Tutorial 1- Introduction to Investment

1. Summarize the basic nature of the investment decision in one sentence.

- The basic nature of the investment decision for all investors is the upward-sloping
tradeoff between expected return and risk that must be dealt with each time an
investment decision is made.

2. One of the attributes of investment is to break down the investment into categories. Define
THREE (3) categories of investment.

-Securities:- Stocks, bonds, options

-Real Property:- land, buildings
-Tangible Personal Property:- gold, artwork, antiques, collectables

3. Define risk, and explain its relationship with return.

- In general, the term risk as used in investments refers to adverse circumstances affecting
the investor’s position.
- Risk can be defined in several different ways.
- Risk is defined here as the chance that the actual return on an investment will differ from
its expected return.
- It has a positive relationship with return, when the risk is increasing, the return should be
increasing as well to compensate the investor for taking the risk. Its relationship is shown as a
positive linear upward-sloping in the risk and return trade-off.

4. Explain other constraints besides risk do investors face?

-Return and risk form the basis for investors establishing their objectives.
-Some investors think of risk as a constraint on their activities.
- If so, risk is the most important constraint.
- Investors face other constraints, including:
 time  taxes  transaction costs  income requirements
 legal and regulatory constraints  diversification requirement

5. Who are institutional investors? Explain how their action affect the investing environment.

- Institutional investors include bank trust departments, pension funds, mutual

funds (investment companies), insurance companies, and so forth.
- Basically, these financial institutions own and manage portfolios of securities on behalf of
various clienteles.
- They affect the investing environment (and therefore individual investors) through their
actions in the marketplace, buying and selling securities in large dollar amounts that lead to
the volatility of the stock prices.
- However, although they appear to have several advantages over individuals (research
departments, expertise, etc.); reasonably informed individuals should be able to perform as
well as institutions, on average, over time. This relates to the issue of market efficiency.

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6. Investors should always seek to maximize their return from investing. Agree or disagree?

- Disagree. If investors sought only to maximize their returns, they would purchase the
riskiest assets, ignoring the risk they would be taking.
- Once again, investors must seek a balance between expected return and risk.

7. Differentiate direct investing and indirect investing.

-Direct investing
- involves the purchase and sale of securities or properties where investor has direct claim
on it.
- Indirect investing
- involves the purchase and sale of a portfolio managed by financial intermediaries where
investor owns an interest in a professionally managed collection of securities or properties.

8. Common stock represents an ownership share of a corporation, and investor can get two
sources of return from it. Define the two form of return. Do all common stocks pay
dividends? Who decides?

- Two form of return from stocks are dividend and capital gain. - There is no requirement
for a company to pay a dividend on the common stock.
- Any payment is decided by the company’s board of directors, who can change the
dividend (or abolish it) at any time.

9. Briefly explain the types of investment that you aware of.

- Short-term Investments
- are conservative investments with lives of 1 year or less
- Provide high liquidity

- Common Stock
- Represents an ownership share of a corporations
- Return comes through dividends and capital gains

- Fixed-income Securities
- Bonds - Convertible Securities - Preferred stock

- Mutual funds
- Portfolio of stocks, bonds, and other securities created by pooling the funds of many
different investors
- Allow investors to construct diversified portfolios without investing a lot of money.

- Exchange-traded funds (ETFs)

- Like mutual funds, except ETF shares trade on exchanges, so investors can buy and sell
them at any time that exchanges are open for trading.

-Hedge Funds
- Funds that pool resources from different investors, but usually have higher minimum
investments and are less regulated than mutual funds

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 - Derivatives
- Include options and futures contracts
- Securities that derive their value from some underlying asset (e.g., a share of stock or a
commodity)

- Other Popular Investments

- Real estate - Tangible

10) People tend to have different investment philosophies as they go through different stage
of life cycle. Using example, explain the stage of life cycle and how investor should form
their investment in different stage.

- Growth-oriented youth stage

– Twenties and thirties
– Growth-oriented investments
– Higher potential growth; higher potential risk
– Stress capital gains over current income

- Middle-Aged Consolidation Stage

– Ages 45 to 60
– Family demands & responsibilities become important (education expenses, retirement
savings)
– Move toward less risky investments to preserve capital
– Transition to higher-quality securities with lower risk

- Retirement Stage
– Ages 60 and older
– Preservation of capital becomes primary goal
– Highly conservative investment portfolio
– Income needed to supplement retirement income

- Investor can invest in different assets to meet different objective throughout the stages of
life cycle.
- For instance: Investor can invest in common stocks, futures, and options for growth
oriented youth stage.
- Subsequently, they can invest in low-risk growth and income stocks, preferred stocks,
convertible stocks, high-grade bonds in middle age consolidation stage.
- Hence, they can invest in low-risk income stocks and mutual funds, government bonds,
quality corporate bonds, bank certificates of deposit in the retirement stage.

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Tutorial 2 – Risk and Returns

1) Explain the importance of return.

- Return indicates how rapidly an investor can build wealth.

- If return is higher, the lesser the time needed to build required wealth.
- Allow the investor to measure their investment performance
- If it has higher return means the investment is doing well.

2) Explain why internal characteristics and external forces are the key factor in return.

- Return is greatly influenced by the internal characteristics of an investment, such as:-

i) types and risk of the investment
ii) issuer's management
- Issuer's management can be one of the key element in the internal characteristics as a
good management will generally produce a good return due to efficient management
of internal resources.
iii) issuer's financing
- The issuer's financing also lead to the variation in return depending on the stability
of the issuer's financial.
- A strong financial of firm generally generate higher return than those who are weak.
- Investment with higher return generally consist of higher risk, as the uncertainty
have to be compensated by higher return.

- External forces are the forces other than the internal characteristics that affect the return of
an investment.
- The forces can be:
a) political environment,
b) business environment,
c) economic environment -financial crisis is one of the economic environment which
greatly affect the stock investment performance.
d) inflation and
e) other forces which affect the return of an investment.

3) Distinguish between market risk and business risk. How is interest rate risk related to
inflation risk?

-Market risk
- is the variability in returns due to fluctuations in the overall market.
- It includes a wide range of factors exogenous (derived externally) to securities
themselves.

-Business risk
- is the risk of doing business in a particular industry or environment.

-Interest rate risk and inflation risk are clearly directly related.
- Interest rates and inflation generally rise and fall together.

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4) Briefly explain the required rate of return, real rate of return, expected inflation premium,
and risk premium.

-Required Rate of Return

- The rate of return an investor must earn on an investment to be fully compensated for its
risk.

-Real Rate of Return

– Equals the nominal rate of return minus the inflation rate.
– Measures the change in purchasing power provided by an investment.

-Expected Inflation Premium

- The average rate of inflation expected in the future.

-Risk Premium
– Additional return an investor requires on a risky investment to compensate for risks
based upon issue and issuer characteristics
– Issue characteristics are the type, maturity and features
– Issuer characteristics are industry and company factors
- Equity risk premium is the difference between stock and risk-free returns

5) Explain why holding period return is usually measure the return for one year or less.

- Holding period return does not consider time value of money in the formula.
-Thus, it is only suitable in measuring the return within one year time.
-It will become less practical or inaccurate if it is used in measuring return for more than
one year.

6) Explain TWO(2) type of return that investor can get from an investment.

– Income: cash or near-cash that is received as a result of owning an investment

– Capital gains (or losses): the difference between the proceeds from the sale of an
investment and its original purchase price.

7) Discuss a risk that associated with the following investment :

a) Real estate
-Liquidity Risk is the risk of not being able to liquidate an investment conveniently and
at a reasonable price.
– The price of a house has to be lowered for a quick sale due to the supply more than
demand.

b) Stocks
-Business Risk is the degree of uncertainty associated with an investment’s earnings and
the investment’s ability to pay the returns owed to investors.
– Decline in company profits or market share
– Bad management decisions

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c) Bonds
- Interest Rate Risk is the chance that changes in interest rates will adversely affect a
security’s value.
– Market values of existing bonds decrease as market interest rates increase
– Income from an investment is reinvested at a lower interest rate than the original rate

d) Certificates of deposit
-Purchasing Power Risk is the chance that changing price levels (inflation or deflation)
will adversely affect investment returns.
– Movie that was $8.00 last year is $9.00 this year

8) Discuss the exchange rate risk and how does it affect your investment position.

