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Investment Analysis - Chapter 2

The document discusses various investment alternatives including money market securities, capital market securities, and derivative securities. It describes the important features of stocks, bonds, and other instruments, and how they fit into an investor's portfolio. Various terms are also defined, such as bond ratings, stock dividends, and options versus futures contracts.

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Linh Mai
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44 views

Investment Analysis - Chapter 2

The document discusses various investment alternatives including money market securities, capital market securities, and derivative securities. It describes the important features of stocks, bonds, and other instruments, and how they fit into an investor's portfolio. Various terms are also defined, such as bond ratings, stock dividends, and options versus futures contracts.

Uploaded by

Linh Mai
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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Chapter 2: Investment Alternatives

Tuan Minh Nguyen


Learning Objectives

• Identify money market and capital market securities and understand the
important features of these securities.
• Recognize important terms in capital market such as, stock splits, bond
ratings.
• Understand the basics of two derivative securities, options and futures,
and how they fit into the investor’s choices.
Content

• Organizing financial assets


• Nonmarketable financial assets
• Money market securities
• Capital market securities: Fixed-income, Equity securities
• Derivative securities
1. Organizing Financial Assets

• Indirect investing: The buying and selling of the shares of investment


companies which, in turn, hold portfolios of securities. (việc mua bán cổ
phần của các cty đầu tư nắm giữ qua
• Direct investing: Investors buy and sell securities themselves, typically
through brokerage accounts. (nhà đầu tư tự mua, bán chứng khoán)
2. Nonmarketable financial assets

• Nonmarketable financial assets represent personal transactions between


the owner and the issuer.
• Ex: Checkable deposits and currency, and time and savings deposits.
• Nonmarketable assets are “safe” investments.
• These assets offer the ultimate in liquidity
4. Capital Market Securities

• Capital markets encompass fixed‐income and equity securities with


maturities greater than one year.
• Fixed‐income securities: Securities with specified payment dates and
amounts, includes primarily bonds.
4. Capital Market Securities

• Fixed income securities:


• Bonds: Long‐term debt instruments representing the issuer’s contractual obligation.
– Interest payments and the principal repayment for a typical bond are specified at the
time the bond is issued and fixed.
– Par Value (Face Value): The redemption value of a bond paid at maturity.
– Term bond: A specified date a bond terminates.
– Coupon: The periodic interest.
4. Capital Market Securities

• Fixed income securities:


– A premium bond is a bond trading above its face value. A bond might trade at a
premium because its interest rate is higher than current rates in the market.
– A discount bond is a bond trading below its face value. A bond might trade at a
discount because its interest rate is lower than current rates in the market.
4. Capital Market Securities

• Fixed income securities:


• Types of bonds:
• Treasury securities: Long‐ term fixed‐income securities sold by the U.S. government.
• Government agency securities: Securities issued by federal agencies (fully guaranteed)
or by government‐sponsored agencies (not guaranteed).
• Municipal securities: sold by states, counties, cities, and other political entities other
than the federal government and its agencies.
• Corporate bonds: Long‐term debt securities sold by corporations
4. Capital Market Securities

• Fixed income securities:


• Convertible bonds: The holders of these bonds have the option to convert the
bonds into common stock whenever they choose.
• Convertible bonds are two securities simultaneously: a fixed income and a claim on
common stock.
4. Capital Market Securities

• Fixed income securities:


• Bond ratings: Letter ratings assigned to bonds by rating agencies to express the relative
probability of default.
• Bond rating limitations:
• The rating agencies may disagree on their evaluations.
• Rating agencies aren’t perfect.
• Bond ratings are a reflection of the relative probability of default, which says little or nothing
about the absolute probability of default.
• The issuers pay to have their bonds rated
4. Capital Market Securities

