Investment fundamentals chapter 13
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Investment Fundamentals Chapter 13. Personal Finance FIN 235. General Objectives. Reasons for Establishing Investment Plans/Programs Funding investment programs Understanding the relationships between; risk, return, liquidity, income, and growth How to manage risk

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Investment Fundamentals Chapter 13

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Investment fundamentals chapter 13

Investment FundamentalsChapter 13

Personal Finance

FIN 235


General objectives

General Objectives

  • Reasons for Establishing Investment Plans/Programs

  • Funding investment programs

  • Understanding the relationships between; risk, return, liquidity, income, and growth

  • How to manage risk

  • Considering bonds as part of your portfolio

    • Government

    • Corporate

  • How to evaluate bond investments


Funding investment programs

Funding Investment Programs

  • Systematic savings plans

    • Many start with a savings account

    • Regular weekly or monthly deposits

    • Regular payroll deductions

  • Participation in 401(k) plan at work

    • Many employers make contributions or add based on employee contribution.

    • Setting aside a small percentage of pay (3 to 5%)

  • The most important factors:

    • Start early

    • Don’t use funds during accumulation period except for emergencies

    • Early withdrawals subject to penalties and taxes


Establishing investment plans programs

Establishing Investment Plans/Programs

  • Establishing Investment Goals

  • Performing a Financial Checkup

    • Work to Balance Your Budget

    • Obtain Adequate Insurance Protection

    • Start an Emergency Fund

    • Have Access to Other Sources of Cash for Emergency Needs

  • Getting the Money Needed to Start an Investment Program

    • Priority of Investment Goals

    • Employer-Sponsored Retirement Plans

  • The Value of Long-Term Investment Programs

    • Financial Independence

    • Maintaining your lifestyle in retirement


Understanding the relationships

Understanding the Relationships

  • Safety and Risk; run in opposite directions

  • Components of the Risk Factor

    • Inflation Risk (maintain purchasing power)

    • Interest Rate Risk (change in values as rates change)

    • Business Failure Risk (investment goes sour)

    • Market Risk (ups and downs of the market)

  • Investment Income (interest, dividends)

  • Investment Growth (capital gains)

  • Investment Liquidity (sell quickly and cheaply)


Managing risk

Managing Risk

  • Portfolio Management and Asset Allocation

    • Asset Allocation (stocks, bonds, international, cash)

    • The Time Factor (short or long term)

    • Your Age (get more risk averse as you get older)

  • Your Role in the Investment Process

    • Evaluate Potential Investments

    • Monitor the Value of Your Investments

    • Keep Accurate Records

    • Do some research before you commit to a course of action


Bonds as part of your portfolio

Bonds as Part of Your Portfolio

  • Advantages

    • Known payouts (interest payments, principal at maturity)

    • Risk a function of credit ratings (AAA – D)

  • Disadvantages

    • Interest Rate risk

    • Default risk

    • Costly to trade (liquidity may be a problem)

  • Government Bonds

    • No defaults

    • Lower rates

    • Semi-annual coupons

    • Municipal bond interest exempt from federal taxation


Bonds as part of your portfolio1

Bonds as Part of Your Portfolio

  • Corporate Bonds

    • Better yields

    • Increased chance of default (especially lower rated bonds)

    • Quarterly coupons

    • Secured and unsecured categories as well convertibles

  • Basic Bond Strategies (if trading)

    • If rates expected to rise, keep maturities short

    • If rates expected to fall, go long maturities

    • Inflation expectations is major factor in forming rates


Evaluating bond investments

Evaluating Bond Investments

  • Returns: Stocks vs. Bonds

    • Since 1926: Bonds average 5.6% per year, Stocks 10.4%

    • Over a 30 or 40 year investment period, the roughly 5% difference in returns can add up to s significant amount

    • Example: Invest $200 per month for 30 years

      • Bond Portfolio = $186,198

      • Stock Portfolio = $492,554

    • Annuity Example: Payout the above accumulation for 25 years

      • Bond ($186,198); monthly check = $1,154.56

      • Stock ($492,554); monthly check = $4,615.47


Concluding comments

Concluding Comments

  • Bonds may be safer than stocks, but the returns are significantly lower.

  • Government Bonds are safer than Corporate Bonds but the returns are slightly lower.

  • Timing is important when adding bonds or bond funds to your portfolio.

    • Expectations about future inflation is a key decision criterion

    • Global economic conditions are also a factor.


Homework

Homework

  • Do The Math: 1, 4, 6

  • Be Your Own Personal Financial Planner

    • 2 – Readiness to invest (w/s 49)

    • 4 – Your long-term investment strategy (w/s 51)


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