-Exchange rate risk refers to the risk caused by the varying exchange rates between the
currencies of two countries.
-When an investment involve the exchange of currency between two countries, then
exchange rate risk exist.
-Usually, it will affect the investment position of an cross boarder investment, such as the
purchase of foreign shares which denominated in foreign currency. The appreciation of a
local currency will decrease the investment return from a foreign investment.

9) Standard deviation can be used as one of the measures of risk. Explain the idea behind the
use of standard deviation.

- Standard deviation is a statistic used to measure the dispersion (variation) of returns

around an asset’s average or expected return.
-An asset which is classified as risky tend to have higher dispersion because it indicates that
the actual return might have higher difference with expected return.
-Thus, the logic behind the use of standard deviation is that standard deviation specifically
capture the variation of return with the expected return.
-The higher the value of standard deviation, the greater the variation or dispersion, hence
lead to greater risk.

10) Explain the following terms with example:

a) Risk-indifferent
-Risk-indifferent describes an investor who does not require a change in return as
compensation for greater risk.
-Thus, they will only concern on the expected return irrespective of the risk.
- If an investor face with a choice between receiving RM100 with 100% certainty, or
50% chance of getting RM200.
-Risk-indifferent investors has no preference on it because the expected return for both
options are the same.

b) Risk-averse
- Risk-averse describes an investor who requires greater return in exchange for
greater risk. Thus, they will only concern the risk irrespective of the return.
-If an investor face with a choice between receiving RM100 with 100% certainty, or
50%
chance of getting RM200.

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 -Risk-averse investor will choose the "for sure thing" of RM100 with 100% certainty
as it has the lowest risk.
c) Risk-seeking
- Risk-seeking describes an investor who will accept a lower return in exchange for
greater risk.
-Thus, they will only concern the return irrespective of the risk.
-In the similar situation, risk-seeking investor will opt for RM200 with 50% certainty as
it has the chance to get higher return although the chance of getting higher return is lower.

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Tutorial 3- Bonds/Fixed Income Securities

1) Define Yield to Maturity(YTM). Explain the importance of YTM and why it is less
practical to use YTM for the valuation of bond in a callable bond?

- Yield to maturity (YTM) is defined as the indicated (promised) compounded rate of return
an investor will receive from a bond purchased at the current market price and held to
maturity.
- The importance of YTM is for the bond valuation where it is used in calculating the bond
price based on the current interest rate and held until maturity.
- Investors invest on the basis of promised yields (i.e. YTMs), reflecting current conditions
in the market place.
- It is less practical to use YTM in a callable bond because it assumes that all interest
income is reinvested at rate equal to market rate at time of YTM calculation, and no
reinvestment risk.
- However, for non-callable bond, it has no reinvestment risk, and YTM is appropriate
instead of Yield to Call (YTC).

2) Given two bonds with identical risk, coupons and maturity date, with the only difference
between the two being that one is callable, which bond will sell for the higher price?

- The callable bond will sell for the higher yield.

-Investors should receive some compensation for the risk that the bond will be called away.

3) Define two characteristics of a bond that determine its reinvestment rate risk?

- Coupon is one of the characteristics that affect the reinvestment rate risk.
-As high coupon will has higher reinvestment rate risk as the tendency of a bond being
called is higher when the interest rate decrease.
-Second characteristic that affect reinvestment rate risk is the time to maturity.
-A longer maturity bond will has higher reinvestment rate risk than a shorter maturity bond
as the tendency of the interest rate changes is higher for long duration.

4) Explain the conditions that affect the bond to be sold at premium or discount.
- A bond is selling at a discount if it is a zero coupon bond.
-It is because zero coupon bond bear no interest and par value has to be discounted back to
the present value for the bond price. Hence, bond price will be lower than the par.
-Yield of coupon lower than current required yield also can cause the bond selling at a
discount because the discounting factor is greater than the compounding factor.

5) What is the value of a zero-coupon bond paying semi-annually that matures in 20 years,
has a maturity of $1 million, and is selling to yield 7.6%? (CFA Question)

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6) Suppose a 10-year 9% coupon bond is selling for $112 with a par value of $100. What is
the current yield for the bond? What is the limitation of the current yield measure? (CFA
Question)

- The current yield measure only considers coupon interest and ignores any capital gain or
loss (a capital loss of $12 for the bond in our example), and reinvestment income.

7) Determine whether the yield to maturity of a 6.5% 20-year bond that pays interest semi-
annually and is selling for $90.68 is 7.2%, 7.4%, or 7.8%. (CFA Question)

8) What effect does the use of semi-annual discounting have on the value of a bond in
relation to annual discounting?

- The simple point here is that there is obviously a difference between using annual and
semi-annual discounting. The exact effects of the difference are somewhat complex.
-In general, if the discount rate used in the valuation is higher than the coupon rate, annual
discounting will result in a higher present value than will semi-annual discounting (a result of
a higher present value for the principal repayment when using annual discounting).
- On the other hand, if the discount rate is less than the coupon rate, semi-annual
discounting produces the higher present value (a result of a higher present value for the
coupons when using semi-annual discounting).
-We would predict that a 10%, 8 year bond, given a discount rate of 12%, would have a
higher value using annual discounting as opposed to semi-annual discounting.

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9) Explain the term "bond immunization" and how can it reduce the interest rate risk.

- Strategy to derive a specified rate of return regardless of what happens to market interest
rates over holding period.
-Seeks to offset the opposite changes in bond valuation caused by price effect and
reinvestment effect
-Price effect: change in bond value caused by interest rate changes
-Reinvestment effect: as coupon payments are received, they are reinvested at higher or
lower rates than original coupon rate.
- Immunization seeks to protect a portfolio agains interest rate risk by Playing the two
components of interest rate risk against each other.
-The objective is to have the portfolio earn a prespecified rate of return.
-With an immunised portfolio:
i) If interest rate goes UP, Reinvestment risk UP while prices of the bonds DOWN
ii) If interest rate goes DOWN, reinvestment risk DOWN whihle price of bonds
Increases.
iii) The key to immunization is duration.
- Bond immunization occurs when the average duration of the bond portfolio just equals the
investment time horizon. By retiring the bond at the duration can lower the risk of interest
changes as compare with it held to maturity and it is sufficient to offset the true cost of the
bond.

10) A 10-yr bond is paying 8% coupon compounded annually, with a par value of RM1000. If
it is yield at 6%, estimate the followings:
a) duration of the bond
b) the changes of price for a 25 basis point changes in interest rate

11) Calculate the price of a 30-year bond with 7% coupon rate which is callable in 5 years at
a price of RM1, 030. Assume that the yield to call is 7% and coupon payments are made
semi-annually.

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Tutorial 4: Unit trust/Mutual fund

1) Discuss FOUR(4) attraction of mutual funds

• Portfolio Diversification
– Owning numerous securities reduces risk

• Professional management
- Managed by professionals from mutual funds companies.

• Ability to invest small amounts

- units are sold in smaller amount without the need to purchase a standard lot size of
stocks.

• Service
– Automatic reinvestment of dividends – Withdrawal plans – Exchange privileges

• Convenience
– Easy to buy and sell; high liquidity – Funds handle recordkeeping – Easy to track
price

2) Differentiate between a load fund and a no-load fund.

-Load fund refers to the fund which has sales charge, while no load fund is the fund which
has no sales charge when the units are bought.
-A load fund usually sold through brokers, while no load fund usually sold directly to
investor by mutual fund company.

3) Explain the differences of open-end fund, and close-end fund.

-Open-end fund is a fund where investors can buy and sell shares directly with the mutual
fund company without a secondary market, while close-end fund is a fund where investors
can buy and sell shares directly via secondary market after IPO.
-Apart from that, open-end fund can issue unlimited number of shares as investor
contribute fresh fund to the fund, while close-end fund have only limited number of shares
traded in the market.
-Hence, the purchase and selling price of open-end fund is determined by the net asset
value (NAV) of the fund, while the price of close-end fund is decided by the demand and
supply.
- Thus, the market price of an open-end fund is decided by the closing market value of the
day, while market price of a close-end fund varies from time to time within the trading hour.

