Understanding Investments Theories and Strategies

This revised and fully expanded edition of Understanding Investments continues to incorporate the elements of traditional textbooks on investments, but goes further in that the material is presented from an intuitive, practical point of view, and the supplementary material included in each chapter lends itself to both class discussion and further reading by students. It provides the essential tools to navigate complex, global financial markets and instruments including relevant (and classic) academic research and market perspectives. The author has developed a number of key innovative features. One unique feature is its economic angle, whereby each chapter includes a section dedicated to the economic analysis of that chapter’s material. Additionally, all chapters contain sections on strategies that investors can apply in specific situations and the pros and cons of each are also discussed. The book provides further clarification of some of the concepts discussed in the previous edition, thereby offering a more detailed analysis and discussion, with more real-world examples. The author has added new, shorter text boxes, labeled "Market Flash" to highlight the use of, or changes in current practices in the field; updates on strategies as applied by professionals; provision of useful information for an investor; updates on regulations; and anything else that might be relevant in discussing and applying a concept. This second edition also includes new sections on core issues in the field of investments, such as alternative investments, disruptive technologies, and future trends in investment management. This textbook is intended for undergraduate students majoring or minoring in finance and also for students in economics and related disciplines who wish to take an elective course in finance or investments.

Contents List of Figures Acknowledgements PART I INVESTMENT BASICS Chapter 1 The Investment Framework 1. Introduction 2. The General Investment Environment 2.1 Definition of Investments 2.2 The General Investment Environment 2.2.1 Securities 2.2.2 Classification of Securities 2.2.3 Types of Investors 2.3 Financial Markets and Intermediaries 2.3.1 The Roles of Financial Markets 2.3.1 The Roles of Financial Intermediaries 3. The Objectives and Constraints of Investors 3.1 The Objectives of Investors MARKET FLASH Are you realizing your objectives? 3.2 The Constraints of Investors 4. The Investment Management Process 5. The Role of Investment Information 6. Agency and Ethical Issues in Investing 6.1 Asymmetric Information MARKET FLASH Reducing asymmetric information 6.2 The Agent-Principal Problem MARKET FLASH Conflicts between managers and shareholders? 6.3 Ethics in the Marketplace 6.4 Environmental, Social and Governance 6.4.1 Social Responsibility Issues 6.4.2 Environmental Issues 6.4.3 Corporate Governance Issues 7. So, Why Study Investments? 8. Chapter Summary 9. The Plan of the Textbook Key Concepts Questions for Thought and Discussion International Focus: Causes and Consequences of the Financial Crisis of 2008 Lessons of our Times: Lessons of the Global Finance Crisis Applying Economic Analysis: Utility and Efficiency Chapter 2 The Investment Decision Process and Investment Strategies 1. Introduction 2. The Investment Process 2.1 The Investor Policy Statement 2.2 The Risk-Return Tradeoff 2.3 The Asset Allocation Step in the Investment Process 2.4 The Security Selection Step in the Investment Process MARKET FLASH What if the paradigm for long-term investing was to change? 3. General Investment Philosophies and Strategies 3.1 Some Prominent Investment Philosophies 3.2 What is your Investment Philosophy? 3.3 Some Investment Strategies 3.3.1 Top-down and Bottom-up Approaches to Investing 3.3.2 Active and Passive Investment Strategies MARKET FLASH Active or passive investment strategy? 3.3.3 Other Investment Strategies 3.3.4 Dollar-cost Averaging 3.4.5 Margin Purchases and Short Sales MARKET FLASH China cracks down margin trading violations MARKET FLASH Short sales gone bad 4. Types of Markets and Orders 4.1 Types of Trading Markets and Orders 4.2 Types of Trading Orders MARKET FLASH Tick sizes 4.3 Finding the Equilibrium Price of a Share 5. Chapter Summary Key Concepts Questions for Thought and Discussion Applying Economic Analysis: Making Investment Decisions International Focus: Stocks or Bonds amid a Weak Economic Recovery? Lessons of our Times: Asset Allocation Lessons from Warren Buffett Chapter 3 Fundamentals of Risk and Return 1. Introduction 2. Measuring Return 2.1 Holding Period Return 2.2 Return over Multiple Periods 2.2.1 Arithmetic mean 2.2.1 Geometric mean 2.2.3 The Effective Annual Rate 2.2.4 Yield Definitions and Conventions 2.2.5 Real Rate of Return 2.2.6 Expected Rate of Return 3. Measuring Risk 3.1 Calculating the Risk of a Single Asset MARKET FLASH Problems with negative interest rates 3.2 Required Returns and Risk Aversion 3.3 Investor Behavior and Low Interest Rates 3.4 Sources of Risk 3.5 Risk and Investor Economic Decisions 3.6 Utility and Wealth 3.7 Indifference curves and utility function 3.8 Indifference curves and risk aversion 4. Chapter