position?
Contrarion Investors
Based on the assumption that price moves in predictable waves; used to forecast when the market will start moving in a particular direction and when it will ultimately reach its peak or trough.
Cycle Analysis
Security analysis based on facts about a company as revealed through its financial statements and an analysis of economic conditions that affect the company’s business.
Fundamental Analysis
An economic principle whereby the per unit cost of producing each unit of output falls as the volume of production increases.
Economies of Scale
A price level at which a security stops falling because the number of investors willing to buy the security is greater than the number of investors wishing to sell.
Support Level
The theory that stock price movements are random and bear no relationship to past movements.
Random Walk Theory
The line joining the two recovery points in a head-and-shoulders formation.
Neckline
__________ accompanied by increased volume may be considered confirmation of a change in trend.
Breaking of a Neckline
The breaking of a neckline, either downside break or upside break, accompanied by _______________ may be considered confirmation of a change in trend.
Increased Volume
A form of technical analysis that relies on statistics to construct indicators and has thus been greatly enhanced by computer technology.
Quantitative Analysis
A price level at which the security begins to fall as the number of sellers exceeds the number of buyers of the security.
Resistance Level
Measure investor expectations or the mood of the market. These indicators measure how bullish or bearish investors are.
Sentiment Indicators
Industries in which risk and uncertainty are unusually high because analysts lack definitive information
Speculative Industry
The use of charts and patterns to forecast buy and sell decisions.
Chart Analysis
What are the 3 Industry Classifications used by Fundamental Analysts?
Cyclical Defensive Speculative
What are the 3 Categories of Macroeconomic Factors where a change in one requires a change in investment strategies?
Fiscal Policy Monetary Policy Inflation
Name the 4 Life Cyles used to Classify Industries
Emerging Growth Growth Maturity Decline
emerging growth growth maturity declining
What do competitive forces in an industry affect?
Growth and Risk Levels
What are the Key Assumptions of Technical Analysis
All market influences are reflected in price activity;
Prices move in persistent trends;
The future repeats the past.
Bears and selling are related to ___________
Supply
Bulls and buying are related to _______________
Demand
As demand increases, prices __________
Advance
increase
rise
go up
As Supply increases, prices ______________
Decline
fall
go down
decrease
What happens to prices when supply and demand are balanced?
They move sideways - bulls & bears fight for control.
What is the primary task of a Technical Analyst?
Identify a trend in its early stages and carry positions to take advantage of the trend until it reverses.
Identify the factors that can limit the effectiveness of fiscal policy:
1. A lag between fiscal action and its impact on the economy.
2. A time lag between the decision to take fiscal policy action and getting approval from parliament.
What economic event could cause a tilting of the yield curve?
The Bank of Canada raising short-term rates to slow the rate of economic growth.
What would be the direction of a stock price, if you are a believer in the random walk theory.
It will be impossible to predict as past prices are no predictor of future prices.
What are the 4 ways by which analysts classify an industry?
Product or service Stage of growth Competitive forces Reaction to the economic cycle
What are the five basic competitive forces that determine the attractiveness of an industry?
Threat of new entry
Competitive rivalry
Threat of substitutes
Bargaining power of buyers
Bargaining power of suppliers
What is the significance of a symmetrical triangle?
Consolidation of an existing trend
Identify the theory that suggests that investors make intelligent decisions after weighing all available information.
Rational Expectations Hypothesis
Samra believes that the Canadian dollar is going to decline in the future. What type of industry would you recommend she invest in?
Cyclical Industries
Identify the issues that support the argument that capital markets are inefficient
New information is not available to everyone at the same time.
Investors do not react in the same way to the same information.
Not everyone can make accurate forecasts and correct valuation decisions.
Mass investor psychology and greed may at times cause investors to act irrationally.
Trader who makes use of sophisticated computerized strategies to swiftly sell or buy large quantities of equities is using what strategy?
Program Trading
What is the main problem with a large government debt?
It restricts both fiscal and monetary policy options; impairs the government’s ability to reduce taxes or increase spending
What impact does economic growth have on bonds?
Bond yields tend to rise
bond yeilds rise
What does a head-and-shoulders bottom formation signal?
Bullish signal for the stock
What does a head-and-shoulders top formation signal?
Bearish signal for the stock.
Tuan recognizes a symmetrical triangle formation in the movement of the price of a stock he is interested in. How will Tuan interpret this pattern?
It suggests a continuation pattern, or pause in the market trend.
What is Company Analysis?
Process of examining company specific factors that can influence investment decisions.
What is one of the goals of company analysis?
To identify risks and opportunities
Tells you whether management is making good use of the company's resources.
Statement of Comprehensive Income Analysis
What are the factors involved in performing company analysis to determine whether a company represents a good investment?
Revenue
Operating Costs
Dividend Record
What does a rising trend in operating costs of a company indicate?