4) Briefly explain how is the net asset value for a mutual fund calculated.

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 - The net asset value (NAV) for any investment company share is computed daily by
calculating the total market value of the securities in the portfolio, subtracting any trade
payables, and dividing by the number of investment company fund shares currently
outstanding.

5) Explain the exchange traded fund.

- Exchange traded fund is a fund that designed to track a specific market index.(An index is
made up of a basket of securities (e.g. bonds, commodities, equities) that shows the
movement or change in a specific securities market.)
-It is similar to mutual fund but traded in the exchange at any time of the trading session.
-It often involves low management expenses due to limited trading by investment advisor
as the portfolio is formed according to the index components.
-It is also a fund which is highly correlated with the market, expose to greater market risk.

6) Explain the concept of Real Estate Investment Trust, and how investor can profit from the
investment in REITs.

- Real Estate Investment Trust (REITs) is a close-end fund that invests in mortgages and
various types of real estate investments.
-It receives fresh funds from the pool of investors to acquire the real estate and rent it out to
the tenants in order to receive rental revenue.
-However, a high dividends along with the capital appreciation generate the interest of
investors to invest in the REITs with limited amount of capital.
-An investor who would like to profit from real estate investment are no longer need to
purchase the real property due to the risk and the management involved.
- Thus, they can buy REITs in order to achieve the same objective to profit from the real
estate investment where it is managed by somebody, and the revenue from the rental will be
distributed back to the unit holder as dividend.
-Apart from that, investors also can choose the REITs, which invest in the real estate that
they interested in, such as shopping mall, offices, hotels, apartments, hospitals, and others.

7) A retiree who wish to preserve his capital from depreciation due to the inflation factor.
Propose a fund that suitable to the investor above.

- Because of his intention to preserve capital and his need of money after retirement, it is
important to have a fund that focus is on high current income with some long-term capital
appreciation.
- He can invest in Equity-income Fund which emphasizes current income and capital
preservation.
- The equity-income fund generally invests in a mixture of :
- high-yielding common stocks,
- convertible securities or
- preferred stocks,
- “blue chip” stocks and
- other high-grade securities to balance the portfolio.
- Thus, it typically has less price volatility than overall stock market and considered as less
risky investments for relatively conservative investors looking for moderate growth.

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8) A just married couple is planning to invest in the market to reduce the current income
burden and to generate sufficient fund for their children's education fund after 20 years.
Suggest a fund that might be suitable for the investors above.

- Because of their intention to reduce their financial burden, and generate long term capital
appreciation, it is important to focus is on long-term capital appreciation with some high
income to provide limited stability of the fund that reduce the risk.
-They can invest in Growth-and-Income Fund which seeks both long-term growth and
current income, with primary emphasis on capital gains.
-The growth and income fund usually invest in blend of commons stocks and fixed-income
securities, with up to 90% in common stocks.
-However, it also involves moderate risk investments for investors who can tolerate
moderate price volatility.

- As long as they still young and remain healthy in generating the active income in the 10-
20 years in future, the moderate risk of investment in this kind of funds is appropriate and
acceptable.

9) In Malaysia, it is difficult for a retail investor to invest in the bond market due to its high
minimum funds required. Explain the way for retail investor to invest in the bond market.

- They can invest in Bond Fund, a mutual fund which invests in various kinds and grades of
bonds, with income as primary objective.
-Investing in bond generally required RM250, 000 as minimum requirement, thus, it
restricts the retail investor to enter into this market as not everyone has the required minimum
amount of money for direct bond investment.
-Thus, they can invest via bond funds, which share the capital and profit with other
investors.
- The advantages of bond fund over the individual bond is higher liquidity, higher
diversification and automatic reinvestment of interest.
- It typically considered as lower risk investments for investors who are looking for steady
income, but some price volatility will occurs with changing interest rates as bond price is
very sensitive to interest rate changes.

10) "Not only investing in foreign currency involve exchange rate risk, invest in the funds
also involve exchange rate risk". Justify the above statement.

- The statement is correct. Investing in fund involve exchange rate risk if the fund is an
international fund which mainly invest in foreign securities.
-This funds can be specialized in types of securities (international stocks, bonds or money
market securities), objectives of the funds (growth, value, aggressive growth and other types
of stocks), or geographical region (specific countries or regions of the world).
-However, the return generated from the funds has to be adjusted for the exchange rate risk
to generate the real return in local currency.
-Thus, it is a fund that considerably fairly high risk due to currency exchange risk.

11) Explain the factors that investor concern while comparing mutual funds.

i) Investment skills of fund managers

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 - Some investor will consider the investment skills of fund managers as not all fund
managers are in good investment skills.
- A lot of fund manager still underperform in the financial market maybe due to their
investment skill and ability.
- That's why some investor prefer to have a famous fund manager who has good track
return to manage their fund.
-For instance, Mr Warren Buffet as investment advisor of the funds.

ii) Open-End or Closed-End funds

- Some investor also considered whether it is a closed-end or open-end fund because
both have different pricing mechanism as the formal is based on demand and supply,while the
latter depends on net asset value (NAV).
- For closed-end fund, investor has to evaluate whether the funds is selling at discount
or premium.

iii) Fee structure

-Investors also will look at the fee structure of a fund whether they charge higher
commission, and management fees before decide to invest in mutual funds.
-A rational investor will found that it has no incentive to invest in mutual fund if they
found that the sum of fee structure is higher than the return.

iv) Tax efficiency

- Some investors will consider whether the investment in mutual is tax deductable or
not.
-They believe that if the income has to be taxed, they rather invest in the market to
enjoy the return while it is tax deductable.
-In Malaysia, there is some allowance for tax deduction if tax payer has purchase the
investment link insurance plan.

v) Fund’s investment performance

- First of all, investors always look at the investment performance over few years period
to determine whether their required investment return achievable in the past, which helps
them evaluate their future performance.

vi) How particular fund fits into your portfolio

- Some investor prefer to invest in mutual fund if they found that the fund match with
their investment portfolio needs.
-Thus, it is a very subjective matter as different investor will prefer different funds to
be invested.

vii) Load or No-Load funds

- The "load" represent sales charge for a fund, which can diminish the return.
-Thus, investor has to know whether it is a load or no-load funds in order to calculate
the sales charge coverage.

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Tutorial 5: Money market/ Marketable securities

1) Describe the characteristics of money market.

-Money market has the following characteristics:

1) Maturity usually less than 1 year.
2) Instruments are liquid
- Are easily converted to cash with not much loss in value.
3) Considerably safe
- Because it is short term in nature, the risk is very much reduced.
4) Lower returns than most other securities.
- Since it has lower maturity, and lower risk, thus the return also parallel to the risk.

2) Explain the yield instrument and discount instrument in money market.

-A yield instrument is an interest bearing instrument, therefore, it carries explicit interest

rate whereby interest is payable or received at the maturity date together with the principal
sum.
-Because it carries an interest rate, yield instruments are also called “coupon” instruments.
- The interest will be either
(1) added on the principal, or
(2) distribute separately to the investor that might be reinvest in the future.
-One of the downside of this yield instrument to T-bill is the funds will often give higher
rates of interest but might not get back all of your investment due to the default.

-A discount instrument is non-interest bearing instrument whereby

(1)the discounted amount is either paid or received upfront and
(2) the face value amount is received or paid at the maturity date.
-Examples: Treasury Bills, Zero Coupon Bonds and Commercial Papers
-Your gain is the difference between the purchase price of the security and what you get at
maturity.
-For instance, if you bought a 90-day T-bill at RM980,000 and if held it until maturity, you
would receive RM1,000,000, therefore, you would earn RM20,000 on your investment.

3) Explain FOUR(4) types of money market instruments.

