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Presented By Capital Markets Program Investing A little can really add up! Save \$ per week at % interest in 10 years you’ll have \$7.00 5% \$4,720 14.00 5% \$9,440 21.00 5% \$14,160 28.00 5% \$18,880 35.00 5% \$23,600

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Presented By

Capital Markets Program

Investing

A little can really add up!

Save \$ per weekat % interestin 10 years you’ll have

\$7.00 5% \$4,720

14.00 5% \$9,440

21.00 5% \$14,160

28.00 5% \$18,880

35.00 5% \$23,600

You can buy … a fast food meal or one movie ticket or … You can save \$7.00 this week.

You can buy … one large pepperoni pizza, delivered or one new CD or … You can save \$14.00 this week.

What will you give up to attain your financial goals?

Saving Must Be a Priority

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The Rule of 72

How many years will it take to double my money?

72 DIVIDED BY

= YEARS TO DOUBLE MONEY INTEREST RATE

• A 6% rate of return will double my money every 12 years (72 / 6)

At what interest rate will my money double in a set number of years?

72 DIVIDED BY

= INTEREST RATE REQUIRED YEARS TO DOUBLE

A SUM OF MONEY

• To double my money in 9 years requires a rate of return of 8% (72 / 9)

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Types of Savings Accounts

Passbook Account

• Depositor receives a booklet in which deposits, withdrawals, and interest are recorded.
• Funds are easily accessible.

Statement Account

• Basically the same as a passbook account, except depositor receives monthly statements instead of a passbook.
• Accounts accessible through 24-hour automated teller machines (ATMs).
• Interest rates are the same as passbook account.
• Funds are easily accessible.

Interest-Earning Checking Account

• Combines benefits of checking and savings.
• Depositor earns interest on any balances in his/her account.
• Interest rates are typically lower than passbook and statement savings accounts

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Money-Market Accounts

What they are and how they work

• Checking/savings account, where bank invests funds in high-quality, liquid, short-term debt securities (i.e. money market securities).
• Interest rate varies with size of balance and current level of market interest rates.
• Can access your money from an ATM, a teller, or by writing up to three checks a month.

Benefits

• Average yield (rate of return) higher than regular savings accounts.

• Usually requires a minimum balance of \$1,000 to \$2,500.
• Limited number of checks can be written each month.

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Certificates of Deposit (CDs)

What they are and how they work

• Bank pays a fixed interest rate for a fixed amount of time.

Benefits

• No risk (FDIC/FSLIC insured).
• No fees.
• Offers higher interest rates than savings and money market accounts.

• Withdrawal penalty if cashed before expiration date.

Special certificates of deposit

• Indexed CDs – e.g.earnings based on stock market performance.
• Promotional CDs – attempt to attract savers with gifts or special rates.

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Bonds (Debt)

What they are and how they work

• A bond is an “IOU,” certifying that you loaned money to a government or corporation and outlining the terms of repayment.
• Bond generally pay a fixed rate of interest (coupon) paid periodically (e.g. semiannually) for a stated period of time (bond maturity).
• When the time is up and the bond has “matured”, the bond is redeemed for the full face (par) value (investor receives coupon and par amount).

Benefits

• Senior claim on the issuer, often secured by assets (i.e. collateralized)
• Potentially stable source of income

• Limited upside
• Potential market risk (bond prices and market rates are inversely related)

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Bonds (Debt)

Corporate

• Sold by private companies to raise money.
• If company goes bankrupt, bondholders have first claim on the assets, before stockholders and even the IRS. Claims may be secured by specific assets of the firm.

Municipal

• Issued by any non-federal government entity (e.g. state and local governments, school districts, transportation authorities, etc).
• Interest paid comes from taxes or from revenues from special projects.
• Earned interest is exempt from federal income tax.

Federal government

• The safest investment you can make. Default risk-free securities.

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Stocks (Equity)

What they are and how they work

• Stock represents ownership of a corporation. Stockholders are entitled to a share of the profits as well as to a vote in how the company is run.
• Company profits may be divided among shareholders in the form of dividends. Dividends are usually paid quarterly.
• Larger profits can be made through an increase in the value of the stock on the open market (i.e. capital appreciation).

• If the market value goes up, the gain can be considerable.
• Money is easily accessible (assuming publicly-traded shares).

• If market value goes down, the loss can be considerable.
• Selecting and managing stock often requires study and the help of a good brokerage firm or fund manager.

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Mutual Funds

What they are and how they work

• Professionally managed portfolios of stocks, bonds, and other investments.
• Individuals buy shares, and the fund uses the money to purchase stocks, bonds, and other investments.
• Profits returned to shareholders monthly, quarterly, or semi-annually in the form of dividends and capital gains.

