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Finance Basics Quiz
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Finance Basics Quiz

Created by
@EntrancedPlutonium

Questions and Answers

What is one method a company can use to raise new money?

Take out a loan from a bank

What is the principal that a company must pay back after taking a loan?

The sum initially borrowed

Which of these is a method for a company to raise funds through the capital markets? (Select all that apply)

  • Issuing shares (correct)
  • Selling real estate
  • Taking out a loan
  • Issuing bonds (correct)

    • A person who buys shares is called a shareholder.

    <p>True</p> Signup and view all the answers

    What are MTFs in the context of securities trading?

    <p>Multilateral trading facilities</p> Signup and view all the answers

    What is the fundamental goal from an investor's standpoint when buying securities?

    <p>To optimize the level of return at an acceptable level of risk</p> Signup and view all the answers

    What can investments in securities potentially deliver over cash deposits?

    <p>Higher returns</p> Signup and view all the answers

    What is diversification in investment?

    <p>Investing in a diverse range of securities and asset classes to spread risk.</p> Signup and view all the answers

    Securities are guaranteed to outperform cash investments.

    <p>False</p> Signup and view all the answers

    Which of the following is an avenue for generating returns on investment?

    <p>Both A and B</p> Signup and view all the answers

    The principle of buying and selling securities is similar to buying and selling __________.

    <p>used cars</p> Signup and view all the answers

    What is liquidity in the context of securities?

    <p>The ability to buy or sell a security without significant effect on market price.</p> Signup and view all the answers

    Match the following investment types to their features:

    <p>Ordinary Shares = Ownership and potential dividends Bonds = Interest payments at fixed intervals Bearer Securities = Ownership by physical possession Private Placings = Shares offered privately, not publicly traded</p> Signup and view all the answers

    Who invests in securities?

    <p>Individual investors, pension schemes, life insurance companies, and mutual funds.</p> Signup and view all the answers

    Investment banks cater directly to retail investors.

    <p>False</p> Signup and view all the answers

    What does 'pari passu' mean in the context of shares?

    <p>Shares have the same rights and status as ordinary shares under certain conditions</p> Signup and view all the answers

    What must a company fulfill to list its securities on a recognised investment exchange?

    <p>Conditions specified under the listing requirements.</p> Signup and view all the answers

    Foreign investors may be restricted from holding more than a specified percentage of the total issued capital in some companies.

    <p>True</p> Signup and view all the answers

    What is a characteristic of preference shares?

    <p>Preference shareholders receive fixed dividends.</p> Signup and view all the answers

    What is the term for the amount paid back to bondholders at maturity?

    <p>Principal</p> Signup and view all the answers

    Preference shares may be __________ or non-cumulative.

    <p>cumulative</p> Signup and view all the answers

    In case of liquidation, which group is paid first?

    <p>Senior secured debt</p> Signup and view all the answers

    What is the coupon payment in bond terminology?

    <p>The periodic interest payment made to bondholders.</p> Signup and view all the answers

    A preference shareholder is guaranteed a dividend every year.

    <p>False</p> Signup and view all the answers

    Sovereign risk refers to the risk that a government will fail to __________ its debt obligations.

    <p>honor</p> Signup and view all the answers

    Match the following types of bonds with their description:

    <p>Government Bonds = Debt instruments issued by stable governments Domestic Bonds = Bonds issued in the local currency of the issuing country Foreign Bonds = Bonds issued by a foreign issuer in the local market</p> Signup and view all the answers

    What is the equity risk premium?

    <p>The additional return generated on equities compared to bonds.</p> Signup and view all the answers

    What type of bonds are typically considered the most secure marketable investments?

    <p>Government bonds</p> Signup and view all the answers

    What currency are dividends paid by British Land distributed in?

    <p>US Dollars</p> Signup and view all the answers

    Holders of British Land ADRs are entitled to instruct NYC to cancel their ADR at any point.

    <p>True</p> Signup and view all the answers

    What is the typical settlement cycle for ADRs?

    <p>T+2</p> Signup and view all the answers

    ADRs trade on US stock exchanges and ___ markets.