-Treasury Bill

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 • Are the most marketable money market security.
• Their popularity is mainly due to their simplicity.
• T-bills are a way for the government to raise money from the public
• T-bills are short-term securities that mature in one year or less from their issue date.
• They are issued with three-month, six-month and one-year maturities.
• T-bills are purchased for a price that is less than their par (face) value; when they
mature, the government pays the holder the full par value = Discount Instrument

-Commercial Paper
 For many corporations, borrowing short-term money from banks is often a laborious
and annoying task. The desire to avoid banks as much as possible has led to the widespread
popularity of commercial paper.
 Commercial paper is a short-term promissory notes issued by a corporation. Maturities
normally less than 1 year.
 Commercial papers are short term bonds and can be secured or unsecured.
 For the most part, commercial paper is a very safe investment because the financial
situation of a company can easily be predicted over a few months.
 Typically only companies with high credit ratings and credit worthiness issue
commercial paper.

-Banker’s Acceptance
 A bankers' acceptance (BA) is a short-term credit investment created by a non-financial
firm and guaranteed by a bank to make payment.
 Acceptances are traded at discounts from face value in the secondary market.
 For corporations, a BA acts as a negotiable time draft for financing imports, exports or
other transactions in goods. This is especially useful when the creditworthiness of a foreign
trade partner is unknown.
 Banker’s Acceptances sell at a discount from the face value
 Advantage of a banker's acceptance, e.g. it does not need to be held until maturity, and
can be sold off in the secondary markets where investors and institutions constantly trade
BAs.

-Certificate of deposit (CD)

 A certificate of deposit (CD) is a time deposit with a bank.
 CDs are generally issued by commercial banks but they can be bought through
brokerages.
 They bear:
- a specific maturity date (from three months to five years),
- a specified interest rate, and
- can be issued in any denomination, much like bonds.
 Like fixed deposits, the funds may not be withdrawn on demand.
 CDs offer a slightly higher yield than T-Bills because of the slightly higher default risk
for a bank but, overall, the likelihood that a large bank will go broke is slim.
 Of course, the amount of interest you earn depends on a number of other factors such as
(i) the current interest rate environment,
(ii) how much money you invest,
(iii) the length of time and the particular bank you choose.

-Repurchase Agreement (REPO)

 Repo is short for repurchase agreement.

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 • It is a money market transaction, a financial institution sells on discount its negotiable
instruments with an agreement to repurchase the same instruments after a fixed period of time
and at an agreed price from the same institution.

4) Malaysian Treasury Bills (TBs) of face value RM10 million with 150 days remaining to
maturity is sold at a rate of 4.20%. Assumes that one year has 365 days. Determine the value
of the proceeds.

5) ABC Holdings drew a BA for RM1.5 million for 120 days and accepted by XYZ Bank at a
discount rate of 5.0% p.a. The customer enjoys an acceptance commission rate of 0.75% p.a.
(a) How much does ABC Holdings have to pay the bank as acceptance commission?
(b) What are the discounted proceeds?
(c) If XYZ Banks holds the BA for 25 days and then sells the BA at a rate of 4.5% p.a., what
are the discounted proceeds and the effective rate of return on the BA?
Notes: Assumes that one year has 365 days.

6) Steven has bought a treasury bill that has a face value of RM3 million with 9 months
maturity sold at 4.3%. Assumes that one month equals to 30 days, calculate the value of the
proceeds.

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7) On 1 March 2016, ABC Funds has bought a banker acceptance (BA) which carries a face
value of RM15 million issued at 10% for 180 days. On 1 July 2016, ABC Funds decided to
sell it to a third party at the prevailing rate of 10%. Assumes that one month is equal to 30
days, calculate the value of the proceeds on 1 July 2016 and determine the holding period
return in percentage for the BA.

8. A deposit of RM1 million is made on 1 March 2016 for 90 days, and interest paid on the
amount is 15% (referred to as a 15% 90-day NCD), determine the following:
a) Maturity value for the deposit.
b) Proceeds of the deposit if the seller decided to sell the deposit to another buyer on 31
March 2016 at a yield of 14%.
*Assume that one year has 365 days.

9) Hedgeman has a negotiable deposit of RM2,500,000 is made on 1 April 2016 for 120 days,
and interest paid on the amount is 8%, determine the following:
a) Maturity value for the deposit
b) Proceeds of the deposit if Hedgeman decided to sell the deposit to another buyer on 15
June 2016 at a rate of 7%.
c) Holding period return for Hedgeman who decided to sell the deposit to another buyer on
15 June 2016.
Notes: *Assumes that one month equals to 30 days.

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Tutorial 6: Common stock

1) Of what value to investors are stock dividends and splits?

-Stock dividends and splits do not, other things being equal, represent additional value.

-Stock Split
- When a company increases the number of shares outstanding by exchanging a
specified number of new shares of stock for each outstanding share.
- Usually done to lower the stock price to make it more attractive to investors.
- Stockholders end up with more shares of stock that sells for a lower price.
- Investor with 200 shares in a 2-for-1 stock split would have 400 shares after the stock
split.
- If the stock price was $100 before the split, the price would be near $50 after the split

-Stock Dividend
-If a stock dividend is accompanied by a higher cash dividend, the stockholder gains, but
this is a change in the dividend policy.
-Some people believe that these transactions increase the ownership of a stock by
bringing it into a more favourable price range, but even if true it is doubtful this would add
real value.

2) Identify the advantages and disadvantages of stock ownership.

Advantages
• Provide opportunity for higher returns than other investments
• Over past 100 years, stocks earned annual returns that we roughly double the returns
provided by corporate bonds
• Good inflation hedge since returns typically exceed the rate of inflation
• Easy to buy and sell stocks
• Price and market information is easy to find in financial media
• Unit cost per share of stock is low enough to encourage ownership

Disadvantages

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 • Stocks are subject to many different kinds of risk:
– Business risk
– Financial risk
– Purchasing power risk
– Market risk
– Event risk
• Hard to predict which stocks will go up in value due to wide swings in profits and
general stock market performance.
• Low current income compared to other investment alternatives.

3) Stock ABC has $9 million net profits in the current financial year, and the management has
decided to keep 70% of its profit as retained earnings. If the company ABC has 3 million of
share outstanding, determine the dividend pay-out ratio and the earning per share.

4) Stock A is paying dividend, D0 = RM2, and the management is expecting a constant

dividend growth rate of 5% per year. Estimate the dividend yield after 5 years if the stock is
trading at RM50 on that moment.

5) Explain the key date for dividends.

-DeclarationDate
-The declaration date is the date that the dividend is announced by the Board of Directors.
- The declaration statement includes the size of the dividend, the date of record and the
payment date (see below).
- Once the dividend has been declared, the company has a legal responsibility to pay it.

- Date of Record (or Record Date)

-Once a company announces a dividend, it sets a date of record on or before which you
must be on the company's books in order to receive the declared dividend.
- On the date of record, the company will determine its shareholders, or "holders of
record," and the company will use this date to establish to whom it will send financial reports,
proxy statements and other information.

- Ex-Dividend Date (or Ex-Date)

-After the company sets the date of record, the ex-dividend date is set by either the stock
exchange or the National Association of Securities Dealers.
- If an investor purchases a stock on or after its ex-dividend date, he or she will not
receive the declared cash dividend; instead, the seller of the stock will be entitled to that
dividend.
-Investors who purchase the stock before the ex-dividend date will receive the dividend.
- For example, stock ABC recently announced a cash dividend with an ex-dividend date
of December 7.

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 - If you purchase 100 shares of ABC stock on December 7 (on or after the ex-dividend
date) you will not receive the dividend; the person from whom you bought the shares will
receive the dividend.
-If, however, you purchase the shares on December 5 (before the ex-dividend date) you
will be entitled to receive the next dividend.
- The ex-dividend date for stocks is typically set two business days before the date of
record.
- A stock's price may increase by the dollar amount of the dividend as the ex-date
approaches.
- On the ex-dividend date, the exchange may reduce the price per share by the dollar
amount of the dividend.
- Note: Procedures for non-cash dividends are a bit different. For example, if a company
pays a stock dividend, the ex-dividend date is set the first business day after the stock
dividend is paid.

- Payment Date (Payable Date)

- The payment date is the scheduled date on which a declared dividend will be paid.
- Only shareholders who owned the stock before the ex-dividend date are entitled to the
dividend.