• Broad portfolio diversification, normally only available to large investors.

• Management fees can be high
• Liquidity may be limited (i.e. penalties for early withdrawal)

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Mutual Funds
• Balanced Fund includes a variety of stocks and bonds.
• Indexed Fund includes a variety of stocks designed to track the market.
• Global Bond Fund has corporate bonds from around the world.
• Global Stock Fund has stocks from companies in many parts of the world.
• Growth Fund emphasizes companies that are expected to increase in value (i.e. capital appreciation); also has higher risk.
• Income Fund features stock and bonds with high dividends and interest.
• Industry Fund invests in stocks of companies in a single industry (such as technology, health care, banking).
• Municipal Bond Fund features debt instruments of state and local governments; generates tax-exempt income.
• Regional Stock Fund involves stocks of companies from one geographic region of the world (e.g. Asia, Latin America, emerging markets, etc).

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Real Estate

What it is and how it works

• Buy a house, live in it, and sell it later at a profit.
• Buy income property (such as an apartment house or a commercial building) and rent it.
• Buy land and hold it until it rises in value.

• Provides protection against inflation.
• Interest expenses are tax deductible.
• Excellent means of investment portfolio diversification.

• Can be difficult to convert into cash (i.e. illiquid asset).
• A specialized investment requiring study and knowledge of business.
• Financing is critical.

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Taxes
• Interest earned on savings accounts, CDs, bonds and any other debt securities is taxed as ordinary income (i.e. taxed at the personal marginal tax rate of up to 35.9%).
• Dividends earned on stock are taxed as ordinary income.
• Realized price appreciation of securities (i.e. when a security or real estate investment increases in market value and the investor sells) is called capital gains.
• If the security or real estate investment is held by the investor for at least 1 year prior to the sale, capital gains are taxed at the long-term capital gains rate of only 15%.

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Retirement Plans

What they are and how they work

• Tax-advantaged plans that help individuals save for retirement.
• Corporate pensions are largely a thing of the past.
• Today, corporations tend to encourage personal retirement savings by matching the employee’s contributions to their retirement plan (up to some limit).
• The individual saves while employed and self-directs the investments within the plan.
• Penalty charges apply if money is withdrawn before retirement age (usually 59.5 years old), except under certain circumstances, including:
• account owner becomes disabled
• educational expenses
• purchase of a first home

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Retirement Plans

Individual Retirement Account (IRA)

• Allows a person to contribute up to \$4,000 of “pre-tax” earnings per year.
• Funds are taxable when withdrawn from account at retirement.

Roth IRA

• While the \$4,000 maximum annual contribution to this plan is not “tax deductible”, the earnings on the account are tax-free after five years.

401(k)

• Allows a person to contribute up to \$15,000 to a savings plan from his or her “pre-tax” earnings, reducing the amount of tax that must be paid.
• Employer matches employee contributions up to a certain level.
• Roth 401(k) plans are now available.

Keogh Plan

• Allows a self-employed person to save up to 20% of “pre-tax” income (but not more than \$44,000 per year).

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Retirement Plans – Example

Q: How do you make a small fortune in the market?

Day traders are in and out of investments very quickly. They look for one-off opportunities to make significant profits. While some prosper, most do not. Day trading is effectively gambling.

Investing, on the other hand, is a disciplined, long-term strategy built upon strong fundamentals. So a more serious answer to our question:

Q: How do you make a small fortune in the stock market?

A: Commit to a disciplined, long-term investment strategy.

Let’s look at an example of such a strategy:

Personal Wealth Calculator

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Strategy

Diversification

• Investors can maintain their expected returns but eliminate about 40% of their risk via diversification.
• All rational investors diversify their portfolios.

Risk

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# of Stocks

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Strategy

Management

• Efficient Market Hypothesis.
• Generating above market returns generally requires taking above market risks (the risk / return trade-off). There are no free lunches.
• Over 40,000 PhD, MBA and CFA finance professionals worldwide.
• Managed funds generally do not outperform the market over the long-run.
• Basic balanced funds can be an exception.
• Consequently, practical advice and guidance can be valuable, but paying large management fees does not usually lead to above market returns.

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Strategy

Conclusion

• Invest in mutual funds to attain diversification.
• Specifically, invest in index funds and “basic” balanced funds (low management fees).
• Include international stocks and bonds in your portfolio.
• Some portion of your portfolio should be in cash as well (e.g. T-bills, money market accounts, CDs, etc.).
• Moreover, you should consider including real estate in your investment portfolio (increased diversification).
• Do not make investment decisions driven primary by taxes, but understand the tax implications.
• Take advantage of all opportunities to save for retirement.

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