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32 Cards in this Set
- Front
- Back
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modern portfolio theory
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*investors should not only hold portfolios but should also focus on how individual securities in the portfolios are related to one another
*risk is an inherent part of higher return |
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defined contribution
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A retirement plan in which a certain amount or percentage of money is set aside each year by a company for the benefit of the employee. There are restrictions as to when and how you can withdraw these funds without penalties.
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defined benefit pension plan
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*an employer has an obligation to pay a certain annual amount to its employees when they retire
An employer-sponsored retirement plan where employee benefits are sorted out based on a formula using factors such as salary history and duration of employment. Investment risk and portfolio management are entirely under the control of the company. There are also restrictions on when and how you can withdraw these funds without penalties. |
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mutual fund
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*a comingled investment pool in which investors in the fund each ahve a pro-rata claim on the income and value of the fund
*value of the mutual fund is known as the net asset value |
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open end fund
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*accepts new investment money and issue additional shares at a value equal to the net asset value of the fund at the time of investment
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closed end fund
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*no new investment money is accepted into the fund
*new investors invest by buying existing shares |
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no-load fund
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*no fee for investing in the fund or for redemption
*annual fee fee based on a percentage of the fund's net asset value |
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load funds
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*funds in which, in addition to the annual fee, a percentage fee is charged to invest in the fund and/or for redemptions from the fund
*usually sold through retail brokers who receive part of the upfront fee *number of these have decline over time |
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four steps of portfolio management
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*writing a policy statement
*developing an investment strategy *implementing the plan by constructing the portfolio and allocating the assets *monitoring performance, updating client information, and capital market expectations, and re balancing the portfolio |
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investment objectives
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should be expressed in terms of risk and return
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common return objectives
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*capital preservation
*capital appreciation *current income *total return |
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capital preservation
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*minimizing the risk of loss in real terms
*at least equal to the inflation fate with little or no chance of loss *maintenance of purchasing power *for funds that will be needed in the near future |
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capital appreciation
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managing real growth in the portfolio to meet some future need
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current income
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*producing income instead of capital appreciation
*meeting specified spending needs *moderately conservative portfolio of securities or mutual funds *provides high dividend and annuity payments to satisfy an investor's steady income requirement *usually in their retirement years because steady income is needed for living expense |
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total return
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*riskier then current income but not as risky as capital appreciation
*growing a portfolio through both capital appreciation and reinvested income |
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investment constraints
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*liquidity
*time horizon *tax *legal *unique needs |
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why do differences in average asset allocations across countries exist?
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difference in...
*social factors *demographics *legal constraints *tax laws *historical inflation rates |
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target allocations among different asset classes can explain approximately __% of the variation of portfolio returns across funds and approximately __% of the variation in returns for a single fund over time
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40% and 90%
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assumptions that underlie Markowitz portfolio theory
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*investors view every investment in terms of probability distribution of returns
*investors maximize expected utility over a single time horizon indifference curves exhibit diminishing marginal utility of wealth *measure risk as the expected variance (standard deviation) of returns *make all investment decisions only on the basis of risk and return *investors are risk averse |
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efficient frontier
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*represents the set of portfolios with the highest expected return for each level of risk
*shows the trade-offs available in the market btwn returns and standard deviations of well diversified portfolios |
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optimal portfolio for a specific investor
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*point where the investor's highest attainable indifference curve is tangent to the efficient frontier
*depends on that investor's degree of risk aversion *indicated by the slope of the tangent indifference curve |
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assumptions of capital market theory
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*all investors use the Markowitz mean-variance framework to select securities
*investors can borrow or lend unlimited amounts at the risk free rate *all investors have homogeneous expectations for expected returns, standard deviation of returns, and returns correlations *all investors have the same one-period time horizon *all investments are infinitely divisible *there are no taxes or transactions costs *there is no inflation and interest rates do no change in period of analysis *capital markets are in equilibrium |
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market portfolio
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the point on the efficient frontier where the capital market line is tangent to it
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CML
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*represents the risk and expected returns of all the portfolios that can be contructed by combining the market portfoio with the risk free asset
*considered to be superior to the efficient fronteir since it takes into account the inclusion of a risk-free asset in the portfolio *you have standard deviation on the x axis and expected return on the y axis *slope of the CML is the sharpe ratio |
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systematic (market or covariance) risk is due to factors, such as...
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GDP growth and interest rate changes, that affect the values of all risky securities
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unsystematic (firm-specific) risk can be reduced by...
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portfolio diversification
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security market line
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*it is CAPM
*shows the expected return as a fucntion of beta |
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on the capital market line..
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*the risk free rate means that they are lending some of their funds
*the point M is where the capital market line intercepts the efficient frontier and this means that 100% of the funds are invested in the Market portfolio |
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total risk
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systematic risk + unsystematic risk
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difference between CML and the SML
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*CML uses total risk on the X axis
*SML uses beta on the X axis *according to the CAPM, all securities and portfolios, diversified or not, will plot on the SML in equilibrium |
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portfolios that do not lie on the CML are...
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....not efficient and therefore have risk that will not be rewarded with higher expected returns in equilibrium
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CAPM assumption
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*needs to have equal borrowing and lending rates
*positive transaction costs, heterogenous expectations, and a multi-period investment horizon *similar taxes 1. All investors are price takers. 2. All investors have the same time horizon. 3. All investors have the same information and interpret it in the same manner. (homogeneous expectations) 4. Markets are "perfect." i.e. no transaction costs, no taxes, short selling is allowed etc. 5. All investors are risk averse. 6. The market portfolio exists a. exists b. is measureable c. is on the MVE frontier. |