Summary Key Concepts Questions for Thought and Discussion Applying Economic Analysis: Is It Worth Pursuing Further Education? International Focus: Why Treasuries have outperformed equities Lessons of our Times: The Reserve Primary Fund APPENDIX: A Brief Review of the Time Value of Money PART II FINANCIAL MARKETS, INTERMEDIARIES AND INSTRUMENTS Chapter 4 The Global Financial Environment 1. Introduction 2. The Functions of the Global Financial Markets 2.1 Economic Function 2.2 Pricing Function 2.3 Provision of Services 2.4 Other Functions 3. The Securities Exchanges 3.1 US Organized Stock Exchanges 3.1.1 Types of brokers 3.1.2 NYSE operations 3.1.3 NYSE-related Exchanges 3.2 US Over-The-Counter Exchanges MARKET FLASH New index for OTC Markets Group 3.2.1 NASDAQ 3.2.2 Other OTC markets 3.2.3 How to read stock tables 3.3 Some US Stock market Indexes 3.4 Some International Stock Exchanges MARKET FLASH European equity traders want a shorter trading day 3.5 The US Bond Market 3.6 The International Bond Market 4. Trading on the Exchanges 4.1 Clearing Procedures 4.2 Brokerage Services 4.3 Trading Costs MARKET FLASH Charles Schwab eliminates trading commissions MARKET FLASH Instances of front-running activities 4.4 Automatic Trading Mechanisms MARKET FLASH SEC implements a Limit-Up/Limit-Down plan 5. Globalization and the Regulatory Structure of International Stock Markets 5.1 Globalization and Trends MARKET FLASH Delisting of Chinese stocks? 5.2 Investing Internationally and International Return 5.3 Regulatory Structures in the US Exchanges 6. Chapter Summary Key Concepts Questions for Thought and Discussion Applying Economic Analysis: Costs and Benefits of Financial Globalization (and Trade) International Focus: New Offerings by the London Stock Exchange Lessons of our Times: Lessons Learned from the Financial Crisis and Recommendations for Financial Institutions APPENDIX: Calculating a Stock Market Index Chapter 5 Money and Capital Markets, Instruments and Strategies 1. Introduction 2. The Money Markets and Its Instruments 2.1 The Money Market and its Characteristics MARKET FLASH High demand for the international money market 2.2 Money Market Instruments 2.2.1 Non-marketable securities 2.2.2 Marketable securities MARKET FLASH The global market for commercial paper MARKET FLASH Repo worries and bailout efforts MARKET FLASH The debate on replacing the fed funds rate MARKET FLASH Replacing LIBOR 2.2.3 Yields and Spreads in Money Market Instruments 3.The Capital Market and Its Instruments 3.1 The Capital Market and its Characteristics 3.2 Fixed-Income Securities 3.2.1 Federal Government Bonds 3.2.2 Municipal Securities 3.2.3 Agency Bonds 3.2.4 Corporate Bonds 3.3 Yields and Spreads in Capital Market Instruments 3.4 Equity Securities 3.5 Derivative Securities 4. Investment Risks in Financial Markets MARKET FLASH Climate-change investment risk 5. Some Money- and Capital-Market Investment Strategies 5.1 Some Money-market investment strategies 5.2 Some Capital-market Investment Strategies 6. Chapter Summary Key Concepts Questions for Thought and Discussion Applying Economic Analysis: Insider Trading International Focus: The Greek Debt Crisis Lessons of our Times: Lessons from Ireland’s Financial Crisis Chapter 6 Investment Bankers and Investment Companies 1. Introduction 2. Investment Banking 2.1 The Primary Market 2.2 Shelf Registration 2.3 The Investment Banker MARKET FLASH Leading underwriters in the US 3. Initial Public Offering 3.1 IPO participants 3.2 IPO arrangements 3.3 IPO documents 3.4 Road show and book-building 3.5 Costs of IPO 3.6 Performance of IPOs 4. The Investment Companies Industry 3.1 Functions of Investment Companies 3.2 Net Asset Value 3.3 Types of Investment Companies 3.3.1 Unit Investment Trust 3.3.2 Closed-End Investment Companies MARKET FLASH The SEC requires CEF to disclose more 3.2.3 Open-End Investment Companies 3.2.4 Fee Structure of Mutual Funds 3.2.5 Picking a Mutual Fund MARKET FLASH Mutual fund expense ratios fell significantly 3.2.6 Growth of Mutual Funds 3.2.7 Performance of the Mutual Fund Industry 4. Exchange-Traded Funds 4.1 Characteristics of ETFs MARKET FLASH What is happening with ETFs? 4.2 Regulation of ETFs 5. Some Strategies in Mutual Fund Investments 5.1 Simple strategies 5.2 More robust strategies 6. Other Types of Investment Companies 7. Chapter Summary Key Concepts Questions for Thought and Discussion Applying Economic Analysis: Cost-Benefit Analysis at the ICI International Focus: Global IPOs Lessons of our Times: Bogle on the Mutual Fund Industry PART III PORTFOLIO THEORY Chapter 7 Diversification and Asset Allocation 1. Introduction

Nikiforos T. Laopodis is a finance professor at the School of Business and Economics’ Finance Department at The American College of Greece. Dr Laopodis is widely published in the areas of finance and economics on topics such as investments, monetary and fiscal policies, and financial econometrics and in highly respected finance journals. Since 1995, he has been, and continues to be, a regular participant in the Eastern Finance Association, Financial Management Association (US and Int’l) and later in the European Financial Management Association.