06 - Investment Management Overheads.ppt


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06 - Investment Management Overheads.ppt

  1. 1. What’s Investing? <ul><li>Investing makes your money grow </li></ul><ul><li>Investing capitalizes on economic growth </li></ul><ul><li>Investing involves some level of risk </li></ul><ul><li>Investing rewards patience </li></ul><ul><li>Investing outpaces inflation </li></ul>
  2. 2. Investment Objectives <ul><li>Safety of principal </li></ul><ul><li>You don't want to lose your initial investment </li></ul><ul><li>Income </li></ul><ul><li>The regular payment of money that is earned from the investment </li></ul><ul><li>Growth </li></ul><ul><li>An increase in the value of your investment </li></ul><ul><li>Liquidity </li></ul><ul><li>The ability to turn your investment into cash very quickly </li></ul>
  3. 3. Characteristics of an Investment <ul><li>Risk </li></ul><ul><li>The uncertainty about the rate of return that you’ll earn from an investment </li></ul><ul><li>Return </li></ul><ul><li>The money made from an investment, including the income and capital gain </li></ul><ul><li>Liquidity </li></ul><ul><li>The ease and ability of selling your investment in the marketplace without losing money </li></ul><ul><li>Term </li></ul><ul><li>How long you are planning to hold onto your investment </li></ul>
  4. 4. Risk Factors <ul><li>Inflation risk </li></ul><ul><li>Interest rate risk </li></ul><ul><li>Default risk or business risk </li></ul><ul><li>Liquidity risk </li></ul><ul><li>Reinvestment risk </li></ul>
  5. 5. Risk-Return Spectrum <ul><li>Common stock </li></ul><ul><li>Blue Chip common stock </li></ul><ul><li>Preferred stock </li></ul><ul><li>Corporate bonds </li></ul><ul><li>Government bonds </li></ul><ul><li>Short-term government T-bills </li></ul>Risk Safety
  6. 6. Risk and Stages of Life: A Typical Scale <ul><li>Life Stage Risk Tolerance </li></ul><ul><li>Early career High </li></ul><ul><li>Middle career High </li></ul><ul><li>Late career Moderate </li></ul><ul><li>Early Retirement Moderate </li></ul><ul><li>Late Retirement Low </li></ul>
  7. 7. The Capital Markets Capital Markets Banks, Investment Dealers, etc. Company needs money to expand People have money to invest People get return on investment through capital appreciation and from interest or dividends Money raised through capital markets. Company grows, creates new jobs Company pays interest or dividends out of profits
  8. 8. A Typical Business Cycle Rising stock prices Rising interest rates EXPANSION Stock prices high Interest rates high PEAK CONTRACTION CONTRACTION EXPANSION TROUGH Stock prices are low Interest rates low Falling stock prices Falling interest rates
  9. 10. Treasury Bill Calculation <ul><li>Assume that you buy a 30 day Treasury bill at $99.672. It matures to $100 in 30 days. The difference is your interest. </li></ul><ul><li>Yield calculation </li></ul><ul><li>100 - 99.672 x 365 = __________ or __________% </li></ul><ul><li>99.672 30 </li></ul><ul><li>What is the cost of this T-Bill if it is denominated in $10,000? $__________ </li></ul>
  10. 11. Bonds <ul><li>Bonds </li></ul><ul><li>Secured by assets (Except for government) </li></ul><ul><li>Debentures </li></ul><ul><li>No fixed assets pledged </li></ul><ul><li>Based on creditworthiness </li></ul><ul><li>Mostly corporate issuers </li></ul>
  11. 12. An Example of a Bond Last interest payment and repayment of principal
  14. 15. TYPICAL BOND YIELD CURVE Short and long term Government bonds % Years to Maturity
  15. 16. Maturity Bond Price Fluctuation $ $ $ $ $ $ $ $ $ THE FURTHER AWAY A BOND’S MATURITY DATE, THE MORE VOLATILE ITS PRICE Time
  16. 17. Bond price fluctuations let you make money beyond fixed interest - by selling your bonds for more than you paid for them. PICKING YOUR BONDS AND PREFERRED SHARES
  17. 18. A BOND QUOTE
  18. 19. Interest Rate Interest Rate WHAT HAPPENS TO YOUR $1000 BOND’S PRICE WHEN INTEREST RATES CHANGE $1,000 10% $960 10% $1,040 10%