The company may have difficulty keeping overall costs under control and therefore losing potential profits.
What does a falling trend in operating costs of a company indicate?
The company is operating costs effectively and is likely to be more profitable in the future.
How do you determine the main reasons for any changes in a company's ability to pay its operating costs?
Measured by using the gross profit margin ratio.
What are the reasons for a company to have unusually high dividend payout rate (more than 65%)?
- Stable earnings that allow a high payout;
- Declining earnings, which may indicate a future cut in the dividend;
- Earnings based on resources that are being depleted.
What are the reasons for a company to have a low dividend payout rate?
- Earnings reinvested back into a growth company’s operations
- Growing earnings, which may indicate a future increase in the dividend amount
- Cyclical earnings at their peak, along with a company policy to maintain the same dividend in good and
bad times
- A company policy of buying back shares, rather than distributing earnings through higher dividend payouts
What type of securities are suitable for a company with a heavy debt load?
Common Shares
Total dollar amount of all debt, preferred and common stock, and retained earnings of a company. Can also be expressed in percentage terms.
Capital Structure
A financial ratio that shows the earnings available to each common share.
EPS - Earnings Per Common Share
What issues need to be considered when analyzing capital structure?
- a large debt issue approaching maturity may need to be refinanced;
- retractable/extendible bonds may need to be financed if investors chosse to retract/extend;
- convertable securities represent a potential decrease in EPS through dilution;
- outstanding warrants or stock options represent a potential increase in the number of common shares outstanding.
The effect of fixed charges (i.e., debt interest or preferred dividends, or both) on per-share earnings of common stock.
Leverage
Financial calculations based on a company’s financial statements, often providing clues about the company’s financial health.
Financial Ratios
How to calculate Trend Ratio
-Selecting a base period,
- Treat the figure or ratio (trend) for that period as 100
- Then divide it into the comparable ratios for subsequent periods.
When is the base period in a trend ratio negative?
When a loss was sustained in the base year.
When is it impossible to calculate a trend ratio?
When the base period is negative
Cyclical Industries usually fall under what 3 categories?
Commodity
Industrial
Consumer
Forest Products, mining and Chemicals
Commodity Cyclical Industries
Transportation, capital goods and steel and building materials
Industrial Cyclical Industries
Merchandising and automobiles
Consumer Cyclical Industries
What are the 4 categories of cycle lengths?
Long-term - more than 2 years;
Seasonal - one year;
Primary/Intermediate - 9-26 weeks
Trading - 4 weeks
What are the 4 methods used by technical analysts to identify trends and potential turning points?
Chart Analysis
Quantitative Analysis
Analysis of Sentiment Indicators
Cycle Analysis
What does the Debt-to-Equity Ration tell you?
The portion of borrowed funds relative to the amount of money invested into the company
What does the dividend discount model (DDM) calculate?
The Intrinsic value of a stock
What is a "rights offerring"?
It allows existing shareholders to buy additional shares at a price that is slightly below its current market value.
In what way will a rights offering impact the number of common shares outstanding?
It will result in additional common shares outstanding
How is the net profit margin calculated?
Net Profit - Share of Profit from Associates / Revenue
What does Net Profit Margin measure?
How effectively management runs the business after accounting for both expenses and taxes
What can be considered leveraged capital?
Debt & Preferred Share Equity
Is common share capital considered leverage capital?
No. Belongs to common shareholders.
You have calculated a company's current ratio. What additional information will you need to calculate its quick ratio?
Investory figures
What are the 4 operating performance ratios?
Gross Profit Margin
Net Profit Margin
Return on Common Equity
Inventory Turnover
What is another name for quick ratio?
Acid Test
What does the quick ratio meaure?
Whether or not a company will be able to make its short-term (current) liability payments.
What are the 4 categories of financial ratios?
L-O-V-R
Liquidity
Operational
Value
Risk Analysis
Which ratio indicates the efficiency of management in turning over the company's goods as a profit?
GPM - Gross Profit Margin
What does it mean if a company was said to have a dividend payout ratio of 70%?
It paid out 70% of its earning as dividends to common shareholders. The rest is retained in the company to finance future growth.
What is another name for the current ratio?
Working Capital Ratio
In what circumstance would it be impossible to apply the trend line method?
If the base period figure is negative - ie if the EPS is negative in the base year
All else being equal, how are a company's earnings and P/E ratio related
They are inversely related - ie if price earnings go up, P/E ratio goes down.
What is the formula for the DDM - Dividend Discount Model?
Intrinsic value of stock = Div 1 yr from now/ r-g
What does a company's P/E ratio tell you?
How much investors are paying per dollar of income for the company's stock.
Where would it be recorded on a company's financial statements that a company has changed auditors?
In the notes to the financial statements.
