1. Objectives A. Understand Investments
B. Understand differences between financial and real assets in the economy
C. Understand types of financial markets and trends in those markets
D. Understand the Investment Process 1

2. BM410 – 3 Investments
Issues in the Industry, Interships, and 2

3. A. Understand Investments
What is an Investment?
Current commitment of money or other resources in the expectation of reaping future benefits.
What is Sacrifice?
Is there a difference?
Interestingly, in the church we interchange the two. 3

4. Investments (continued)
Are there priorities of Investments?
What are your most important investments?
Your family and your testimony 4

5. My Most Important Investments5

6. Investments (continued)
What are your other key investments?
Education and Skills
Knowledge and Friendships
Food Storage and Emergency Funds
Real and Financial Investments
Do not be too narrow in your view of investments 6

7. Investments (continued)
What investments will we be working with in this class?
Generally financial investments:
Stocks (equities), bonds, options, futures, etc, (with reference to other important investments as well)
Will the analysis skills we will be learning be useful for other investments as well?
Yes, they can be used in analyzing any type of investment, whether it’s a dental or medical office practice, a small business, a department of a larger business, or even a home. 7

8. Questions?
Do we understand investments? 8

9. B. Understand the Differences between Financial and Real Assets
What determines the wealth of a society?
The wealth of a society is determined by the productive capacity of the economy
The productive capacity is a function of the “real or productive assets” in the economy
What are Real Assets?
Assets used to produce goods and services, e.g., land, machines, buildings, and knowledge
What are Financial Assets?
Claims on real assets which define ownership of income streams, e.g., stocks, bonds, warrants, etc. 9

10. Financial and Real Assets (continued)
What are the three purposes of financial assets?
1. Consumption timing
Shift consumption to the most optimal time period
2. Allocation of Risk
Shift risk to those most willing to bear it (at the expectation of higher return)
3. Separation of Ownership and Management
Separates functions and allows for large firms to be managed professionally (hopefully) 10

11. Questions
Do you understand the difference between real and financial assets? 11

12. Question 1-1
Suppose you discover a treasure chest of $10 billion in cash.
A. Is this a real or financial asset?
B. Is society any richer for the discovery?
C. Are you wealthier?
D. Can you reconcile your answers to (b) and (c)? Is anyone worse off as a result? 12

13. Answer 1-1
A. Cash is a financial asset because it is a liability of the government.
B. No. The cash does not directly add to the productive capacity of the economy.
C. Yes.
D. Society as a whole is worse off, since taxpayers as a whole will have to make up for the liability that you found, and before you found it they would not have had to make up for the liability 13

14. D. Types of Financial Markets and Trends in those markets
What are the major types of financial market?
1. Direct Search Markets
Buyers/sellers seek each other out
Example: Classified ads
2. Brokered Markets
Brokers offer search services
Example: Primary market, large block trades 14

15. Types of Financial Markets (continued)
3. Dealer Markets
Dealers specialize in specific assets
Example: OTC
4. Auction Markets
Traders converge on a single place
Example: NYSE 15

16. Trends in Financial Markets
What are the major trends in financial markets?
1. Globalization
2. Securitization
3. Financial Engineering
4. Computer Networks (Technology and delivery of service)
The Future? 16

17. Trends (continued) 1. Globalization Why is this trend coming about?
International and Global Markets continue developing to meet the needs of global investors
Managing foreign exchange is becoming critical to managing returns
Diversification is becoming more important
Instruments and vehicles continue to develop to meet the global needs of investors/businesses
Information and analysis continues to improve
Examples: ADRs, WEBs, the Euro 17

18. Trends (continued) 2. Securitization and Credit Enhancement
Why is this trend coming about?
It offers more and better opportunities for investors and originators of loans
It requires changes in financial institutions and regulation
It seeks improvement in information capabilities and requirements
It encourages credit enhancement and its role in capital formation
Examples: GNMA, securitization of car loans, credit card loans, and home equity loans 18

19. Trends (continued) 3. Financial Engineering
Why is this trend coming about?
It allows repackaging of services of financial intermediaries to meet a specific need or objective
It encourages bundling and unbundling of cash flows to meet investor needs for cash flow timing
It provides new profit opportunities for those with the expertise to fill the needs
Examples: strips, CMOs, dual purpose funds, principal/interest splits 19

20. Trends (continued)
4. Computer Networks, i.e., Technology and Delivery of Service
Why is this trend coming about?
Computer advancements reduce costs
More complete and timely information is available (and needed)
Competition is increasing as domestic firms compete globally and global firms compete in the US
Trading hours have widened to meet investor needs
Examples: online trading, internet, ECNs 20

21. Trends (continued) What will happen in the future?
These trends are expected to continue
Globalization continues and offers more opportunities for all who are prepared
Securitization continues to develop, and increases dramatically in the Emerging Markets (less developed countries)
Development of derivatives and exotics will continue to meet investor needs
Technology will continue to develop and improve
Greater integration of investments & corporate finance will lead to greater need for good analysts 21

22. Questions?
Do you understand the main financial markets and trends? 22

23. Problem 1-7
Why would you expect securitization to take place only in highly developed capital markets and countries, and not yet in many emerging markets such as Russia, Iran, and Pakistan? 23

24. Answer 1-7
Securitization requires access to a large number of potential investors. To attract them the capital market needs:
A safe system of business laws and low probability of confiscatory taxation/regulation
A well developed investment banking industry
A well developed system of brokerage and financial transactions
A well developed media, particularly financial reporting
These functions are found in and need a well developed capital market. 24

25. D. Understand the Investment Process
Define the investment process?
The process by which decisions are made relating to all aspects of investment including planning, analysis, implementation, and review
It’s a process of determining your current financial state, your objectives, constraints, policy, investing, and then monitoring your investments with the intent of reaching your specific goals
It is not as simple as it seems
There’s a whole industry set up to help you establish a framework
Association for Investment Management and Research (which sponsors the CFA program) 25

26. The Investment Process (continued)
What are the four major steps to the investment process?
1. Specifying Objectives
2. Specifying Constraints
3. Formulating Policies
4. Monitoring and Updating the Portfolio 26

27. Questions?
Do we understand the investment process? 27

28. Problem 1-13
What are some advantages and disadvantages of top-down versus bottom-up investing styles? 28

29. Answer 1-13
Top Down
Under top-down investment strategy, you focus on the asset allocation or broad composition of the entire portfolio, which is the greatest determinant of your performance. It is also a natural way to establish a portfolio with a risk level appropriate for you. The disadvantage is that you could give up potential high returns from individual securities that may be attractive. 29

30. Answer 1-13
Bottom Up
Under bottom-up investing, you try to benefit from finding undervalued securities. The disadvantage is that you tend to overlook the overall composition of your portfolio, which may result in a non-diversified portfolio. It also tends to require more active management, hence higher costs. 30

31. Review of Objectives Do you feel comfortable with: A. Investments?
B. The differences in financial and real assets in the economy?
C. The types of financial markets and trends in those markets?
D. The Investment Process? 31