  19. 20. The yield assuming the bond will be called in before maturity. YIELD TO CALL
  20. 21. Exercise #1: <ul><li>From the bond table find the price of a 10% coupon, if rates are 8%: $________ </li></ul><ul><li>The $10,000 bond would cost $________. </li></ul><ul><li>The yield to maturity (8% in this case) is a combination of the capital loss on the bond and the higher coupon rate. The capital loss results from the purchaser paying a premium of $________ for the bond and receiving back only the face value of $________ at maturity. </li></ul>
  21. 22. Rate of Return <ul><li>The total annual return for an investor buying the bond for $11,359 is: </li></ul><ul><li>Interest $ 1,000.00 per year </li></ul><ul><li>Less amortized capital loss $ 135.90 per year </li></ul><ul><li>Average annual net proceeds $ 864.10 per year on a $11,359 investment </li></ul>
  22. 23. Approximate Yield to Maturity <ul><li>interest per year +/- the capital gain or loss per year </li></ul><ul><li>purchase price + maturity value x 100 </li></ul><ul><li>2 </li></ul><ul><li>$1,000 - $135.90 </li></ul><ul><li>$11,359 + $10,000 x 100 </li></ul><ul><li>2 </li></ul><ul><li>864.10 </li></ul><ul><li>10,679.50 </li></ul>= .809 = 8.09%
  23. 24. Exercise #2: <ul><li>From the bond table find the price of a 10 year bond with a 10% coupon if market rates are 12%: $________ </li></ul><ul><li>The $10,000 bond in our example would cost $________. </li></ul><ul><li>The yield to maturity is ________%. </li></ul><ul><li>The capital ________ (gain or loss) results from the purchaser paying a ________ (premium or discount) of $________ and receiving back the face value of $________ at maturity. </li></ul>
  24. 25. Approximate Yield to Maturity <ul><li>capital gain/year = $114.70 </li></ul><ul><li>interest/year = $1,000 </li></ul><ul><li>approximate yield to maturity (YTM) = </li></ul>$1,000 + $114.70 = 1,114.70 = .1182 = 11.82% $8,853 + $10,000 9,426.50 2
  25. 26. <ul><li>Extendible </li></ul><ul><li>Retractable </li></ul><ul><li>Convertible </li></ul><ul><li>Floating rate </li></ul><ul><li>Callable </li></ul><ul><li>Sinking fund feature </li></ul><ul><li>Currency feature </li></ul>BOND FEATURES
  27. 28. Bond Ratings Moodys Standard and Poors <ul><li>Aaa Prime quality </li></ul><ul><li>Aa High grade </li></ul><ul><li>A Upper medium grade </li></ul><ul><li>Baa Medium grade </li></ul><ul><li>Ba Lower medium or speculative </li></ul><ul><li>B Speculative </li></ul><ul><li>Caa From very speculative </li></ul><ul><li>Ca to near or in default </li></ul><ul><li>C Lowest grade </li></ul><ul><li>AAA Bank investment quality </li></ul><ul><li>AA </li></ul><ul><li>A </li></ul><ul><li>BBB </li></ul><ul><li>BB Speculative </li></ul><ul><li>CCC </li></ul><ul><li>CC </li></ul><ul><li>C </li></ul><ul><li>C In default </li></ul>
  28. 29. Risks of Bonds <ul><li>Interest rate risk </li></ul><ul><li>reinvestment risk </li></ul><ul><li>default risk (credit risk) </li></ul><ul><li>purchasing power risk (inflation risk) </li></ul><ul><li>maturity risk </li></ul><ul><li>call risk </li></ul><ul><li>liquidity risk </li></ul><ul><li>call risk </li></ul><ul><li>foreign exchange risk </li></ul><ul><li>event risk </li></ul>
  29. 30. Buy : If interest rates high and you expect them to fall – to make a capital gain Sell : If you believe interest rates are set to increase – to avoid a capital loss Try to read and interpret the yield curve. Don’t buy bonds trading at a premium close to maturity date. DECIDING WHEN TO BUY AND SELL BONDS/FIXED-INCOME SECURITIES
  30. 31. <ul><li>Reading the yield curve </li></ul><ul><li>Using strip bonds to lock in a set known interest rate when rates are attractive </li></ul><ul><li>Building a bond ladder </li></ul><ul><li>Buying high-yield or junk bonds </li></ul><ul><li>Switching bonds </li></ul><ul><li>Buying convertible bonds </li></ul><ul><li>Buying bonds on margin </li></ul>BOND TRADING STRATEGIES