6) Different types of stocks usually have different characteristics. Explain the type of stocks
that you familiarize with.

i) Blue Chip Stocks

- financially strong, high-quality stocks with long and stable records of earnings and
dividends
- Companies are leaders in their industries
- Relatively lower risk due to financial stability of company
- Popular with investing public looking for steady growth potential, perhaps dividend
income
- Provide shelter during unsettled markets
-Examples: AT&T, Chevron, Johnson & Johnson, McDonald’s, Pfizer

ii) Income Stocks

- stocks with long and sustained records of paying higher-than average dividends
- Good for investors looking for relatively safe and high level of current income
- Dividends tend to increase over time (unlike interest payments on bonds)
- Some companies pay high dividends because they offer limited growth potential
- More subject to interest rate risk
-Examples: Duke Energy, Conagra Foods, General Mills, Altria Group

iii) Growth Stocks

- stocks that experience high rates of growth in operations and earnings
- Have sustained rate of growth in earnings above general market
- Investors expect higher price appreciation due to increasing earnings
- Riskier investment because price may fall if earnings growth cannot be maintained
- May include blue chip stocks as well as speculative stocks
- Typically pay little or no dividends

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 - Examples: Amazon, Apple, Google, eBay, Berkshire Hathaway, Starbucks

iv)Tech Stocks
- stocks representing the technology sector of the market
- Range from speculative stocks of small companies that have never shown a profit to
blue chip stocks of large companies that are growth-oriented
- Potential for attractive returns
- Considerable risk and volatility
- Difficult to put value on due to erratic or no earnings
- Examples: Microsoft, Cisco Systems, Yahoo!, NVIDIA, SanDisk, Intel, Electronic Arts

v) Speculative Stocks
- stocks that offer potential for substantial price appreciation, usually due to some
special situation such as a new product
- Companies lack sustained track record of business and financial success
- Earnings may be uncertain or highly unstable
- Potential for substantial price appreciation
- Stock price subject to wide swings up and down in value
- Examples: Sirius XM Radio, Dreamworks Animation, Liberty Media, Under Armour

vi) Cyclical Stocks

- stocks whose earnings and overall market performance are closely linked to the general
state of the economy
- Stock price tends to move up and down with the business cycle
- Tend to do well when economy is growing, especially in early stages of economic
recovery
- Tend to do poorly in slowing economy
- Best for investors willing to move in and out of market as economy changes
- Examples: Alcoa, Caterpillar, Genuine Parts, Lennar, Brunswick, Timken

vii) Defensive Stocks

- stocks that tend to hold their value, and even do well, when the economy starts to falter
- Stock price remains stable or increases when general economy is slowing
- Products are staples that people use in good times and bad times, such as electricity,
beverages, foods and drugs
- Gold stocks are a form of defensive stock
- Best for aggressive investors looking for “parking place” during slow economy
- Examples: Walmart, Checkpoint Systems, McDonalds

7) An investor, Steve, who wish to conserve his capital from depreciation. Suggest an
investment strategy for him.

- Buy-and-Hold
- Investors (Steve) buy high-quality blue chip stocks and hold them for extended time
periods
- Goal may be current income and/or capital gains
- Investors often add to existing stocks over time
- Very conservative approach; value-oriented

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8) The size of the stocks can be classified by market capitalization of the corporation. Explain
the types of stock based on market capitalization.

-Large-Cap Stocks
- large companies with market capitalizations over $10 billion
- Number of companies is smaller, but account for 80% to 90% of the total market value
of all U.S. equities
- Bigger is not necessarily better
- Tend to lag behind small-cap and mid-cap stocks, but typically have less volatility
- Examples: Walmart, Exxon Mobil, Apple

-Mid-Cap Stocks
- medium-sized companies with market capitalizations between $2 billion and $10
billion
- Provide opportunity for greater capital appreciation than Large-Cap stocks, but less
price volatility than Small-Cap stocks
- Usually have long-term track records for profits and stock valuation
- “Baby Blues” offer same characteristics of Blue Chip stocks except size
- Examples: Logitech, American Eagle Outfitters, Garmin Ltd.
-Small-Cap Stocks
- small companies with market capitalizations less than $2 billion
- Provide opportunity for above-average returns (or losses)
- Usually do not have a financial track record
- Earnings tend to grow in spurts (sudden gush) and can have dramatic impact on stock
price
- Usually not widely-traded; liquidity is an issue “Initial Public Offerings” (IPOs)
- Examples: Callaway Golf, Wendy’s, Shoe Carnival

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Tutorial 7: Derivatives (Options)

1) Explain the term option.

- Option allows investor (buyer), without obligation, to buy or sell the underlying asset at
a predetermined price (strike price) at expiry.
- Thus, investor can opt to exercise or not to exercise the option when it expired.
- By exercising the option, the investor has the right to buy or sell (depends on call or put)
the underlying security at strike price, and the differences between market price and the strike
price is the profit of the investor, concurrently, the loss of the option writer.

2) Discuss how a call and a put option work.

- A call option is in the money when the market price is greater than strike price at expiry,
and the difference is sufficient to cover the cost of the option.
- An investor will buy a call option if he/she is anticipating a rise in the price of underlying
asset at expiry.
- However, a put option is in the money when the strike price is greater than the market
price at expiry, and the difference is sufficient to cover the cost of the option.
- An investor will buy a put option if he/she is anticipating a fall in the price of underlying
asset at expiry.

3) "Losses of an investor can be limited by purchasing a call or a put option." Justify the
above statement.
- Losses of an investor can be limited by purchasing a call or a put option is one of the
advantages of option trading.
- The losses of a call or put is limited by the cost of the option even though the rise and a
fall of the security's price can be unlimited.
- If the price of the underlying security has a free rise or fall which against the option
buyer, the option buyer will not exercise the option and let it expired worthless.
- Thus, the maximum loss of the option is the premium paid instead of the price difference
of the underlying security.

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4) Stock ABC is currently trading at RM 20.50 in the market, and KC, an investor is
anticipate the decrease in price of Stock ABC due to the losing competitive advantage among
its peers. A 6-month expiration option is written by an underwriter with a strike price of
RM21.00 and premium of RM205 per contract. Consider that each option contract consist of
100 shares.

a) Explain how KC can make profit from trading the option of Stock ABC if the market is up
to his expectation.

- KC can make profit from buying a put option as he is anticipating a fall in price of the
underlying security. If the price fall below the strike price and enough to cover the cost of the
option, he started to earn a profit from option.

b) Explain the maximum amount of loss will KC face if the market is not up to his
expectation.

- If it is not up to his expectation, the maximum loss would be only RM205, which is the
premium paid for the option.

c) Calculate the profit/loss that KC make if the market price is rising to RM35 at expiry if he
has purchase the option based on his expectation.

- [(strike price- market price) X 100 shares - cost of the option]

= [(21-35) X 100 - 205]
= RM1605 (Out of money)
-Thus, KC will not exercise the option and the loss is RM205.

d) Calculate the profit/loss that KC make if the market price is falling to RM10 at expiry if he
has purchase the option based on his expectation.

- [(strike price - market price) X 100 shares - cost of the option]

= [(21-10) X 100 - 205]
=RM 895 (in the money)
- Thus, KC will exercise the option and the profit is RM895

5) On 1 April 2016, Steve bought 10 contracts of call option with a strike price of RM 24, and
the expiration of the option is 6 months later. However, each contract consist of 100 shares
and the cost of the option is RM 250 per contract.

a) Determine whether Steve's call option is in the money or out of money if the shares is
trading at RM 30 on 1 June 2016. Will the price volatility influence the profit and loss after 1
June 2016.

25
 Since it has not reach expiration date at that moment and the option was yet to exercise, the
volatility will influence the profit and loss of the option as it has the possibility that the price
move against Steve's call option before the expiry.

b) Should Steve exercise the option on expiry if the market price rises to RM26. Justify your
answer.

Steve should exercise the option as it could recover some of the premium paid even
though it has a net loss of RM500. If he not exercise the option, the loss that he made would
be RM2500.

c) Should Steve exercise the option on expiry if the market price falls to RM20. Justify your
answer.