• Equity Securities: represent an ownership interest in a corporation


• Preferred stocks: An equity security with an intermediate claim (between the
bondholders and the stockholders) on a firm’s assets and earnings.
− Equity‐like: it has an infinite life, pays dividends, and stands behind fixed ‐income
investors in a bankruptcy proceeding.
− Fixed‐income-like: dividend is fixed in amount and known in advance, and preferred
stock stands before common shareholders in a bankruptcy proceeding.
− If the issuer fails to pay the dividend in any year, the unpaid dividend(s) will have to be
paid in the future.
4. Capital Market Securities

• Equity Securities
• Common stocks: represent the ownership interest of corporations, or the equity of
the stockholders.
− “Closely held”: a firm’s shares are held by only a few individuals.
− “Go public”: stocks sold to general public.
4. Capital Market Securities

• Equity Securities
• Common stock characteristics:
• Book value: The accounting value of the equity as shown on the balance sheet.
• Market value: The aggregate market value for a corporation, calculated by multiplying
the market price per share by the number of shares outstanding.
• Market value of one stock is simply the observed stock price.
4. Capital Market Securities

• Equity Securities
• Cash Dividends: cash payments regularly made by corporations directly to their
stockholders.
− Dividends do not have to be paid.
− Dividend yield: Dividend per share divided by current stock price.
− Payout Ratio: Dividends divided by earnings. (1 – Payout Ratio) is retention ratio.
− Dividends are normally paid quarterly and annually.
4. Capital Market Securities

• Equity Securities
• Stock dividends: A payment by the corporation in shares of stock rather than cash.
• Stock Split: A corporate action that divides each share into multiple shares.
• There is little difference between a stock dividend and a stock split; a stock split is
essentially a large stock dividend.
• These additional shares do not represent additional value because proportional
ownership has not changed.
4. Capital Market Securities

• Equity Securities
• P/E ratio: is calculated as the ratio of the current stock price to some measure of the
firm’s annual earnings per share.
• Investors have traditionally used such a classification to categorize and value stocks.
• Trailing P/E: based on the last full fiscal year’s earnings or last 12 months of
earnings.
• Forward P/E: based on a forecast of the next fiscal year’s earnings or next four
quarters of earnings.
4. Capital Market Securities

• Equity Securities
• Private equity: offers high net worth individuals and institutions the opportunity to
invest directly in private (non-publicly traded) companies.
− Buyout funds: typically purchase established companies with the intent of restructuring
the companies’ operations and improving their management.
− Venture capital funds: provide equity financing for new or growing private companies.
5. Derivatives Securities

• Derivatives Securities: Securities that derive their value in whole or in


part by having a claim on some underlying security.
• Options and futures contracts have some common characteristics:
• Can be traded quickly and cheaply on organized exchanges.
• Investors can reverse original position before maturity.
• Options and futures contracts are important to investors because they
provide a way for investors to manage portfolio risk
5. Derivatives Securities

• Option
• Options on stock are created not by corporations but by investors seeking to trade in
claims on a particular common stock
• Put option: An option to sell a specified number of shares of stock at a stated price
within a specified period.
• Call option: An option to buy a specified number of shares of stock at a stated price
within a specified period.
• The sellers (writers) receive an option premium for selling each new contract, while the
buyer pays this option premium.
5. Derivatives Securities

• Futures contracts
• Agreement providing for the future exchange of a particular asset at a currently
determined market price.
• Long position, which represents a commitment to purchase the asset on the delivery
date.
• Short position, which represents a commitment to deliver the asset at contract maturity.
• Hedgers: seek to reduce price uncertainty over some future period.
• Speculators: seek to profit from the uncertainty that will occur in the future.
Checking understanding

• Why does the Treasury bill serve as a benchmark security?


• Consider a corporate bond rated AAA versus another corporate bond rated
only BBB. Could you say with confidence that the first bond will not
default while the second bond has a reasonable probability of default?
• Why might investors opt to hold preferred stocks rather than bonds in
their portfolios?
Problems

• For each of the following issues, indicate whether the price of the issue
should be par value, above par value, or below par value:
Problems

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