  31. 32. <ul><li>Buy a one year government bond in June 1999…When it matures in June 2000, use proceeds to buy a 5-year bond. </li></ul><ul><li>Buy a 2-year bond in June 1999…When it comes due in June 2000, use proceeds to buy a 5-year bond. </li></ul><ul><li>Do the same for the other three years of your ladder. </li></ul>YOUR BOND LADDER 5 Year 4 Year 3 Year 2 Year 1 Year
  32. 33. Accrued Interest <ul><li>You buy a 10% $10,000 bond, maturing September 1, 1999. Interest payment dates are Sept. 1 and March 1, six months apart. You buy this bond on Sept. 20, and it is settled on Sept. 23. Next March 1, you will receive the entire six months of interest from Sept. 1 to March 1 because you only owned the bond as of Sept. 23. Therefore you would pay the seller the accrued interest from Sept. 1 to Sept. 22: </li></ul>Sept. 1 to Sept. 22 is 22 days 10,000 x .10 x 22 = $60.27 365
  33. 34. <ul><li>Cumulative feature </li></ul><ul><li>Non cumulative </li></ul><ul><li>Voting privileges </li></ul><ul><li>Purchase fund </li></ul><ul><li>Sinking fund </li></ul><ul><li>Redemption feature </li></ul><ul><li>Retractable </li></ul>PREFERRED SHARE FEATURES
  34. 35. <ul><li>Working capital maintenance clause </li></ul><ul><li>Maintaining purchase or sinking fund requirements </li></ul><ul><li>Right to vote in event of arrears </li></ul><ul><li>Restrictions on further preferred issues </li></ul><ul><li>Restriction on sale of assets </li></ul><ul><li>Restrictions on change of terms </li></ul>PREFERRED SHARE PROTECTIVE PROVISIONS
  35. 36. 1. Preferred dividend coverage 2. Record of continuous dividend payments 3. Equity (or book value) per preferred share 4. An independent credit assessment YOUR FOUR-STEP PREFERRED SHARE CHECK LIST
  36. 37. Advantages of Incorporation <ul><li>Limited liability of shareholders </li></ul><ul><li>Continuity </li></ul><ul><li>Transfer of ownership </li></ul><ul><li>Ease of raising capital </li></ul><ul><li>Legal entity </li></ul><ul><li>Professional management </li></ul>
  37. 38. Rights and Privileges of a Shareholder <ul><li>The privilege to share in the company’s earnings through dividends </li></ul><ul><li>The right to control through election of directors </li></ul><ul><li>The right to information </li></ul>
  38. 39. Types of stocks <ul><li>Blue Chips (Income) </li></ul><ul><ul><li>safety: established, dominant company </li></ul></ul><ul><ul><li>income from dividends is prime goal: large payout ratio </li></ul></ul><ul><ul><li>steady growth in stock price </li></ul></ul><ul><ul><li>liquidity </li></ul></ul><ul><li>Growth </li></ul><ul><ul><li>capital growth is main goal </li></ul></ul><ul><ul><li>earnings expected to increase </li></ul></ul><ul><ul><li>expect above-average returns </li></ul></ul><ul><ul><li>reinvest most of their earnings </li></ul></ul>
  39. 40. Types of stocks... <ul><li>Cyclicals </li></ul><ul><ul><li>rapid growth in good economic conditions </li></ul></ul><ul><ul><li>falling price in poor economic conditions </li></ul></ul><ul><ul><li>example: commodities, mines, resources </li></ul></ul><ul><li>Defensive </li></ul><ul><ul><li>largely unaffected by economy </li></ul></ul><ul><ul><li>lower-than average risk </li></ul></ul><ul><ul><li>retail food and utilities are examples </li></ul></ul>
  40. 41. Types of Stocks <ul><li>Speculative </li></ul><ul><ul><li>turnarounds </li></ul></ul><ul><ul><li>takeover candidates </li></ul></ul><ul><ul><li>new ventures </li></ul></ul><ul><li>Penny stocks </li></ul><ul><ul><li>low probability of large profits </li></ul></ul><ul><ul><li>potential for large profits quickly, large losses </li></ul></ul>
  41. 42. How Mutual Funds Work Gold $$$ $$$ $$$ $$$ Mutual Fund Company Fund manager uses pooled money to buy securities Successful investments make fund worth more Investors get distribution Stocks Bonds
  42. 43. Net Asset Value Per Share <ul><li>As of today, a mutual fund has four million shares outstanding. The assets are common stocks with a market value of $102,000,000. The fund's liabilities amount to $2,000,000. </li></ul>$102,000,000 minus $2,000,000 4,000,000 = $25 per share/unit
