Investments: Background and Issues

Investments involve choosing between real assets (physical things) and financial assets (claims on things and earnings of entities).
Financial assets play a crucial role in the economy:
- Information dissemination
- Timing of consumption
- Allocation of risk
- Separating ownership and management (corporate governance)
Investment process involves identifying opportunities, analyzing them, and managing portfolios.
Markets are competitive, reflecting a risk-return trade-off.
Efficient markets are characterized by rapid adjustments to new information.
Key players in financial markets include financial intermediaries, investment bankers, venture capital/private equity firms, and fintech firms.
The 2008-2009 financial crisis originated from housing finance changes, mortgage derivatives, and credit default swaps, leading to systemic risk.
Dodd-Frank Act aimed to reform the financial system.

Money market instruments include Treasury bills, certificates of deposit, commercial paper, bankers' acceptances, Eurodollars, repos, reverses, brokers' calls, federal funds, LIBOR, and money market funds.
Bond market includes Treasury notes/bonds, inflation-protected Treasury bonds, federal agency debt, international bonds, municipal bonds, and corporate bonds.
Equity securities include common stock (representing ownership), preferred stock, and depositary receipts.
Stock and bond market indexes measure overall market performance (Dow Jones Industrial Average, S&P 500).
Derivative markets involve options and futures contracts.

Firms issue securities in primary markets through private or public offerings or via shelf registration (initial public offerings).
Secondary markets trade existing securities using different mechanisms: dealer markets, electronic markets, computerized order crossing.
Electronic trading (including ECNs, algorithmic trading, high-frequency trading, and dark pools) influences market structure.
Globalization affects stock market trading.
Trading costs involve commissions and market fees.
Margin buying allows investors to leverage their investments, while short sales let investors profit from anticipated price declines.
Regulations in securities markets including self-regulation, Sarbanes-Oxley Act, and insider trading laws.

Investment companies (unit investment trusts, managed investment companies, exchange-traded funds) pool investor funds.
Mutual funds offer diversification and professional management.
Investment policies, fund sale mechanisms, costs (fees, tax implications), and performance evaluation of mutual funds are of concern.
Exchange-traded funds (ETFs) resemble mutual funds but trade like stocks.

Describing investment returns involves measures of risk, return, and the historical record.
Inflation impacts real interest rates.
Historical record shows variations in risk/return.
Diversification reduces portfolio risk.
Investors can use the capital asset pricing model (CAPM) and arbitrage pricing theory (APT) to evaluate stocks and their portfolios.

Behavioral finance examines investor biases and psychological factors.
Information processing, limits to arbitrage, bubbles, and market anomalies can all influence investment decisions.
Technical analysis involves studying market trends and patterns for identifying trading opportunities.

Bond characteristics include maturities and payment schedules (coupon dates), affecting pricing and yields.
Factors like default, market conditions, and investor demand influence bond pricing and yields.
Yield curve reflects expected interest rates, affected by liquidity preference or expectations theories.
Managing bond portfolios involves considering interest rate risk, duration, immunization, and active/passive strategies.

Global economic factors shape macroeconomic conditions (GDP, employment, inflation).
Interest rate trends/cycles, government policies (fiscal & monetary), and business conditions impact asset valuation.
Industry analysis scrutinizes factors like industry structure, life cycle, and performance, influencing investment strategy selections.

Estimating intrinsic stock values using tools like dividend discount model, price-earnings ratio, and free cash flow analysis.
Assessing the relationship between valuation ratios and growth opportunities.
Identifying limitations of valuation models.

Analyzing firm performance through key financial statements.
Metrics like profitability (return on assets, return on capital, return on equity) and ratios reflect performance and industry comparisons.
Identifying differences in financial statement quality in the context of value investing (Graham techniques) is integral to financial analysis.

Measuring and evaluating investment performance (using risk-adjusted methods such as Sharpe Ratio, Treynor Ratio, & Information Ratio).
Understanding active management strategies like market timing & performance attribution.

Global equity markets, exchange rate risk, political risk, & international performance attribution.

Comparing hedge funds and mutual funds; strategies and performance measurement.
Analyzing hedge fund performance and fee structure, considering liquidity and selection bias.

Understanding the impact of taxes and inflation on investment returns and long-term strategies.
Considering retirement plans, tax shelters, and home ownership decisions.