Chapter 13:

Investment Fundamentals and Portfolio Management

Objectives

Summarize reasons why people invest, what is required before beginning, how returns are earned, and some ways to obtain funds to invest. Determine your own investment philosophy. Recognize the variety of investments available. Identify the major factors that affect the return on investment. Specify some strategies of portfolio management for long-term investors. List three guidelines to use when deciding the best time to sell investments.

Establishing Investment Goals

Financial goals should be specific and measurable. Why are you accumulating these funds? How much do you need? How will you get it? How long will it take you to reach your goal? How much risk are you willing to assume? Are you willing to sacrifice current consumption to invest for the future? Is it realistic to try and save this amount?

Steps to Create a Personal Investing Plan

Step 1 My investment goals are: ____________________ ____________________ Step 2 By ___________, I will have obtained $_______. Step 3 I have $__________ available to invest. Date _____________

Step 9 Continue evaluating choices.

Step 8 Final decision 1._______________ 2._______________

Step 4 Possible investment alternatives: 1._________________ 2._________________ 3._________________ 4._________________

Step 7 Investment decision 1._______________ 2._______________ 3._______________

Step 6 Projected return on each alternative 1.__________ 2.__________ 3.__________ 4.__________

Step 5 Risk factors for each alternative 1.____________________ 2.____________________ 3.____________________ 4.____________________

Investment Fundamentals
ATTENTION!
Difference

in return is a major distinction between savings and investing.

Successful

investors begin to live off earnings, without spending wealth itself.

Preparations for Investing

WHY PEOPLE INVEST:
Achieve financial goals
Increase current income Gain wealth and financial security Have funds available for retirement

Preparations for Investing

PREREQUISITES TO INVESTING:
Live within means Continue savings program Establish lines of credit Carry adequate insurance Establish investment goals

Preparations for Investing

INVESTMENT RETURNS:
Interest
Dividends Rent Capital gain/loss Rate of return or yield

Performing a Financial Checkup

Learn to live within your means pay off high interest credit card debt Provide adequate insurance protection Start an emergency fund three to nine months of living expenses Have other sources of cash for emergencies line of credit cash advance

Getting Money to Start an Investing Program

Pay yourself first Participate in elective savings programs Payroll deduction electronic transfer Make a special effort to save one or two months

a year Take advantage of windfalls Invest half of your tax refund

Value of Having a Long-Term Investing Program

Many people dont start investing because

they only have a small amount to invest

but....

Small amounts invested regularly

become large amounts over time

Personal Investment Philosophy

Handling risk

Ultraconservative strategies
Conservative Moderate

Aggressive

Investment Selection

Lend or own Short-term or long-term

Choose a vehicle

Factors That Affect Investment Decisions

Safety - minimal risk of loss Risk - uncertainty about the outcome inflation risk interest rate risk business failure risk market risk

Income From Investments

Safest CDs savings bonds T-bills Higher potential income municipal bonds corporate bonds preferred stocks mutual funds real estate

Investment Growth and Liquidity

Growth increase in value common stock growth stocks retain earnings bonds, mutual funds and real estate Liquidity ease and speed to convert an asset to cash

Investment Pyramid
Commodities Junk bonds Options High Quality Stocks Mutual funds Utility stocks Government Securities Money Market High risk

Rental property

Corporate bonds Low risk

CDs

Savings Accounts

Cash

Major Factors That Affect Rate of Return

INVESTMENT RISK:
Pure Speculative

Risk pyramid

Major Factors That Affect Rate of Return

INVESTMENT RISK TYPES:

Inflation
Deflation Interest rate

Financial

Market volatility
Political

Major Factors That Affect Rate of Return

INVESTMENT RISK:
Random or unsystematic Diversification Market or systematic

Major Factors That Affect Rate of Return

Leverage

Taxes
Marginal tax rate Taxable vs. tax-free income

Buying and selling costs/commissions

Inflation

Major Factors that Affect Rate of Return

CALCULATE REAL RATE OF RETURN:

Identify before-tax return Subtract marginal tax rate Obtain net return after taxes Subtract estimate of inflation Obtain real rate

Management Strategies Long-Term Investors

Business-cycle timing Dollar-cost averaging

Portfolio diversification
Asset allocation

Investment Alternatives
What is stock? part ownership in a

company the money you pay for shares of stock provides equity capital for the business

Investment Alternatives

(continued)

What is a bond? a loan to a corporation, the federal government, or a municipality The interest is paid twice a year, and the principal is repaid at maturity (1-30 years) You can keep the bond until maturity or sell it to another investor

Investment Alternatives

(continued)

What is a mutual fund?

investors money is pooled and invested by a professional fund manager
you buy shares in the fund

provides diversification to reduce risk

funds range from conservative to extremely speculative

match your needs with a funds objective

Monitor Your Investments

Read your account statements Chart the value of your investments Maintain accurate and current records Calculate the current yield %

annual income from investment

market value of the investment

Sources of Investment Information

Newspapers Business Periodicals Government Publications Corporate Reports Statistical Averages Investor Services and newsletters
Standard and Poors stock reports Value Line Moodys investment service

Investment Philosophies

Best Time to Sell

Take profits Cut losses

If wouldnt buy it now, sell it