  43. 44. Open-end vs. Closed-end <ul><li>Open-end funds </li></ul><ul><li>Continuously sells to public </li></ul><ul><li>Redeems units directly </li></ul><ul><li>Fund size fluctuates </li></ul><ul><li>Sells at NAVPs </li></ul><ul><li>Closed-end funds </li></ul><ul><li>Trades on exchange </li></ul><ul><li>Shares sold on exchange </li></ul><ul><li>Liquidity varies </li></ul><ul><li>Stays stable </li></ul>
  44. 45. The Prospectus Should Include <ul><li>the investment objectives of the fund </li></ul><ul><li>the name of the company issuing the fund and its directors and managers </li></ul><ul><li>fees and expenses </li></ul><ul><li>how the fund is sold, as well as where and by whom </li></ul><ul><li>risks </li></ul><ul><li>how to purchase and redeem fund units </li></ul><ul><li>the fund's audited financial statements </li></ul>
  45. 46. Advantages of Mutual Funds <ul><li>Professional management </li></ul><ul><li>Diversification (including global access) </li></ul><ul><li>Lower commission charges </li></ul><ul><li>Liquidity </li></ul><ul><li>Record keeping </li></ul><ul><li>Flexibility of amounts </li></ul>
  46. 47. Disadvantages of Mutual Funds <ul><li>High cost for short-term investment </li></ul><ul><li>No guarantee of good performance </li></ul><ul><li>Not usually covered by insurance </li></ul>
  47. 48. Money Market Fund <ul><li>Objective: Safety of principal with modest returns. </li></ul>
  48. 49. Typical Income Fund <ul><li>Objective: Safety of principal and high income from bond interest and dividends from preferred and high-yield common stock. </li></ul>
  49. 50. Asset Allocation Fund <ul><li>Objective: Obtain higher returns by switching between asset classes as market changes. </li></ul>Year 1 Year 2
  50. 51. Bond Fund <ul><li>Objective: Varies. Stability and steady interest income and capital gains, or blend of both. </li></ul>
  51. 52. International Bond Fund <ul><li>Objective: Capital gains and income by targeting bonds in high inflation/high interest-rate countries. Also aim to capitalize on weaker Canadian dollar. </li></ul>
  52. 53. Example of a Equity Fund <ul><li>Objective: Capital appreciation through increases in stock values with some income from dividends. </li></ul>
  53. 54. Top Down and Bottom Up <ul><li>Top Down </li></ul><ul><li>Look at economy first </li></ul><ul><li>Then for growth sectors </li></ul><ul><li>Then for growth companies </li></ul><ul><li>Often in international funds </li></ul><ul><li>Bottom Up </li></ul><ul><li>Look at company first </li></ul><ul><li>Use detailed company analysis </li></ul><ul><li>Look for earnings momentum </li></ul><ul><li>Will pay higher price if growth potential warrants </li></ul>
  54. 55. <ul><li>EQUITY </li></ul><ul><li>Growth managers </li></ul><ul><li>Sector Rotator </li></ul><ul><li>Value managers </li></ul><ul><li>FIXED-INCOME </li></ul><ul><li>Short term </li></ul><ul><li>Mid term </li></ul><ul><li>Long term </li></ul><ul><li>Interest rate anticipators </li></ul><ul><li>Spread traders </li></ul>MANAGER STYLES
  55. 56. Value vs. Growth vs. Sector Rotators <ul><li>Value </li></ul><ul><li>Bottom-up </li></ul><ul><li>Research intensive </li></ul><ul><li>Out-of-favour stocks </li></ul><ul><li>Longer-term holdings </li></ul><ul><li>Low P/E </li></ul><ul><li>Lower costs </li></ul><ul><li>Higher dividend yield </li></ul><ul><li>Growth </li></ul><ul><li>Focused on earnings </li></ul><ul><li>Growth stocks </li></ul><ul><li>Hold medium-term </li></ul><ul><li>Higher P/E </li></ul><ul><li>Many holdings </li></ul><ul><li>Higher costs </li></ul><ul><li>Market timing </li></ul><ul><li>Sector Rotators </li></ul><ul><li>Top-down </li></ul><ul><li>Look for trends </li></ul><ul><li>Select growth sectors </li></ul><ul><li>Large-cap stocks </li></ul><ul><li>Many holdings </li></ul><ul><li>High costs </li></ul><ul><li>Market timing </li></ul>
  56. 57. <ul><li>Tend to buy stocks with high P/E ratios </li></ul>GROWTH EQUITY MANAGERS
  57. 58. <ul><li>They stress market timing </li></ul>SECTOR ROTATOR EQUITY MANAGERS
