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Questions and Answers
Why can investments be viewed as a delivery mechanism?
Why can investments be viewed as a delivery mechanism?
Which of the following time frames is associated with a long-term horizon?
Which of the following time frames is associated with a long-term horizon?
Which of the following influences one's risk tolerance?
Which of the following influences one's risk tolerance?
What formula represents the holding period return based on the given data?
What formula represents the holding period return based on the given data?
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What does liquidity risk refer to?
What does liquidity risk refer to?
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Which type of risk is defined as the risk of unfavorable business conditions caused by weakness in the overall economy?
Which type of risk is defined as the risk of unfavorable business conditions caused by weakness in the overall economy?
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How does standard deviation differ from semi-variance?
How does standard deviation differ from semi-variance?
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What does the efficient market hypothesis suggest about the current market price of an individual security?
What does the efficient market hypothesis suggest about the current market price of an individual security?
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Which hypothesis states that technical analysis is ineffective?
Which hypothesis states that technical analysis is ineffective?
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What is the correct definition of mean reversion?
What is the correct definition of mean reversion?
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Study Notes
Asset Allocation and Investment Planning
- Steps in asset allocation planning include considering personal factors, identifying investment alternatives, and employing portfolio management principles.
- Investments serve as a delivery mechanism by transforming savings into future spending and helping create assets to fund goals.
Personal Considerations in Asset Allocation
- Personal factors affecting asset allocation include current resources, projected future cash flows, taxes, and risk tolerance.
- The time horizon for long-term investments is generally understood to be between 15 to 35 years.
Investment Policies and Risk Tolerance
- Short-term investment policies typically include instruments like money market funds and short-term bonds.
- Normal long-term asset allocation aligns with long-term and very long-term horizons.
Risk Tolerance Influencers
- Factors influencing risk tolerance consist of personality, upbringing, and types of future cash flows.
Holding Period Return
- Defined as the sum of dividends or interest plus gains in principal, divided by the original cost of investment.
- If dividends are 45,000,gainsare45,000, gains are 45,000,gainsare2,500, and the original cost is $365,500, the holding period return is approximately 11.5%.
Risks Related to Investments
- Liquidity risk refers to the potential to sell assets for less than market value.
- Market risk is associated with overall declines in stock or bond markets; economic risk relates to adverse conditions caused by economic weakness.
Measurement of Price Fluctuations
- Standard deviation is a common measure of price fluctuations, encompassing both gains and losses.
- Semi-variance measures only fluctuations resulting in losses, differentiating it from standard deviation.
Efficient Market Hypothesis
- The semi-strong form posits that all publicly available information is reflected in stock prices, indicating historical data does not provide an advantage.
- Strong form efficient market hypothesis states that technical analysis is ineffective for all investors.
Mean Reversion Concept
- Mean reversion suggests returns move towards average performance over longer time frames.
Bond Safety
- Bonds are seen as safer because the principal is generally repaid in full, bondholders have priority in bankruptcy situations, and they offer steady income.
Defensive Stocks
- Defensive stocks are less impacted by economic cycles and grow at average or below-average rates compared to the overall market.
Mutual Funds Overview
- Weaknesses associated with mutual funds include overhead costs and tax implications.
- Contrary to this, mutual funds benefit from diversification, pooling investors for joint management.
Exchange-Traded Funds (ETFs)
- ETFs typically have a lower cost structure than mutual funds and trade intraday like stocks.
- The false characteristic of ETFs is that they are traditionally actively managed.
Total Portfolio Management
- Takes into account all household assets and their interactions.
- Investment decisions reflect individual asset returns, risks, and correlation among assets.
Performance Evaluation Questions
- Key questions during performance evaluation include assessing overall performance, reasons for deviations, and future improvement strategies.
Strengths and Risks of Financial Assets
- Fundamental risks include market, liquidity, economic, inflation, political, regulatory, currency, technological, preference, industry-specific, and company risks.
- Strengths of mutual funds, not detailed in the questions but possibly including diversification, professional management, and accessibility, should be more thoroughly discussed.
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Description
Test your knowledge with Chapter 10 questions on investment planning and asset allocation. This quiz covers critical concepts, including steps in the planning system for managing investments. Enhance your understanding and prepare effectively for your assessments.
