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30 Cards in this Set

  • Front
  • Back
Investment
any asset into which funds can be placed with the expectation that it will generate positive income and/or preserve or increase its value
Return
the reward for owning an investment
Income from investment
Increase in value of investment
Securities or Property
- Securities: stocks, bonds, options

- Real Property: land, buildings

- Tangible Personal Property: gold, artwork, antiques, collectables
Direct or Indirect
- Direct: investor directly owns a claim on a security or property

- Indirect: investor owns an interest in a professionally managed collection of securities or properties
Debt, Equity or Derivative Securities
- Debt: investor lends funds in exchange for interest income and repayment of loan in future (bonds)

- Equity: represents ongoing ownership in a business or property (common stocks)

- Derivative Securities: neither debt nor equity; derive value from an underlying asset (options)
Low Risk or High Risk
Risk: the uncertainty surrounding the return that a particular investment will generate
Short-Term or Long-Term
- Short-Term: mature within one year

- Long-Term: maturities of longer than a year
Domestic or Foreign
- Domestic: U.S.-based companies

- Foreign: foreign-based companies
Government
- Federal, state and local projects & operations

- Typically net demanders of funds
Business
- Investments in production of goods and services

- Typically net demanders of funds
Individuals
-Some need for loans (house, auto)

-Typically net suppliers of funds
Individual Investors
Invest for personal financial goals (retirement, house)
Institutional Investors
- Paid to manage other people’s money

- Trade large volumes of securities

-Include: banks, life insurance companies, mutual funds, pension funds
Steps in Investing
Step 1: Meeting Investment Prerequisites
- Adequately provide for necessities of life, including funds for meeting emergency cash needs
- Adequate protection against various common risks, such as death, illness, disability

Step 2: Establishing Investment Goals
Examples include:
- Accumulating retirement funds
- Enhancing income
- Saving for major expenditures
- Sheltering income from taxes


Step 3: Adopting an Investment Plan
- Develop a written investment plan
- Specify target date and risk tolerance for each goal

Step 4: Evaluating Investment Vehicles
- Assess potential return and risk
- Chapter 4 will cover risk in detail

Step 5: Selecting Suitable Investments
- Research and gather information on specific investments
- Make investment selections

Step 6: Constructing a Diversified Portfolio
- Use portfolio comprised of different investments
- Diversification can increase returns or decrease risks (Chapter 5 will cover diversification in detail)


Step 7: Managing the Portfolio
- Compare actual behavior with expected performance
- Take corrective action when needed
Tax Planning Involves:
- The desired return after-taxes
- Type of income received from investments
- Timing of profit-taking and loss recognition
Types of Income for Individuals
- Active Income: income from working (wages, salaries, pensions)

- Portfolio Income: income from investments (interest, dividends, capital gains)

- Passive Income: income from special investments (rents from real estate, royalties, limited partnerships)
Ordinary Income
- Active, portfolio, and passive income included

- Taxed at progressive tax rates (rates go up as income goes up)
Capital Gains and Losses
- Capital Asset: property owned and used by taxpayer, including securities and personal residence

- Capital Gain: amount by which the proceeds from the sale of a capital asset are more than its original purchase price

- Capital Loss: amount by which the proceeds from the sale of a capital asset are less than its original purchase price
Taxation of Capital Gains
- Capital assets held less than one year: ordinary income tax rates

- Capital assets held more than one year: 15% (or 5 %)
Taxation of Capital Losses
- Capital losses can be used to offset capital gains

- Up to $3,000 per year of capital losses can be used to offset ordinary income (such as wages)
Tax-Advantaged Retirement Vehicles
- Allows taxes to be deferred until withdrawn in future

- Employer-sponsored plans
Profit-sharing plans, thrift and savings plans, and 401(k) plans

- Self-employed individual plans
Keogh plans and SEP-IRAs

- Individual plans
Individual retirement arrangements (IRAs) and Roth IRAs
Growth-oriented youth stage
- Twenties and thirties

- Growth-oriented investments

- Higher potential growth; Higher potential risk

-Stress capital gains over current income
Middle-Aged Consolidation Stage
- Ages 45 to 60

- Family demands & responsibilities become important (education expenses, retirement savings)

- Move toward less risky investments to preserve capital

- Transition to higher-quality securities with lower risk
Retirement Stage
- Ages 60 and older

- Preservation of capital becomes primary goal

- Highly conservative investment portfolio

- Income needed to supplement retirement income
What are some investments for each stage?
- Growth-oriented: Common stocks, options or futures

- Middle-age: Low-risk growth and income stocks, preferred stocks, convertible stocks, high-grade bonds

- Income-oriented: Low-risk income stocks and mutual funds, government bonds, quality corporate bonds, bank certificates of deposit
Investments and the Business Cycle
- Investments are affected by conditions in the U.S. economy

- The business cycle reflects the current status of several common economic indicators: gross domestic product (GDP), industrial production, disposable income, unemployment rate

- A strong economy is reflected by an expanding business cycle
Stock prices tend to rise during expanding business cycles and fall during declining business cycles


Bonds and other forms of fixed-income securities are also affected by the business cycle since their values are tied to interest rates, which are affected by economics conditions

- Interest rates and bond prices move in opposite directions
The Role of Short-Term Investments
- Liquidity: the ability of an investment to be converted into cash quickly and with little or no loss in value

- Primary use is for emergency cash reserve or to save for a specific short-term financial goal
Advantages and Disadvantages of Short-Term Investments
Advantages
-High liquidity
-Low risks of default

Disadvantages
- Low levels of return
- Loss of potential purchasing power from inflation
Careers in Finance
- Commercial banking – employs more people than any other part of financial services industry

- Investment banking – assists organizations in raising capital

- Investment management – involves managing money for clients
-practitioners often have the Certified Financial Analyst (CFA) certification
example CFA questions appear at the end of each part of this text


- Corporate finance – requires broad understanding of functional areas of a business

- Financial planning – professionals in this area often acquire the Certified Financial Planner certification

- Insurance – usually involves risk management or asset management
Short-Term investments are used for:
- Savings:
Emphasis on safety and security instead of high yield

- Investment:
Yield is often as important as safety
Used as component of diversified portfolio
Used as temporary outlet waiting for attractive permanent investments