  58. 59. Altamira Equity Fund* Canadian Imperial Bank of Commerce Government of Canada Bond Inco Limited Alcan Aluminum Limited Placer Dome Inc. Wascana Energy Inc. Teck Corporation Brascan Limited Rogers Communications Inc. Anderson Exploration Ltd. *At Dec. 31, 1996. Gold, precious minerals, oil and gas, metals and minerals represented 54.5% of total holdings. TOP 10 HOLDINGS OF A TYPICAL SECTOR ROTATION EQUITY MUTUAL FUND
  59. 60. <ul><li>Tend to buy stock with low P/E ratios </li></ul>VALUE EQUITY MANAGERS
  60. 61. <ul><li>By asset type </li></ul><ul><li>By manager’s style </li></ul><ul><li>By capitalization </li></ul><ul><ul><li>large cap funds </li></ul></ul><ul><ul><li>small cap funds </li></ul></ul><ul><li>By sector </li></ul><ul><li>By geography </li></ul>WAYS TO DIVERSIFY
  61. 62. Time Return The two mutual funds that move up and down together are correlated. The mutual fund with the dashed line is not correlated to the others. MUTUAL FUND CORRELATION
  62. 63. <ul><li>International equity fund mixed with a mortgage fund </li></ul><ul><li>Or..... </li></ul><ul><li>An equity fund twinned with a fixed-income fund </li></ul><ul><li>* Based on historic returns </li></ul>DIVERSIFIED MUTUAL FUND PORTFOLIOS*
  63. 64. <ul><li>Index participation units </li></ul><ul><li>Segregated funds </li></ul><ul><li>Stock index-linked GICs </li></ul>ALTERNATIVES TO MUTUAL FUNDS
  64. 65. Mutual Fund Cost <ul><li>Direct </li></ul><ul><li>Sales Fees (front-end, back-end, both or no load). 0% to 9% </li></ul><ul><li>RRSP set-up fee </li></ul><ul><li>Switching fee </li></ul><ul><li>Transfer fee </li></ul><ul><li>Indirect </li></ul><ul><li>Management fee 1.5% to 3% </li></ul><ul><li>Operating expenses ½% </li></ul>
  65. 66. Management Expense Ratio (MER) MER = fees plus expenses x 100 average net assets
  66. 67. Example of a Front-end Load <ul><li>Suppose you invest $10,000 in a fund with a 4% front-end sales charge, and assume the NAVPS is $10.00. </li></ul>Shares purchased = gross investment = $10,000 = 960 shares or units purchase price/share $10.42/share Purchase price/share = NAVPS = $10 = $10.42 1 - fee 1 - .04
  67. 68. Example of a No-load Fund <ul><li>Suppose you invest $10,000 in a no-load fund with a NAVPS of $10.00. </li></ul>Shares purchased = gross investment = $10,000 = 1,000 shares or units purchase price/share $10.00/share
  68. 69. Example of a Sliding scale on a Back-end Load <ul><li>The longer you hold the fund, the less you will be charged. </li></ul>Percentage of selling price sold in the first year 6% second year 5% third year 4% fourth year 3% fifth year 2% sixth year 1% seventh year etc. 0%
  69. 70. CALLS – let you BUY shares at a set price up to a certain date. PUTS – allow you to SELL shares at a set price up to a certain date. BULLISH STRATEGIES: BUY a CALL or SELL a PUT BEARISH STRATEGIES: BUY a PUT or SELL a CALL OPTION BASICS
  70. 71. Strategy Advantage Disadvantage Buy a near-term call More leverage and less Limited time value; they money at risk expire quickly – referred to as “rapid time decay”. Buy a long-term call More time for rally to You have more money at happen risk. All other things being equal, long-term call will cost more than the short-term call. HOW TO PICK AN EXPIRATION MONTH - CALLS
  71. 72. Strategy Advantage Disadvantage Buy out-of-the-money* Cost less and more Need big move in stock calls leverage price Buy in-the-money calls* Better chance of making You have more money at a profit risk DECIDING ON A STRIKE PRICE - CALLS * You pay a charge called a premium when you buy an option. The premium reflects intrinsic and time values. In the case of a call option, if the market price of the stock is less than the strike or exercise price, the premium would be made up of just time value and referred to as “out-of-the-money”. But if the stock’s price rises to above the strike price before expiration, your call option would also have intrinsic value and would therefore be “in-the-money”.