- Steve should not exercise the option as the option expired with RM6500 loss. Thus, the
investor will have a loss of RM2500, which is the premium paid for the 10 contracts.

6) Using appropriate example, explain the physical settlement and cash settlement for option.

- Physical settlement is one of the common settlement of option via the actual delivery of
underlying asset upon expiry.
- For instance, the physical settlement allow investor to buy or sell (depends on call or put)
the underlying asset at the strike price, and the difference between strike price and market
price will be bear by the option writer if the option is in the money.
- However, cash settlement is another common settlement of option via the cash payment
between option buyer and seller.
- For instance, the cash settlement allow investor to offset profit and the cost of the option,
left the net profit or loss to be debited or credited from the trading account upon expiry
without the physical delivery of the underlying asset.
- However, the future movement of the underlying securities will be no longer significant
to the investor after expiry as all the settlement has been settled by cash.

7) Determine the intrinsic value of a call option with a strike price of RM38.

a) if the market price of the underlying security is RM55

Intrinsic value = Market price – Strike price

= RM 55 – RM 38
= RM 17
Intrinsic value of the call option is RM 17 (RM55-RM38).

26
b) if the market price of the underlying security is RM25

Intrinsic value of the call option is RM 0. (Because it will expired worthless)

8) Suppose an investor purchases a call option on a Treasury bond futures contract with a
strike price of $90 and the cost of the option is 5% of the security's price.

a) If at the expiration date the price of the Treasury bond futures contract is $96, will the
investor exercise the call option; if so, how is the settlement for the option?

The investor will exercise the call option because the price of the futures contract
exceeds the strike price.
The settlement of the option:
Value of the call option: [market price- strike price] - Cost of the option
= [$96-$90]- $4.5
= $6-$4.5
= $1.5

b) If at the expiration date the price of the Treasury bond futures contract is $89, will the
investor exercise the call option; if so, how is the settlement for the option?

- If the futures price at the option expiration date is $89, the investor will not exercise
the call option because it is less than the strike price.
-Thus, the option will expire worthless and the maximum loss of the investor is the cost
of the option.

9) How can the writer of a call option cancel his or her obligation?

- The writer can cancel his or her obligation by buying an identical option to offset the
call option that he/she previously wrote. This can prevent the loss in the call option
that he/she sell before.

10) Explain the reason why the naked option is riskier for an option writer.

- Option writer expose to unlimited risk of loss as far as the market price can move.
- Thus, a naked option indicates that the writer has no shares in hand as back up to
cover the losses in the option sold.
- Unlike the buyer, option buyer has limited risk of loss, which is the premium paid,
while the writer doesn't.

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Tutorial 8&9: Economic, Industry, and Fundamental Analysis

1) Briefly explain the intrinsic value, and the factors that determine the intrinsic value.

- The underlying or inherent value of a stock, as determined through fundamental analysis

is called "Intrinsic Value".
- A prudent investor will only buy a stock if its market price does not exceed what the
investor thinks the stock is worth.
- The factor that determine the intrinsic value is the estimated future cash flows (the higher
the future cash flows, the higher the intrinsic value), discounted rate (the lower the discounted
rate, the higher the intrinsic value), and the amount of risk (the greater the risk, the greater the
discounted rate, the lower the intrinsic value).

2) Explain the "Top-Down" approach in security analysis.

- "Top Down" approach in security analysis refers to the analysis of securities begins from
the macro point of view narrow down to micro point of view.
- "Top Down" approach has three steps starting from economic analysis, which analyze
the state of overall economy.
- Then, industry analysis to have an outlook for specific industry and the level of
competition in the industry.
- Hence, the final steps is for fundamental analysis, which narrow down the analysis into
financial condition of a company and the historical behaviour of the specific stock.

3) Discuss the usefulness of industry analysis.

- Evaluate the competitive position of a particular industry in relation to other industries

- Looking for new opportunities & growth potential
-Identify companies within the industry that look promising

28
 -Looking for strong market positions, pricing leadership, economies of scale, etc.

4) The sustainability of an industry, in more narrow view, a company depends on the duration
of the growth cycle stages. Explain the growth cycle stages.

- Initial Development: industry is new and risks are very high

- Rapid Expansion: product acceptance is growing and investors become very interested.
Usually the consumers are concern with the products and services offered.
-Mature Growth: expansion comes from growth in the economy and returns are more
predictable. The growth might be stable or at the diminishing manner due to the saturation of
the market.
-Stability or Decline: demand for product is diminishing and investors avoid this stage.

5) Explain the importance of fundamental analysis.

- The value of a stock is often influenced by the financial performance of a company that
issued the stock.
-Thus, fundamental analysis is to evaluate the financial condition and operating results of
a specific company.
-Therefore, there are a wide range of elements to look into when performing a
fundamental analysis, such as competitive position, composition and growth in sales, profit
margins, dynamics of earnings, Asset mix and financing mix.
6) Explain the historical relationship between stock prices, corporate profits, and interest
rates?

- Historically, a close direct relationship has existed between corporate profits and stock
prices.
- A parallel between the two series can often be seen, both upward and downward,
although stock prices may move first.
- An inverse relationship exists between stock prices and interest rates.
- Because interest rates are closely tied to discount rates, a rise in interest rates will have a
negative impact on stock prices.
- An inverse relationship between interest rates and corporate profit can be read as a cost
of financing that bring significant effects to the corporate profit.
- The higher the interest rate, the lower the profit as the implication of the higher cost of
financing (debt financing).

7) Discuss which types of industry are the most sensitive to the business cycle and which
industry are not.

- Cyclical industries, such as autos, appliances, and houses, are the most sensitive to the
business cycle due to the changing economic condition.
- Defensive industries, such as the food industry, are the least affected by recessions and
economic adversity.

8."GDP can be used as one of the main economic indicator that bring significant impact to the
stock price." Justify the above statement.

- Real GDP is the single best measure of overall economic activity.

- If growth in GDP slows, as it did by the end of 2000, corporate revenues will slow down,
and profits will shrink.

29
 - The stock market, of course, reacts to this prospect negatively. 2008-2009 was a horrific
example of what happens when GDP growth slows.

9.Financial information as at 31 December 2015

Particulars RM('000)

Current assets 25,000

Current liabilities 5,000
Long term liabilities 10,000
Fixed assets 20,000
Net Income 8,000

Additional information:
The Chief Financial Officer (CFO) decided to keep RM 6 million of its net income as
retained earnings.

Required:
Calculate the followings:
(i) Current ratio
(ii) Debt-to-equity ratio
(iii) Return on assets
(iv) Dividend payout ratio
Tutorial 10- Security Analysis

1) "It is difficult to find a best approach to evaluate the value of stocks in the market and
some ratio analysis bring no significant meaning to some of the stocks" Justify the above
statement.

- It has no best way to measure a stock's value due to the different characteristics of stocks.
- Some stocks that pay no dividend at all makes no way for a dividend discount model to
find the stock's intrinsic value. Thus, other approaches should be adopted.
- However, ratio analysis is somehow makes sense to some stocks, but insignificant to
some of them due to its characteristics as well.
- An IT company which heavily depends on human resources could have less book value
because of its lower assets acquisition.
- On the other hand, a property business might have higher book value than IT company
due to its land acquisition for their business operation, which generally has higher book
value.

2) A firm is estimated to have earnings per share (EPS) of RM0.60 with a P/E ratio of 12
times. Determine the stock price of the firm.

3) Company X is currently paying a dividend of RM 0.50, and it is expected to have a

constant growth rate of 5% per year. Given that the required rate of return of 8%, calculate
the intrinsic value of company X.

30
4) Stock ABC is currently selling at RM 68.80, and it is paying a dividend of RM1.50. The
management is expecting a constant growth rate of 6% per year, calculate the intrinsic value
of Stock ABC if the required rate of return is 8.5%. Justify whether Stock ABC is overvalue
or undervalue based on the dividend discount model.

5) Stock Fly Asia is currently paying a dividend of RM 0.80, and it is expected to have a
constant growth rate of 4.5% per year. Assume that risk free rate is 3%, risk premium is 3.5%,
and beta is 1.25. Calculate the intrinsic value of Stock Fly Asia.