If a company converted its short term loans to long term loans, would its working capital ratio improve or decline?
The working capital ratio would improve
A company has a total capital of 12 million in which 4 million is in the form of common share equity. What percentage of its capital structure is leveraged?
12-4 = 8; 8/12 = 66.67%
How is the pre-tax cost of a dividend calculated?
Div / 1 - tax rate
How is Dividend Yield calculated
Common (preferred) share dividend / Current Market Price of Share
Why do some analysts sometimes remove "other liabilities" from the debt to equity ratio?
To focus on a company's financial risk based solely on the use of leverage.
For what company would using the DDM be most effective?
A company that pays stable dividends with a stable dividend yield
The EPS formula divides the company's profit by what?
The weighted number of common shares outstanding
Analysts look for a minimum equity value per preferred share of at least how many times?
2x
When calculating EPS, the weighted number of common shares outstanding is part of the calculation. What does weighted refer to?
It takes into account the length of time the common shares were outstanding
What debts are included in the debt to equity ratio
Short term, long term, bonds and debentures outstanding
An investor is considering going long on a stock. What type of company would an investor prefer?
One with high ROE, with an upward trend
What does a high investory turnover indicate?
A better balance between inventory and sales volume
What could result in a potential increase in number of outstanding common shares?
investments outstanding or derrivatives that could be excercised
All else being equal, using the DDM, how would an increase in R impact a stock's intrinsic value?
The stocks intrinsic value would fall.
What generally accounts for the difference between a company's equity per common share and its share price?
Its actual or potential earnings
You short the stock with the...
Highest P/E
You go long on the stock with the ...
Lowest P/E
Assuming a company sells tangible products and has inventory, which is higher - current ratio or quick ratio
Current ratio
What ratio best describes how effective a company's management is in maintaining or increasing profitability in relation to invested shareholder capital?
Return on Common Equity
What would suggest a company is most likely to have a greater number of common shares in the future?
The company has issued rights
The type of risk where an investor will not be able to buy or sell a security quickly enough because buying or selling opportunities are limited.
Liquidity risk
Spreading investment risk by buying different types of securities in different companies in different kinds of businesses and/or locations.
Diversification
A statistical measure of risk, expressed as a percentage; the higher the measure for an investment, the greater the volatility of returns and therefore the greater the risk.
Standard Deviation
A rate of return adjusted for the effects of inflation.
Real rate of return
The type of risk where the value of financial assets and the purchasing power of income will decline due to the impact of inflation on the real returns produced by those financial assets.
Inflation rate risk
A transactional rate of return measure that takes into account all cash flows and increases or decreases in a security’s value for any time frame.
Holding period return
A top-down approach to investment, focusing on analyzing the prospects for the overall economy and investing in those sectors that are expected to outperform.
Sector rotation
A measure of the sensitivity (i.e., volatility) of a stock or a mutual fund to movements in the overall stock market.
Beta
A non-controllable, non-diversifiable risk that is common to all investments within a given asset class.
Systematic Risk / Market Risk
The type of risk where a debt security issuer will be unable to pay interest on the prescribed date or the principal at maturity.
Default Risk
The rate of return that was actually received by an investor.
Ex-post
The type of gain from selling a security for less than its purchase price.
Capital Loss
The type of risk where changes in interest rates will adversely affect the value of an investor’s portfolio.
Interest Rate Risk
The type of gain from selling a security for more than its purchase price.
Capital Gain
The type of risk associated with a government introducing unfavourable policies making investment in the country less attractive; also, the general instability associated with investing in a country.
Political Risk
A projection of expected returns – what investors expect to realize as a return.
Ex-ante
The type of risk inherent in a company’s operations, reflected in the variability in earnings.
Business Risk
The risk that the price of a specific security or a specific group of securities will change in price to a different degree or in a different direction from the market as a whole.
Non-Systematic Risk
When fund managers and investors use a stock index to measure the overall direction and performance of the market.
Indexing
A portfolio is equally allocated to three securities. Security A has an expected return of 12%. Security B has an expected return of 10%. Security C has an expected return of 6%. Calculate the expected return on the portfolio.
9.33% (equal weight = 100/3 - 33.33% each)
Larry purchased 100 GHI common shares at a price of $13 per share. Three months later, GHI common shares paid a dividend of $0.10 per share. Larry sold all of his 100 GHI common shares at a price of $14 per share. Calculate Larry’s rate of return for the GHI common shares.
8.46% (0.1 div + 1 cap gain = 1.10/13x100)
Select the diversification strategy that will reduce the risk of a portfolio
Perfect negative correlation
What would be the typical beta of a defensive industry?
Lower than 1
What is the real rate of return of a 8% rate in 3% inflation
5%
The S&P/TSX Composite Index rises by 6%. ABC Equity Fund has a beta of 2.2. Calculate the expected change in the value of ABC Equity Fund.