    <p>OTC</p> Signup and view all the answers

    What must ADR holders pay when converting their ADR back to the underlying share?

    <p>Conversion fee</p> Signup and view all the answers

    Shares must be paid for in foreign currency when purchasing ordinary shares in the local market.

    <p>True</p> Signup and view all the answers

    What is a pre-release facility in the context of depositary receipts?

    <p>A process that allows trading of DRs before actual underlying shares are deposited.</p> Signup and view all the answers

    How is accrued interest calculated using the 30/360 convention?

    <p>Accrued interest is calculated based on a standardized 30-day month and a 360-day year.</p> Signup and view all the answers

    How is accrued interest calculated using the actual/365 convention?

    <p>Accrued interest is calculated based on the actual number of days in the periods and using a 365-day year.</p> Signup and view all the answers

    How much interest will the buyer pay to the seller for £200,000 8% bonds after 100 days of accrued interest?

    <p>The accrued interest is £4,000.</p> Signup and view all the answers

    How much interest will the seller pay to the buyer for £100,000 7% bonds after 175 days of accrued interest?

    <p>The accrued interest is £2,500.</p> Signup and view all the answers

    What do warrants provide to the investor?

    <p>Warrants provide the right to purchase shares or bonds at a specified price before a specified date.</p> Signup and view all the answers

    What is referred to as the premium in relation to warrants?

    <p>The premium is the amount paid by an investor to purchase a warrant.</p> Signup and view all the answers

    What characterizes a warrant being out-of-the-money?

    <p>A warrant is out-of-the-money if the underlying share price is lower than the strike price.</p> Signup and view all the answers

    What are American-style warrants?

    <p>American-style warrants can be exercised at any time on or before their expiry date.</p> Signup and view all the answers

    What defines a covered warrant?

    <p>A covered warrant is issued by a financial institution and provides the right to buy or sell an underlying asset.</p> Signup and view all the answers

    How do depositary receipts (DRs) function for foreign companies?

    <p>DRs represent shares of a foreign company and are traded in the domestic market of investors.</p> Signup and view all the answers

    What is a Yankee bond?

    <p>Issued in US dollars</p> Signup and view all the answers

    What is a Samurai bond?

    <p>Issued in Yen</p> Signup and view all the answers

    What is the main characteristic of a convertible bond?

    <p>It can be converted into shares of the issuing company</p> Signup and view all the answers

    Zero coupon bonds pay interest periodically.

    <p>False</p> Signup and view all the answers

    What is a floating-rate note (FRN)?

    <p>A bond whose coupon is linked to a floating interest rate.</p> Signup and view all the answers

    What do asset-backed securities (ABS) represent?

    <p>Securities issued against a pool of loans</p> Signup and view all the answers

    Define a Mortgage-Backed Security (MBS).

    <p>A type of asset-backed security that uses a pool of mortgage loans as collateral.</p> Signup and view all the answers

    How is the coupon payment for index-linked bonds adjusted?

    <p>Based on movement in retail prices</p> Signup and view all the answers

    Green bonds are exclusively issued by government entities.

    <p>False</p> Signup and view all the answers

    The difference between the clean price and the dirty price reflects the _____ interest.

    <p>accrued</p> Signup and view all the answers

    What is the formula for calculating accrued interest?

    <p>Accrued interest = nominal value × coupon for the period × days of accrual / days in coupon period</p> Signup and view all the answers

    What is a cum-interest transaction?

    <p>A transaction agreed upon before the coupon payment date where the seller receives interest.</p> Signup and view all the answers

    What is an ex-interest transaction?

    <p>A transaction where accrued interest is subtracted from the clean price.</p> Signup and view all the answers

    Which interest calculation method assumes 30 days in each month?

    <p>30/360</p> Signup and view all the answers

    Study Notes

    Investment Operations Certificate Overview

    • The manual corresponds to syllabus version 18.0 for examinations from 21 August 2023 to 20 August 2024.
    • Prepared by the Chartered Institute for Securities & Investment (CISI).
    • Author: Kevin Petley, Chartered FCSI; Reviewers: Stephen Lacey, Chartered MCSI; Henrietta Wu.
    • Estimated study time required: approximately 80 hours.