6) A preferred share of CDE stock is currently paying dividend of RM0.70 per share. Given
that the required rate of return is 8%, Calculate the value of CDE's preferred share.

7) Safe Security Bhd’s share is currently paying dividend (D0) of RM1.00 per share and is
expected to remain the same for the next three years. After that, Safe Security Bhd’s dividend
is expected to grow at a constant rate of 5 percent a year for the indefinite future. The
management believe that their business are more likely to be affected by the business cycle
and it will not affect their promise to meet their target of 35% dividend payout each year.
Currently, the price of Safe Security Bhd is trading at RM25 with 250 million share
outstanding. Assume that the beta is 1.8, market return is 6%, and risk-free rate is 3%.

a) Calculate the intrinsic value of Safe Security Bhd. Comment on the intrinsic value and
determine whether it is overvalue or undervalue.

31
b) Justify TWO types of stock that Safe Security Bhd tend to be.

1) Dividend stock. Since it is constantly paying dividend, and promise a high dividend
payout ratio, thus it can be grouped as dividend stock.
2) Cyclical stock. Since the management mentioned that it is more likely to be affected by
the business cycle, thus it is seems to have the characteristics of cyclical stock.

c) Calculate dividend yield.

d) Calculate the stock price and number of share outstanding if the stock exercise a 2-for-1
stock split.

8) Cole Pharmaceuticals is currently paying a dividend of $2 per share, which is not expected
to change. Investors require a rate of return of 20% to invest in a stock with the riskiness of
Cole. Calculate the intrinsic value if the stock.

9) Baddour Legal Services is currently paying a dividend of $2 per share, which is expected
to grow at constant rate of 7% per year. Investors require a rate of return of 16%. Determine
the company's value.

32
10) Bibbins Software Company is currently selling for $60 per share and is expected to pay a
dividend of $3. The expected growth rate in dividend is 8% for the foreseeable future.
Calculate the expected rate of return for this stock.

Tutorial 11: Technical Analysis

1) Discuss the rationale for technical analysis.

- The rationale of technical analysis can be summarized as:
(a) Prices are determined by the forces of demand and supply.
(b) Many factors affect demand and supply, including fundamental factors as well as
market psychology factors.
(c) Stock prices tend to move in trends as they adjust to a new equilibrium level.
(d) Trends can be analyzed, and changes in trends can be detected by studying the price
movements and trading volume over time.

2) Differentiate between fundamental analysis and technical analysis.

- Fundamental analysis is an approach to find the intrinsic value of a securities, while

technical analysis is an approach to find the entry point for a securities.
- Fundamental analysis deals with the market wide information and firm specific
information to select which securities to be invested. However, technical analysis focus on
the historical data and indicator to determine the timing to buy and sell a securities.
- In addition, fundamental analysis required longer time to analyse the market than
technical analysis.

3) Explain the role of volume in technical analysis.

- Price and volume are the primary tools for technical analyst.

33
 - Volume is used to gauge the general condition in the market and help to assess its trends.
- Thus, volume information is used in conjunction with price information to help confirm
the validity of price action.

4) Discuss the rationale of contrary opinion.

- The rationale for the traditional theory of contrary opinion is that some investors almost
always lose.
- These investors include the small or retail investor, supposedly unsophisticated and
usually wrong in his or her actions.
-The idea to trade opposite (contrary) these investors supported by the rule of 80/20 that
indicate the 80% of the wealth of the investors is in the control of 20% of the investors with a
contrary point of view.
- A newer theory (e.g., Dreman’s) of contrary opinion is that most investors, including
institutional investors, are often wrong and that it pays to do the opposite of what they are
doing.

5) Explain the insider trading activities.

- Insider trading activities can be treated as one of the indicator to show the accumulation
and disposal of shares by insider in the company.
- Their activities imply whether the company's performance impress, or disappoint the
insider as the logic behind the stock price is that tend to rise when more people are
accumulating, and tend to fall when more people are disposing the shares.
- However, it could not explain the reason for the accumulation or disposal of shares by
the insider, and they might be wrong sometimes.

6) Explain usefulness and weaknesses of advance-decline line.

- The advance-decline line measures (on a cumulative basis) the net difference in the
number of stocks advancing in price and the number of stocks declining in price.
-The net advance (or decline), therefore, reflects the breadth of the market, or whether the
majority of issues are rising or declining in price.
- However, this advance-decline line is only measure the number of stocks advancing and
declining without refer to the market capitalization of each stock.
- Thus, stock index might still rising if the majority of small stocks decline, while the
minority of big stock advance.

7) Explain the indication of mutual fund cash ratio (MFCR).

- It is an indicator that track cash position of mutual funds, and high cash positions in
mutual funds provides liquidity for future stock purchases or protection from future mutual
fund withdrawals.
- The higher the ratio, the more cash position that mutual funds hold for future purchases,
hence the more likely stock price be pushed higher in future.
- The higher ratio also indicates that the stocks position is low and it could avoid the large
volume of disposal in future.

8) Explain how's the sell signal generated by using moving average.

34
 - A sell signal generated when the price decline through the moving average line with
significant volume.
- Another form of signal can be generated by using various moving average.
- When a faster (short duration) moving average cross down the slower (longer duration)
moving average, a sell signal generated.

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Tutorial 12: Efficient Market Hypothesis

1) Define the term "efficient market".

- An efficient market is an investment theory that states that it is impossible to beat the
market from any trading strategy (trend lines, candlesticks) because :
(i) the prices of securities fully reflect all known information quickly and accurately
and
(ii) stocks are accurately priced reflecting the intrinsic value of the shares.

2) What are the conditions for an efficient market?

- The conditions for an efficient market exist when:

-Many knowledgeable investors actively analysing and trading stocks
-Information is widely available to all investors
-Events, such as labour strikes or accidents, tend to happen randomly
-Investors react quickly and accurately to new information

3) Describe the THREE(3) form of efficient market hypothesis (EMH).

1) Weak Form EMH

- Past data on stock prices are of no use in predicting future stock price changes
- Everything is random i.e. future securities' prices are random and not influenced by
past events.
- Advocates of weak form efficiency believe all current information is reflected in
stock prices and past information has no relationship with current market prices.
- Markets that are weak form efficient do not follow patterns.
- If, for example, a trader sees a stock continuously decline on Mondays and increase
in value on Fridays, he may assume he can profit if he buys the stock at the beginning of the
week and sells at the end of the week.
- If, however, the price declines on Monday but does not increase on Friday, the
market can be considered weak form efficient.
- Should simply use a “buy-and-hold” strategy.

2) Semi-strong Form EMH

- Abnormally large profits cannot be consistently earned using public information
(earnings, dividends, stock split announcements, new product developments, financing
difficulties, accounting changes)
- Any price anomalies are quickly found out and the stock market adjusts
- Therefore, it implies that all public information is calculated into a stock's current
share price, meaning neither fundamental nor technical analysis can be used to achieve
superior gains.
- This class of EMH suggests only information not publicly available can benefit
investors seeking to earn abnormal returns on investments.
- It implies that investors cannot act on new public information after its announcement
and expect to earn above-average returns.

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 3) Strong Form EMH
- All information in a market, whether public or private, is accounted for in a stock's
price.
-Practitioners of strong form efficiency believe that not even insider information can
give an investor an advantage.
- There is no information, public or private, that allows investors to consistently earn
abnormally high returns.
- Example, the CEO of a company believes that his company will begin to lose
customers and revenues after the internal rollout of a new product.
- The CTO decides to take up a short position. If the stock price declines, he is poised
to profit.
- However, when the product is released to the public, the stock price is unaffected and
does not decline.
- The market would be considered to be strong form efficient because even the insider
information of the product flop was already priced into the stock.
- The CTO would lose money in this situation.

4) "Weak Form Efficient Market Hypothesis (EMH) is direct opposition to technical

analysis." Justify the above statement.

- Agree. Technical analysis relies heavily on known price and volume data to predict
future price changes.
- The weak form of the EMH states that such data should already be reflected in current
prices and therefore is of no value in predicting future price changes.

5) What do the Semi-Strong Efficient Market Hypothesis (EMH) attempt to test for?

