FTIP flashcards
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32 cards. Read the term and the definition here. The deck at the top of this page is optional.
- Residual claim
- The right of common shareholders to a firm's assets and earnings after all creditors and preferred holders are paid, which is why equity is riskier than debt.
- Put-call parity
- For European options on a non-dividend stock, C minus P equals S minus the present value of the strike; deviations permit arbitrage by combining options and the underlying.
- Bid-ask spread
- The difference between the highest price a buyer will pay and the lowest price a seller will accept; it compensates market makers and is a cost to traders.
- Forward versus futures
- Forwards are customized OTC contracts with counterparty risk; futures are standardized, exchange-traded, and settled daily through a clearinghouse, reducing default risk.
- Money market instruments
- Short-term debt securities maturing in one year or less, including Treasury bills, commercial paper, and certificates of deposit, used for liquidity and cash management.
- Weighted average cost of capital
- The blended required return on a firm's debt and equity, weighted by market values and using after-tax cost of debt, used to discount free cash flows.
- Gordon growth model
- A dividend discount model valuing a stock as next year's dividend divided by the difference between required return and constant growth; requires growth below required return.
- Free cash flow to equity
- Cash available to shareholders after operating expenses, taxes, reinvestment, and net borrowing; it is discounted at the cost of equity in valuation.
- DuPont analysis
- Decomposes return on equity into net profit margin, asset turnover, and financial leverage, revealing whether returns come from operations or from borrowing.
- Enterprise value
- Market value of equity plus debt minus cash, representing the total value of a business; paired with EBITDA for capital-structure-neutral valuation multiples.
- Terminal value
- The present value of all cash flows beyond the explicit forecast period, commonly estimated with a perpetuity growth formula or an exit multiple.
- CAPM
- A model stating expected return equals the risk-free rate plus beta times the market risk premium; it compensates only systematic risk that cannot be diversified.
- Efficient frontier
- The set of portfolios offering the highest expected return for each level of risk; portfolios below it are inefficient because risk is not compensated.
- Sharpe ratio
- Excess portfolio return divided by portfolio standard deviation; it measures reward per unit of total risk and suits evaluating fully diversified portfolios.
- Strategic asset allocation
- Long-term target weights across asset classes set from the client's objectives, risk tolerance, and horizon, providing the portfolio's policy benchmark.
- Diversification effect
- Risk reduction from combining assets whose returns are imperfectly correlated; the lower the correlation, the greater the reduction in portfolio volatility.
- Portfolio beta
- The weighted average of constituent asset betas, measuring the portfolio's sensitivity to market movements and used to estimate required return.
- Rebalancing
- Restoring portfolio weights to targets, either on a calendar schedule or when weights drift past a threshold, which enforces disciplined buy-low and sell-high behavior.
- Value at risk
- A loss threshold not expected to be exceeded over a stated horizon at a given confidence level; it ignores the magnitude of losses beyond that threshold.
- Expected shortfall
- The average loss in the worst tail beyond the value-at-risk threshold; it is a coherent risk measure and captures tail severity that VaR omits.
- Modified duration
- The percentage change in a bond's price for a small change in yield, equal to Macaulay duration divided by one plus yield per period; it ignores convexity.
- Convexity
- The curvature of the price-yield relationship; positive convexity means price gains exceed losses for equal yield moves, improving on duration estimates.
- Expected loss formula
- Expected credit loss equals probability of default times loss given default times exposure at default; it drives loan pricing and provisioning.
- Liquidity risk types
- Funding liquidity is the ability to meet obligations as due; market liquidity is the ability to trade quickly without significantly moving prices.
- Stress testing
- Evaluating portfolio or firm losses under extreme but plausible scenarios, complementing statistical measures that rely on historical data.
- Fiduciary duty
- The obligation to act in the client's best interest, comprising loyalty (avoiding or disclosing conflicts) and care (competence, diligence, prudence).
- Suitability standard
- A requirement that recommendations match the client's objectives, risk tolerance, time horizon, liquidity needs, and financial circumstances.
- Mosaic theory
- Acting on conclusions assembled from public and nonmaterial nonpublic information is permitted; trading on material nonpublic information is not.
- Priority of transactions
- Client accounts must receive investment opportunities before the professional's personal accounts, protecting clients from front-running and conflicts.
- Risk tolerance components
- Risk tolerance combines willingness to take risk (psychological attitude) with ability to bear risk (financial capacity); advice must respect the lower of the two.
- Emergency reserve
- Liquid, low-risk funds covering three to six months of essential expenses, held before committing assets to longer-term, higher-volatility investments.
- Asset location
- Placing tax-inefficient assets in tax-deferred accounts and tax-efficient assets in taxable accounts to improve after-tax portfolio returns.