    Chartered Institute for Securities & Investment (CISI)

    • Leading professional body for the investment sector with a commitment to enhancing knowledge, skills, and integrity.
    • Annual candidate examinations total around 50,000 and require the use of CISI learning workbooks.
    • Candidates who are not already members receive free student membership for one year upon registration for examinations.

    Study Material Features

    • Workbook includes a full syllabus and multiple-choice questions for revision.
    • An ebook version of the workbook may include interactive elements such as video clips, adjustable text size, annotations, and links to external resources.
    • The learning material is designed for both examination preparation and ongoing professional development.

    Securities and Investment Fundamentals

    • Companies need capital for development and can raise funds through loans or capital markets.
    • Securities can be issued to raise equity financing (shares) or debt (bonds).
    • Shares sold represent ownership stakes in companies, while bonds are debt instruments issued in return for cash.

    Investor Motivations for Buying Securities

    • Risk/Return Balance: Investors seek optimal returns at acceptable risk levels; higher potential returns usually involve greater risk.
    • Superior Performance: Securities may yield higher long-term returns compared to bank deposits, but are not guaranteed to outperform.
    • Diversification: Investing across different types of securities and asset classes spreads risk and offers multiple growth and income opportunities.
    • Regulatory Oversight: Securities markets are typically well-regulated, providing investor protection against malpractice.
    • Liquidity: Many securities allow for quick buying and selling without significantly impacting market prices.
    • High Volume Trading: Securities often trade in significant volumes, which can reduce transaction costs for investors.

    Examination Preparation Notes

    • Regular updates regarding changes in industry practices, regulations, and examination details are available on the CISI website.
    • A learning map outlining the full syllabus can be found at the end of the workbook.
    • Candidates are encouraged to engage with educational resources and feedback options provided by the CISI.### Investment Costs and Returns
    • Securities trading generally incurs lower costs than other investment categories.
    • Two principal investment return sources: capital appreciation and income payments.

    Capital Appreciation

    • Defined as the increase in a security's price, allowing investors to sell for profit.
    • Example: Buying 100 shares at £0.80 and selling at £1.60 yields a capital gain of £80.
    • Share price increase is often linked to strong company profits.

    Income Payments

    • Investors can receive dividends (for equities) or fixed interest (for bonds).
    • Dividends reflect a company's profit-sharing decided during annual general meetings.
    • Bonds typically pay a fixed rate of interest known as the coupon.

    Who Invests in Securities?

    • Not limited to individual investors; encompasses pension schemes, life insurance companies, and mutual funds.
    • Pension funds invest in securities to ensure income for members upon retirement.
    • Government entities and sovereign wealth funds seek diversified portfolios for risk management.
    • Investment management companies handle funds from private investors and institutional clients.
    • Investment banks trade in securities both as principal (own investments) and agency (clients’ investments).

    Characteristics of Shares (Equities)

    Ordinary Shares

    • Ordinary shares represent ownership in a company and are known as equities.
    • Equity capital from ordinary shares does not need to be repaid and reflects ownership.
    • Shareholder rights include dividends, voting at meetings, and sharing in liquidation assets.
    • Non-voting shares offer no voting rights at AGMs or EGMs.

    Share Registration

    • Shareholder information is recorded in a company’s register.
    • The UK's register consists of a physical part and a dematerialized part via the CREST system.
    • CREST updates ownership records, ensuring public access and transparency.

    Listing of Securities

    • Listed securities are accepted for trading on recognized exchanges, ensuring a regulated marketplace.
    • Benefits include liquidity, price determination based on supply and demand, and investor protection.
    • Unlisted securities trade off-exchange or through private placements, which have fewer regulations.

    Bearer Securities

    • Ownership rests with the physical holder; legal title requires possession of the certificate.
    • Bearer securities have seen a decline due to ownership transparency initiatives.

