I.

UNDERSTANDING REAL AND FINANCIAL ASSETS

Real Assets - things like land, building, real estate and other “fixed” investments.

As business start this process, the acquisition of such assets, their storage,
management, deployment requires medium and long-term commitment provided by
raising capital in the form of financial assets (loans, bonds, equities) until the time that
products they make can be distributed, profits realized and the owners of financial
assets compensated.

Financial Assets - refer to instruments which have a financial claim on underlying real
assets.

II. HISTORY OF STOCK MARKETS, PLAYERS, FUNDS

*Equities are only about 25% of world financial assets, the rest is debt.
*BRIC market, frontier market

Mutual funds - pools of money that investors can subscribe to on a periodic basis,
depending on the type of asset class or risk they want. Pools of investment capital that
are raised and “professionally” managed according to specified investment objectives.
They are viewed as a practical and low cost way for individuals or businesses who do
not have the skill, time or patience to understand financial markets but want to
participate in them. (i.e. Fidelity Investments in the US offers the Fidelity Funds
Network; criteria for investments are divided into international and domestic; domestic is
subdivided by asset class (stock, bond, money-market, blends), by the market
capitalization of funds (large-cap, mid-cap, small-cap, micro-cap), each by investment
style (growth, value, indexed), by industry sector (such as retail, pharma,
infrastructure)).

SWF - sovereign wealth funds; a new entrant that come out of the Gulf, meaning oil
money. The largest one is the Norwegian SWF. Also China Investment Corporation,
Temasek in Singapore. These are state-owned pools of capital, usually financed from a
country’s foreign exchange reserves and which are invested to benefit the country’s
economy and citizenry. Many are commodity-related with the bulk of it being derived
from oil.

Hedge funds - pools of money that seek alternative investments away from the beaten
sort of financial asset track. Pools of money like mutual funds but organized as
partnerships. They tend to carry substantial amounts of leverage and invest in illiquid
corners of the market. Some of the leverage comes from positions in derivative
instruments such as futures and options. Unlike mutual funds therefore, hedge funds
frequently require that investors commit to leave their invested capital in that fund for a
long period of time, known as a “lock-up” period. The standard cost structure is known
as 2 and 20, which accrues to the managers. It refers to 2% of assets as a management
fee and 20% of the performance generated by the fund.

Private Equity - refers to equity that is not listed on any stock exchange. PE-funds
typically take large stakes in private companies, sometimes even buying companies
outright. They invest for the longer term and take larger risks than the mutual funds.
Private equity activity can include buying distressed companies, and providing
management services to maximize the chances of a turnaround. It can also include
investment in young/emerging sectors of the market and is accompanied by a focus on
new technologies, current favorites are renewable energy, social media.

HISTORY:

Speculative interest in financial assets has been documented as early as the 12th
century, in France, Belgium, Italy, where managing and trading agricultural commodities
and their associated debts gathered importance with trade.

Antwerp had a stock exchange in the 16th century, the Dutch East India Company was
the first joint-stock company in the early 1600s, with the first stock exchange being
established in London in 18th Century.

Philadelphia saw the first US exchange soon thereafter and before the New York Stock
Exchange.

The Bombay stock exchange started in 1875 was the first in Asia.

Further,

The success of mutual funds in aggregating investment dollars from retail investors and
charging a fee for providing professional investment management services has directly
spawned the ETF industry or Exchange Trade Funds. ETFs are designed as static,
fixed portfolios with pre-set weights for each company in that portfolio. (i.e. Market
Vectors Retail ETF which has a 9.5% weight in Walmart and a 9% weight in Amazon.
These weights do not change. By buying an ETF, an investor gets immediate exposure
to a whole portfolio of companies in that space.)

III. FINANCIAL ANALYSTS

*Earnings Season refers to a periodic, public reporting of a companies’ performance

over the preceding quarter.
*Public financial check-up
Academics in the US who study analyst recommendations find that:

a) big upgrades or downgrades affect prices short term (1-2 days)

b) new initiations of analyst coverage affect prices longer term – 30 days

c) curiously, new initiations by major firms do not affect prices

d) Monday announcements are rare, but upgrades impact prices.

*Again, in the US, Regulation Fair Disclosure (Reg FD), requires that analysts disclose
information on a level playing field. Reg FD has its origins in allegations that analysts
may have selectively informed favored clients about forthcoming recommendations, and
that those with contacts in the companies were privy to information that was not publicly
available at that time. While on the surface, transparency is a laudable goal, it may also
have an unintended consequence that companies may just stop signaling to the
markets and therefore, that information does not get properly reflected in the market
price.