  72. 73. PROFIT CHART FOR BUYING A CALL OPTION 25 30 35 40 45 50 55 60 -2 -2 -2 -2 3 8 13 18 $ Stock Price at Expiration $ Profit per Share Stock Price at Expiration $ Net Profit Per Share Current stock price at $40.00 Buy October 40 call at $2.00 Break Even: $42.00
  73. 74. PROFIT CHART FOR WRITING A CALL OPTION 25 30 35 40 45 50 55 60 2 2 2 2 -3 -8 -13 -18 $ Stock Price at Expiration $ Profit per Share Stock Price at Expiration $ Net Profit Per Share Current stock price at $40.00 Sell October 40 call option at $2.00 Break Even: $42.00
  74. 75. HOW TO PICK AN EXPIRATION MONTH - PUTS Strategy Advantage Disadvantage Buy a near-term put Leverage and less money Rapid time decay at risk Buy a long-term put More time for decline to You have more money occur at risk
  75. 76. HOW TO CHOOSE A STRIKE PRICE - PUTS Strategy Advantage Disadvantage Buy out-of-the-money Lower cost and more Need big move in stock puts leverage price Buy in-the-money-puts Better chance to make a You have more money at profit risk
  76. 77. PROFIT CHART FOR WRITING A PUT OPTION 25 30 35 40 45 50 55 60 -12 -7 -2 3 3 3 3 3 $ Stock Price at Expiration $ Profit per Share Stock Price at Expiration $ Net Profit Per Share Current stock price at $40.00 Write October 40 put at $3.00 Break Even: $37.00
  77. 78. PROFIT CHART FOR BUYING A PUT OPTION 25 30 35 40 45 50 55 60 12 7 2 -3 -3 -3 -3 -3 $ Stock Price at Expiration $ Profit per Share Stock Price at Expiration $ Net Profit Per Share Current stock price at $40.00 Buy October 40 put option at $3.00 Break Even: $37.00
  78. 79. Calculation of stock returns <ul><li>Annual return = dividend income + capital gain/loss for year </li></ul><ul><li>stock price at start of year </li></ul>Real rate of return = annual return - inflation rate
  79. 80. The “Best” Time to Invest <ul><li>Average Annual Rates of Return 1970 – 1994 </li></ul>Investments Made At: Market high each year 17.5% Market low each year 18.3% 0.8% Difference The best time to invest is… … whenever you have the money Source: Templeton International Fund Management
  80. 81. Average risk premium = rate of return - the treasury bill rate (called maturity risk for bonds)
  81. 82. Expected market return <ul><li>= T-bill rate + normal risk premium </li></ul><ul><li>The return investors expect they will earn over some future time period. </li></ul><ul><li>It is subject to uncertainty. It may or may not occur. </li></ul>
  82. 83. Required rate of return = risk-free rate + inflation premium investor wants more than the risk-free rate for investing in a risky security
  83. 84. The risk of a portfolio is less than the risk of the individual securities it holds BUILDING AND MANAGING YOUR PORTFOLIO
  84. 85. Most Volatile Less Volatile Manufacturing and Resources Consumer Finance and Utilities When buying stocks, diversify among the sectors
  86. 87. Case #1 A young, healthy single individual professional with medium investment knowledge and high risk tolerance, moderate tax rate and long time horizon: Cash 5% Fixed Income 25% Equities 70% 100% Case #2 A senior citizen in a low tax bracket with no income other than government pensions, a medium time horizon and low risk tolerance: Cash 8% Fixed Income 62% Equities 30% 100% Case #3 A middle-aged line factory worker, married with three teenaged children, who is a homeowner with great concerns about future employment and funding college education, and with low investment knowledge: Cash 10% Fixed Income 40% Equities 50% 100% Asset Mix Examples
  87. 88. CASH EQUITIES FIXED INCOME CASH EQUITIES FIXED INCOME 10% 70% 20% 5% 80% 15% <ul><li>Sell 10% Equity $$$ </li></ul><ul><li>Buy Fixed Income and Cash </li></ul><ul><li>This brings you back to your original asset allocation. </li></ul>Constant weighting asset allocation
  88. 89. CASH EQUITIES FIXED INCOME 10% 70% 20% <ul><li>Boost to 30% Fixed Income </li></ul><ul><li>Sell 10% of Fixed Income $$$ </li></ul><ul><li>This brings you back to your original asset allocation. </li></ul>Interest Rate Bond / Fixed-Income Price Tactical Asset Allocation
  89. 90. Holding period for TSE 300 in years Standard deviation of returns Volatility decreases with time
  90. 91. <ul><li>Average price = $10.45 </li></ul><ul><li>Total amount invested is $1,000 to purchase 95.67 units. The average cost per unit is $10.45 </li></ul>Dollar Cost Averaging Price $ Invested No. of units $11.50 $200 17.39 $10.50 $200 19.05 $11.00 $200 18.18 $ 9.50 $200 21.05 $10.00 $200 20.00 95.67
  91. 92. <ul><li>Fundamental analysis – company driven </li></ul><ul><li>You look at the Company </li></ul><ul><li>Technical analysis – Market driven </li></ul><ul><li>You look at stock price and volume trends </li></ul>FUNDAMENTAL VERSUS TECHNICAL ANALYSIS Fundamental vs technical analysis
  92. 93. <ul><li>Sales </li></ul><ul><li>Earnings </li></ul><ul><li>Dividends </li></ul>Three trends you want to see
  93. 94. <ul><li>Net profit margin </li></ul><ul><li>Return on equity </li></ul><ul><li>Earnings per share </li></ul><ul><li>Price/cash flow </li></ul><ul><li>Price/book value </li></ul><ul><li>Price/sales </li></ul><ul><li>Price/earnings </li></ul><ul><li>Current </li></ul><ul><li>Debt/equity </li></ul>9 ratios to help you check a company’s financial health
  94. 95. The Debt/Equity Ratio <ul><li>Tells you if firm is borrowing too much money </li></ul>Debt/equity ratio = short-term debt + long-term debt x 100 = % shareholder’s equity Rule: Debt should not be more than 50% of equity.