13.2% (6% x 2.2 rise)
Sharjeel purchases an equity fund at $20 per unit anticipating that the unit value will increase to $25 by the end of the year. Instead, the fund unit value increases to $24 but he receives $0.50 in dividends for each unit. Calculate the ex-ante rate of return.
252% (5/20 - because its the expected)
Identify a strategy to reduce the risk of investing in high-yield or junk bonds.
Invest in High yield bonds with short terms to maturity, e.g., less than 3 years.
The style of management that focusses on identifying the current phase of the economic cycle, the direction the economy is headed in and the various sectors affected.
Sector Rotation
The shift that an industry rotation manager makes as she executes her investment strategy.
Defensive and Cyclical Investments
The largest typical contributor to the total return of a bottom-up investment manager’s portfolio.
Capital Gains Appreciation
A growth manager is choosing between 4 different equities. Determine which of Stock A (high beta, high dividend yield); Stock B (low beta, high price/cash flow); Stock C (low dividend yield, high price-earnings ratio); or Stock D (low standard deviation, low price/book value) she would likely choose.
Stock C
What does NHA stand for?
A First mortgage insured under the National Housing Act.
The return based on expected returns
Ex-Ante
The return based on actual historical returns
Ex-Post
What is the formula to calculate the rate of return on a portfolio?
Cash flow + (Cap Gain)/Beginning Value
What is often used to represent the risk-free rate of return?
T-Bill Yield
Concentrates on the fundamentals of specific companies' stocks rather than broad economic factors.
Bottom-Up Approach
Analyzes the overall economy first to determin which industries may do well.
Top-Down Approach
Name the 2 management approaches that focus on bottom-up analysis
Growth Mangers
Value Managers
Name the 2 common measures of risk
Standard Deviation
Beta
How do you calculate the Real Rate of Return
Nominal Rate of Return - Annual Inflation Rate
The uncertainty about a company's future performance
Business Risk
Unfavorable changes in government policies could negatively affect investments
Political Risk
The rate of inflation affecting the real return of an investment
Inflation Risk
Whether an investment can be sold at a fair price on reasonably short notice
Liquidity Risk
The market value of an investment will be affected by changes in interest rates
Interest Rate Risk
Incurring losses as a result of unfavorable changes in exchange rates
Foreign Exchange Rate Risk
The entity issuing the asset will be unable to fulfill its obligations to investors
Default Risk
2 best approaches to a passive investment strategy
Indexing
Buy and Hold
A value manager applies what active investment management strategy?
Bottom-Up Approach
Gabriel is investing in the common shares of a growth company. In relationship to the T-Bill rate, what return should he expect?
T-Bill rate PLUS a risk premium
Name the management approact that focuses on Top-Down analysis.
Sector Rotation
Name the 3 active management approaches
Value manager
Growth manager
Sector rotation
If the overall market declined by 10% and the price of DEF shares went down 15%, what might this suggest about DEF's beta?
Beta is 1.5 (15/10)
If a stock's expected return was 8% but it actually returned 6%, what is the stocks alpha?
-2%
What is the formula for Alpha?
Actual return - Expected return
Measures the value added by a portfolio manager
Alpha
What is the range of correlation?
Can be -1 to +1 and anything in between
Portfolio A has an Alpha of 2 and a beta of 1.10. What would be the expected nominal rate of return for the portfolio if the overal equity market return was 8%?
10.8 (8 x 1.10 = 8.8+2)
Investment Management approach that works best in down markets
Value Investing
Investment Management approach that works best in up markets
Growth Managers
Eric is considering investing in a high-yield corporate bond that has a quoted yield to maturity of 23%. What risk would be most relevant to eric as he considers this investment?
Default risk
ABC stock has a beta of 2. The equity market's expected rate of return is 12%. What is the expected return of ABC stock.
24% (2x12)
Inflation measurement
CPI
Name the 3 Asset Classes
Cash and Equivalents
Fixed Income Investments
Equities
Put the investment types in order of risk from highest to lowest
Derivatives
Common Shares
Preferred Shares
Debentures
Bonds
Treasury Bills
What 3 risks would definetely be associated with a canadian investor receiving dividends from a US company?
Foreign Exchange Rate
Business
Inflation
During an ecomomic downtown, what is correct regarding the performance of cyclical and defensive stocks
Defensive industries tend to outperform cyclical industries
The correlation coefficient ideal to minimize non-systematic risk
-1
Type of investing that suggests the market is inefficient
Value Investing
It is estimated that most of the benefits of diversification have been acheives when a stock portfolio owns how many different stocks?
32
Measures the volatility of a specific stock in comparison to the overall market
Beta
RIsk averse investors prefer what in relation to betas and alphas
Low betas and High alphas
what type of stock would have the highest beta
cyclical company