    Transfer Restrictions

    • Restrictions may apply to transferring securities based on investor nationality or minimum holding sizes.
    • Certain securities may face transfer limitations during bankruptcy or legal situations.

    Preference Shares

    • Companies use preference shares to raise capital without affecting ordinary share ownership.
    • These shares do not grant voting rights and provide fixed dividends.
    • Preference shareholders are prioritized for dividend payments and liquidation returns.
    • Types include cumulative (unpaid dividends roll over) and non-cumulative (missed dividends are lost).
    • A company’s liquidation order involves satisfying debts from secured debt to ordinary shares last.### Preference Shares
    • Redeemable preference shares can be bought back by the company at a future date.
    • Example: A 3% cumulative preference share worth £0.40 has dividends of 3% and is redeemable in 2025.
    • Participating preference shares allow shareholders to receive additional dividends proportional to ordinary dividends declared.
    • Convertible preference shares enable shareholders to convert them into ordinary shares at a future date.

    Debt Instruments Overview

    • Debt instruments are interest-bearing securities used by borrowers to raise capital.
    • Issued by companies, governments, or agencies and sold to investors.
    • Borrowers promise to repay capital and make periodic interest payments (coupons).
    • Corporate bondholders face lower risk compared to shareholders, with returns on equities potentially higher over time (equity risk premium).

    Bond Characteristics

    • Bondholders have priority over shareholders regarding claims on the company’s assets.
    • Bonds provide predictable returns and fixed interest payments, unlike ordinary shares which depend on company performance.
    • Example: £1,000 bond with a 7% coupon provides £70 annually for five years, returning the nominal value of £1,000 at maturity.

    Company Perspective on Bond Issuance

    • Bonds allow companies to secure fixed-term financing at lower rates compared to bank loans.
    • Issuing bonds does not dilute equity ownership or share profits among bondholders.

    Coupon Payments

    • Coupons are interest payments based on the bond's nominal value, traditionally cut from physical certificates.
    • Payments can be gross (without tax withheld) or net (with tax withheld), depending on tax regulations.
    • Common coupon payment schedules include annually, semi-annually, and quarterly.

    Maturity and Redemption

    • Bonds mature at the end of the loan period when the principal amount is repaid.
    • Maturities categorized into short (0–7 years), medium (8–15 years), and long (15+ years).

    Bond Yields

    • Yield refers to the return on investment, expressed as a percentage of the bond’s price.
    • Flat yield is calculated based on the interest payment relative to the bond's market price.

    Default Risk

    • Bond prices reflect interest rates and the issuer's ability to meet payment obligations.
    • Credit ratings from agencies like Standard & Poor’s assess the likelihood of default.
    • AAA-rated bonds are the most secure, while BB-rated and below are classified as speculative.

    Types of Fixed Income Instruments

    • Government Bonds: Issued by stable governments, low default risk; includes Treasuries (US), gilts (UK), JGBs (Japan), and Bunds (Germany).
    • Domestic Bonds: Issued in the borrower's local currency, under local regulatory authority.
    • Foreign Bonds: Issued by foreign issuers in local markets (e.g., Yankee bonds in the US).
    • Eurobonds: Bonds issued outside the issuer's country while denominated in a foreign currency.
    • Convertible Bonds: Allow conversion into shares, typically offer lower interest rates but potential for capital gains.
    • Discount Securities: Issued below face value with no interest payments; gain realized at maturity.
    • Floating-Rate Notes (FRNs): Coupon payments linked to floating interest rates, adjusting with market rates.
    • Asset-Backed Securities (ABS): Securities backed by pools of loans that transfer cash flow risks to investors.
    • Mortgage-Backed Securities (MBS): Use mortgage loans as collateral; investors receive payments from underlying mortgage interest and principal.
    • Index-Linked Bonds: Coupons and principal adjusted based on inflation measures (e.g., Retail Prices Index in the UK).

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    Test your knowledge on corporate finance concepts including methods to raise funds, the principle of loans, and the roles of shareholders. This quiz covers key topics related to securities trading and investment goals. Perfect for students in finance or anyone interested in understanding financial markets.

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