  95. 96. Return on Equity <ul><li>Tells you how profitably firm has used shareholder’ funds </li></ul>Return on equity = net earnings - preferred dividends x 100 = % common equity Rule: Compare with competitor companies
  96. 97. Earnings per Share <ul><li>Tells you how profitable your share of the company is </li></ul>Earnings per share = net earnings (before extraordinary items) - preferred dividends number of common shares Rule: Should increase consistently year over year
  97. 98. Cash Flow <ul><li>Gives you a clearer picture of the firm’s earning power </li></ul>Cash Flow = net earnings (before extraordinary items) - equity income + minority interest in earnings of subsidiary companies + deferred income taxes + depreciation + any other deductions not paid out in cash, e.g. depletion, amortization, etc. Rule: Compare to competitor companies
  98. 99. The P/E Ratio <ul><li>Might tell you if shares are under or overvalued </li></ul>P/E = market price of stock earnings per share Rule: In general, the lower the P/E, the better
  99. 100. Calculation of a Five Week Moving Average for a Particular Stock <ul><li>Week One $17.50 </li></ul><ul><li>Week Two 18.00 </li></ul><ul><li>Week Three 18.75 </li></ul><ul><li>Week Four 18.35 </li></ul><ul><li>Week Five 19.25 </li></ul><ul><li>Total $91.85 / 5 = $18.37 </li></ul>
  100. 101. Top Down and Bottom Up <ul><li>Top Down </li></ul><ul><li>Look at economy first </li></ul><ul><li>Then for growth sectors </li></ul><ul><li>Then for growth companies </li></ul><ul><li>Often in international funds </li></ul><ul><li>Bottom Up </li></ul><ul><li>Look at company first </li></ul><ul><li>Use detailed company analysis </li></ul><ul><li>Look for earnings momentum </li></ul><ul><li>Will pay higher price if growth potential warrants </li></ul>
  101. 102. Economic Analysis Industry Analysis Company Analysis Top-down approach
  102. 103. Six Steps Towards a Financial Plan (the investor) <ul><li>1. Financially, where are you? </li></ul><ul><li>2. What are your financial goals? </li></ul><ul><li>3. Are there any obstacles in your path? </li></ul><ul><li>4. What are your investment objectives? </li></ul><ul><li>5. What is your investment strategy? </li></ul><ul><li>6. Have you reviewed your financial plan lately? </li></ul>
  103. 104. Your Net Worth <ul><li>ASSETS </li></ul><ul><li>Cash & Equivalents </li></ul><ul><li>(bank accounts; CSBs) </li></ul><ul><li>$_______________________________ </li></ul><ul><li>Short-term Investments </li></ul><ul><li>(T-bills, money market funds, etc.) </li></ul><ul><li>$_______________________________ </li></ul><ul><li>Life Insurance cashable value </li></ul><ul><li>$_______________________________ </li></ul><ul><li>Longer-term Investments </li></ul><ul><li>(stocks, bonds, RRSPs, Pension fund) </li></ul><ul><li>$_______________________________ </li></ul><ul><li>Other Assets </li></ul><ul><li>(House (full value), car, art, jewelry etc.) </li></ul><ul><li>$_______________________________ </li></ul><ul><li>TOTAL ASSETS </li></ul><ul><li>$_______________________________ </li></ul>LIABILITIES Short-term Debt (credit cards, personal loans, etc) $_______________________________ Longer-term Debt (mortgage, other) $_______________________________ TOTAL LIABILITIES $_______________________________ NET WORTH (Total Assets - Total Liabilities) $_______________________________
  104. 105. Budgeting Income from employment your net income (or take home pay) income taxes & other company/government deductions <ul><li>necessary fixed expenses such as </li></ul><ul><ul><li>rent or mortgage,food </li></ul></ul><ul><ul><li>clothing, transportation </li></ul></ul><ul><ul><li>insurance, entertainment </li></ul></ul>Your discretionary income which you can use to spend and/or invest your net income (or take-home pay) less equals less equals
  105. 106. Setting Clear Goals AIM & $ AMOUNT = FINANCIAL GOAL Retire at Age 55 (Freedom 55) With Annual Income of $55,000