IV. RETAIL INVESTORS IN EQUITY MARKETS

As individuals, we care about absolute performance (ending up with more money than
you started with). Institutions, in contrast, concern themselves with relative performance
(did i beat an index? did i do better than the large proportion of people who have
investment objectives that are similar to mine?)

The other difference that retail investors have as opposed to institutional ones is the
ability to stay out of the market if they want. This is partly because of the fiduciary
responsibility that institutions have to manage money for clients who have given the
money to do so, they tend to be fully invested.

Index Fund - a portfolio of assets that is invested in some broad-based index of your
choice.

What type of investor you want to be depends on a complicated amalgam of

preferences, tastes, risk-taking abilities that you possess.

V. RATES OF RETURN

Ex. You put up $50 at the beginning of the year for an investment. The value of the
investment grows 4% and you earn a dividend of 3.5%. Your HPR was ___.

Answer:
4% + ($3.50 / $50) = 11%
Ex. The holding period return on a stock was 32%. Its beginning price was $25 and its
cash dividend was $1.50. Its ending price must have been _________.

Answer:
(P1 + 1.50 - 25) / 25 = 0.32 => $31.50

Ex. Suppose you pay $9,400 for a $10,000 par Treasury bill maturing in six months.
What is the effective annual rate of return for this investment?

Answer:
((10,000/9,400)^(12/6))-1 = 13.17%

Ex. The arithmetic average of -11%, 15% and 20% is ________.

Answer:
(-11%+15%+20%)/3 = 8.00%

Ex. The geometric average of -12%, 20% and 25% is _________.

Answer:
{{(1+(-0.12))(1+0.20)(1+0.25)}^(1/3)} - 1 = 9.70%

Ex. An investment earns 15% returns in the first year. Assuming tax rates of 25%, what
is the after-tax rate of return on this investment?

Answer:
15*(1-0.25) = 11.25%

Stop calculating na.

Usually about US tax laws na diri…

VI. MEASURING EXPECTED RETURNS, DISCUSSING RISK

*Manage your risks and the returns will take care of themselves.

VII. MARKET INDEXES

*Dow Jones Industrial Average
*S & P 500
*Nifty
*BSE

*Russell family of indexes

*Morgan Stanley Capital International (MSCI)
*Inverse indexes
*Leveraged indexes

VIII. INITIAL PUBLIC OFFERING

*A critical part of the process of going public involves setting the offer price. This
mechanism could be done through book-building - get estimates of demand and supply
from those potential investors.

Prospectus - legal document that details the list of disclosures made.

VIII. PRIMARY MARKETS

*Google did a Dutch auction. In a Dutch auction, it is trying to get an estimate of supply
and demand for the new issue of securities from the investing public in a way that is
different from the typical roadshows and presentations that Wall Street does. A number
of shares will be offered to the public and a range of prices. Investors would specify
shares and price.

Primary markets are markets where securities go public, offered to investors in the
public space for the first time.

IX. TYPES OF MARKETS

Secondary markets - trade

1. Direct search market

2. Brokered markets
3. Farmer’s market
4. Dealer’s market
5. Auctions

*Equity market - two way

Euronext in Europe and Instinet in the US were among the first such platforms that
enabled institutional holders of securities to electronically execute trades in stocks.

More commonly called ECNS (electronic communications networks), such platforms

offer lower transaction costs, participant anonymity and faster execution speeds and are
therefore increasingly taking market share from the organized exchanges globally.

X. TYPES OF ORDERS

Bid prices - prices at which dealers will buy things from you
Ask prices - prices at which dealers will sell things to you
Ticker tapes - recording prices as and when the transaction actually happens
Spread - difference between bid and ask and is an estimate of the profit the dealer will
make.
Depth - number of shares the dealer will purchase or sell at the specified price.

*bid, ask, spread, depth = quote

If you want more control over the price that is either received or paid, you can resort to
limit orders or stop orders. The clip talks about the limit order where you specify a price
at which you wish to transact and your order is time-stamped into an electronic limit
order book to be executed if and when your target price is reached. Here, price is
paramount.

A somewhat hybrid version is the stop order. Like the limit order, you specify a price in
the stop order as well, but it serves only as a trigger. Once the trigger price is reached in
the market, your order immediately converts to a market order, namely that it will be
executed at the next available price, better or worse.

Day-order - lasts for that particular trading day

Good-till-canceled order - order stays on the book until canceled
Trailing stop order - place your stop order to sell always at a predetermined level below
the current market in order to protect yourself against adverse price movements