Investments An Introduction

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InvestmentsAn Introduction

• Eighth EditionHerbert B. MayoThe College of New
  Jersey

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Chapter 1

• An Introduction to Investments

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Introduction of Portfolio Construction

• Income is either spent or saved.
• Savings are invested.
• The investments constitute a portfolio.
• The composition of a portfolio depends on
  investment goals.
• Not all assets are appropriate for all financial
  goals.

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Possible Investment Goals

• Funds to meet emergencies
• Funds to finance education expenses
• Funds to make a specified purchase (e.g., a home)
• Funds for retirement

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Preliminary Definitions

• Investments lay usage v. economics
• Primary and secondary markets
• Value and valuation

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Preliminary Definitions

• Return income and capital gains
• Return monetary units and percentages
• Risk differentiated from speculation
• Marketability and liquidity of an asset

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Sources of Risk
Total Risk

• Unsystematic (diversifiable)
• Business
• Financial

• Systematic (nondiversifiable)
• Market
• Interest Rate
• Reinvestment
• Purchasing Power
• Exchange Rate

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Diversification and Unsystematic Risk

• Diversification reduces (or eliminates)
  unsystematic risk.
• Unsystematic risk is asset specific.

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Diversification and Unsystematic Risk

• For firms, unsystematic risk refers to business
  risk and financial risk.
• Diversification does not reduce systematic risk.

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Efficient Markets

• Financial markets are efficient because
• Fierce competition exists among investors
• Participants may readily enter and exit financial
  markets, and
• Information is readily available.

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Efficient Markets

• Efficient markets implies
• The investor should not expect to consistently
  outperform the market.

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Portfolio Assessment

• Popular press places emphasis on return.
• Higher return requires accepting more risk.
• Assessment should consider both the return and
  the risk taken to achieve the return.

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The Internet

• Major source of information concerning
  investments
• Information is often available for little or no
  cost.
• Problem of inaccurate or biased information

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The Importance of

• Beliefs
• Investment philosophy
• Understanding yourself
• Available time to make investment decisions
• The investors resources

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Appendix 1

• Supply and Demand

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Supply and Demand Determine Price

• An equilibrium price occurs when
• Quantity demanded quantity supplied
• At equilibrium no incentive for price to change

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Demand for a Good or Service Depends on Several
Variables

• The price of the good
• Consumer tastes
• Prices of substitute and complementary goods
• Consumer incomes

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Supply of a Good or Service Depends on Several
Variables

• The price of the good
• Production costs
• Technological level

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The Interaction Between Supply and Demand
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The Interaction Between Supply and Demand

• The equilibrium price equates the quantity
  demanded and the quantity supplied.

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Effect of a Higher PriceExcess Supply
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Effect of Lower PriceExcess Demand
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Demand Supply Graphs

• Relate price and quantity
• All other factors held constant
• If any variable changes, the demand curve or the
  supply curve shifts
• The shift causes the quantity and price to change

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An Increase in Demand
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An Increase in Demand

• Causes price to rise and quantity supplied to
  increase
• A decrease in demand has the opposite effect -
  price and quantity supplied fall

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An Increase in Supply
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An Increase in Supply

• Causes price to fall and quantity demanded to
  increase
• A decrease in supply causes prices to rise and
  quantity demanded to fall.