  106. 107. Sample Investment Strategy Statement <ul><li>&quot;My primary investment goal is to save for a comfortable retirement in 20 years through a portfolio that focuses on capital growth. I expect to outperform the stock market over time, understanding that occasional years of negative performance will be inevitable. Although income generation is not a concern, a portion of my portfolio will be maintained in conservative fixed-income securities to balance the riskier, growth-oriented stock portion.&quot; </li></ul>Statement Reflects: • Goal – comfortable retirement • Time horizon – 20 years • Objectives – capital growth through stocks • Risk tolerance – occasional negative performance, balanced by fixed-income securities.
  107. 108. Investment Policy Statement <ul><li>I. I am a moderately risk tolerant investor who wants to have some involvement in a money management approach to building wealth. </li></ul><ul><li>II. My primary objective is to have my money grow until I retire at approximately age 60 when I will want to convert those assets to income. </li></ul><ul><li>III. To accomplish this, I will keep no more than 10% of my portfolio liquid; about 30% in debt type assets and 60% dedicated to growth. </li></ul><ul><li>IV. Specifically, I will use my bank account and a money market mutual fund for the liquid portion; my company pension and a term deposit for the income component and growth mutual funds to offset inflation. On average, this portfolio should yield about 12% annually, fluctuating between 0% and 20%. </li></ul><ul><li>Signed___________________ Date___________________ </li></ul>
  108. 109. My Personal Investment Statement <ul><li>Level I ______________________________________________ </li></ul><ul><li>(Philosophy) ______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>Level II ______________________________________________ </li></ul><ul><li>(Objectives) ______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>Level III ______________________________________________ </li></ul><ul><li>(Asset Allocation) ______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>Level IV ______________________________________________ </li></ul><ul><li>(Security Selection) ______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>______________________________________________ </li></ul><ul><li>Date_________________________ Signed_________________________ </li></ul>
  109. 110. What’s Investing? <ul><li>Investing makes your money grow </li></ul><ul><li>Investing capitalizes on economic growth </li></ul><ul><li>Investing involves some level of risk </li></ul><ul><li>Investing rewards patience </li></ul><ul><li>Investing outpaces inflation </li></ul>
  110. 111. Investment Objectives <ul><li>Safety of principal </li></ul><ul><li>You don't want to lose your initial investment </li></ul><ul><li>Income </li></ul><ul><li>The regular payment of money that is earned from the investment </li></ul><ul><li>Growth </li></ul><ul><li>An increase in the value of your investment </li></ul><ul><li>Liquidity </li></ul><ul><li>The ability to turn your investment into cash very quickly </li></ul>
  111. 112. Life insurance defined... <ul><li>all insurance deals with risk </li></ul><ul><li>insurance protects against financial loss </li></ul><ul><li>life insurance protects against the loss of money that may occur as the result of someone’s death </li></ul>
  112. 113. 3 risks that threaten income <ul><li>death </li></ul><ul><li>disability </li></ul><ul><li>old age </li></ul>
  113. 114. Human life value <ul><li>earnings = $50,000 </li></ul><ul><li>interest rate = 10% </li></ul><ul><li>human life value = $50,000/10% X 100 = </li></ul><ul><li>$500,000 </li></ul>
  114. 115. Cash and income needs <ul><li>mortgage fund </li></ul><ul><li>emergency fund </li></ul><ul><li>dependency period income </li></ul><ul><li>spouse’s income </li></ul><ul><li>education fund </li></ul><ul><li>last expenses </li></ul>
  115. 116. Six Step Planning Process (the advisor) <ul><li>interview the client </li></ul><ul><li>data gathering </li></ul><ul><li>financial analysis </li></ul><ul><li>plan formulation and recommendations </li></ul><ul><li>plan implementation </li></ul><ul><li>monitoring and plan review </li></ul>