- Semi strong form tests are tests of the speed of price adjustments to public information.
- Any anomalies will be quickly found out and stock price adjusts to the information
quickly.
- They seek to determine if investors can use publicly available information to earn excess
returns.

6) Describe FOUR (4) market anomalies.

- Market Anomalies are techniques or strategies that appear to be contrary to an efficient

market.
1) Calendar Effects
-Stocks returns may be closely tied to the time of year or time of week
-Questionable if really provide opportunity
- eg. January effect and weekend effect

2) Small-Firm Effect
- Size of a firm impacts stock returns
- Small firms may offer higher returns than larger firms, even after adjusting for risk.
- Ibbotson Associates data shows that “small” stocks have outperformed large caps by
roughly 2%.

3) Post Earnings Announcement Drift (Momentum)

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 - Stock price adjustments may continue after earnings adjustments have been
announced
- Unusually good quarterly earnings reports may signal buying opportunity

4) Value Effect
- Uses P/E ratio to value stocks
- Low P/E stocks may outperform high P/E stocks, even after adjusting for risk.
- Dreman, a money manager and financial columnist argued that low PE stocks may
be unwanted, but if they have strong finances, high yields and good earnings records,
they almost always do well eventually.

7) Discuss FIVE (5) behavioural factors that might influence the actions of investors.

i) Overconfidence
- Investors tend to be overconfident in their judgment, leading them to underestimate
risks

ii) Self-Attribution Bias

- Investors tend to take credit for successes and blame others for failures
- Investors will follow information that supports their beliefs and disregard conflicting
information
- These biases may cause investors to trade too often

iii) Loss Aversion

- Investors dislike losses much more than gains
- Investors will hang on to losing stocks hoping they will bounce back

iv) Representativeness
- Investors tend to draw strong conclusions from small samples
- Investors tend to underestimate the effects of random chance

v) Narrow Framing
- In finance, an investor is said to suffer from narrow framing if he seems to make
investment decisions without considering the context of his total portfolio.
- An investor may get excited about the shares of a particular tech stock and purchase
that stock without recognizing that his portfolio is already overweight in tech stocks.
- Investors tend to analyze a situation in isolation, while ignoring the larger context.
- The way a problem is presented (framing) affects the decision that is made.

vi) Belief Perseverance

- Tendency to persist with one's held beliefs despite the fact that the information is
inaccurate or that evidence shows otherwise
- Investors tend to ignore information that conflicts with their existing beliefs

vii) Familiarity Bias

-Investors buy stocks that are familiar to them without regard to whether the stocks
are good buys or not.

8) Explain FIVE (5) behaviors that can improve the investment results.

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 i) Don’t hesitate to sell a losing stock
-If you are holding a losing stock, and you could not see a bright future of the stock,
then it is the right time to sell the stock before it drop further.

ii) Don’t chase performance

-If a stock is very hot and popular because of publicly available good news and
tremendous increase in stock price, an intelligent investor will not chase the performance by
buying in the stock as it might it overvalue, and eventually it will back to its intrinsic value.

iii) Be humble and open-minded

-Anyone make mistakes, including professional fund managers.
- Thus, investor should be humble and open minded to accept the mistake and learn
not repeat it again in the future.

iv) Review the performance of your investment on a periodic basis

-Investor should review the investment performance on a periodic basis to ensure that
the right investment decision has been made based on the current situation.

v) Don’t trade too much

- Over trading is always one of the mistakes that investor make.
- As the transaction cost is fixed while the risk of investment is uncertain, thus, over
trading might lead investors expose to greater risk of loss or reduced return.

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Tutorial 13&14: Portfolio Management

1) Discuss the traditional portfolio approach and modern portfolio theory.

- Traditional portfolio approach emphasize on balancing of portfolio by using a wide

variety of stocks and bonds based on the belief that the more assets held, the more
diversified the portfolio is.
- It might also uses a broad range of industries to diversify the portfolio.
- However, it also tend to focus on well-known companies as it perceived as less risky,
higher liquidity, and more comfortable by investors.
- On the other hand, modern portfolio theory emphasize statistical measures to
construct a portfolio plan, such as expected return, standard deviation, and correlation
of return.
- Usually, it combines securities with negative correlation between each other's return
to diversify the risk.

2) Briefly explain the following term:

a) Dollar-cost averaging
- Fixed dollar amount is invested at fixed intervals
- Discipline to invest on regular basis is vital
- Purchase more shares when prices are low and fewer shares when prices are high

b) Constant-dollar plan
- Speculative portion seeks capital gains
- Conservative portion seeks low risk
- When speculative portion increases to a predetermined dollar amount, profits are
transferred to conservative portion
- If speculative portion decreases, funds are added from conservative portion

c) Constant-ratio plan
- Similar to constant-dollar plan, only the ratio between the speculative and conservative
portions is fixed.

d) Variable-ratio plan
- Similar to constant-ratio plan, only the ratio between the speculative and conservative
portions is allowed to fluctuate to predetermined levels.

3) Briefly explain THREE (3) approaches to asset allocation.

i) Fixed-Weightings Approach:
- Asset allocation plan in which a fixed percentage of the portfolio is allocated to each
asset category.

ii) Flexible-Weightings Approach:

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 - Asset allocation plan in which weights for each asset category are adjusted
periodically based on market analysis.

iii) Tactical Approach:

- Asset allocation plan that uses stock-index futures and bond futures to change a
portfolio’s asset allocation based on market behaviour.
4) Explain the portfolio revision and justify the rationale for the portfolio revision.

- Portfolio revision is the process of selling certain issues in a portfolio and purchasing
new ones to replace them.
- The rationale for portfolio revision is to revise on the current proportion of portfolio
and rebalance it if the following happen:
- Changes in economic conditions
- Major life event
- Proportion of one asset class increases or decreases substantially
- Expect to reach specific goal within two years
- Percentage allocation of asset class varies from original allocation by 10% or
more.
- Portfolio revision is aim to ensures that the asset allocation is according to its
objective to avoid the unnecessary risk.

5) Fund Manager A Fund Manager B

Portfolio return (%) 13 17.50
Beta 1.3 2.85
Standard deviation (%) 2.5 3.5
Risk free rate (%) 3.3 3.3
Market risk premium (%) 4.7 4.7
Market return (%) 8 8

a) Using Sharpe's measure,

Manager A's performance= (13-3.3)/2.5 = 4

Manager B's performance= (17.50-3.3)/3.5 = 4.06

Fund manager B has better risk-adjusted performance as compare with Fund manager A as
manager B's performance has higher reading of Sharpe's measure.

b) Using Treynor's measure,

Manager A's performance= (13 - 3.3)/1.30= 7.46

Manager B’s performance= (17.50 - 3.3)/2.85= 4.98

Fund manager A has better risk adjusted performance as compare with Fund manager B as
manager A's performance has higher reading of Treynor's measure.

c) Using Jensen's measure,

Manager's A Performance= (13 - 3.3) - 1.3(4.7)= 3.59

Manager's B performance= (17.50- 3.3) - 2.85(4.7)= 0.81

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Fund manager A has better risk adjusted performance as compare with Fund manager B as
manager A's performance has higher reading of Jensen's measure.

6) "Investing in a portfolio cannot completely diversify all the risk no matter how diversified
portfolio it is." Justify the statement with appropriate illustration.

- The above diagram illustrates the portfolio

diversification and the risk associate with the
portfolio diversification.
- With portfolio diversification, it can only
eliminates the diversifiable risk (non-
systematic risk), but it cannot diversify away
the undiversifiable risk (market risk).
- It means that no matter how diversify the
portfolio, market risk will cause the portfolio decrease in value due to the risk
associated with the whole market for example: Financial Crisis or Bear Market.
- The diagram also indicates that the more securities in a portfolio, the more diversify
it is, the lower the portfolio risk. (it shown on the decreasing line for diversifiable
risk).

7) Why is the asset allocation decision the most important decision made by investor?

- The asset allocation decision, having been made, has the greatest impact on the
portfolio.
-For example, if it is decided to allocate 90 percent of the portfolio to stocks, a strong
upward stock market, or a strong downward market, will clearly have a very large
impact on the performance of the portfolio.

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