Presentation on theme: "WE KNOW WHAT WE DON’T KNOW"— Presentation transcript:
1WE KNOW WHAT WE DON’T KNOW Dr. Chittaranjan A. Patel (M.D.)17741 Holly Court, Tinley Park, IL 60487Phone # (708)
2All these work under the same principle: Which? Stock MarketCasinoInsurance Industries
3Question: If you toss the coin 10 times and If King is the winner & Queen is the looser, what arethe chances that you get the King(winner) all 10 times?
4Answer: Probability is 0.01% means 1 out of 1000. 500 250 125 64 32 16 8421
5“Further backward you look, further forward you can see “Further backward you look, further forward you can see.” - Winston Churchill
6Long-Term Government Bonds Average (No Compounding) “Something which is non-sustainable has to come to a sustainable level.”Defeats and Then Victories in Asia and North Africa (Assets Class Performance, )YearLarge StocksSmall StocksLong-Term Government BondsTreasury BillsInflation1929-8.4%-51.4%3.4%4.7%0.2%1930-24.9-22.214.171.124-6.01931-43.3-49.8-5.31.1-9.51932-8.2-5.416.81.0-10.3193354.0142.9-0.10.30.51934-1.424.210.00.22.0193547.740.25.03.0193633.9126.96.36.19937-35.0-58.03.11938188.8.131.52.0-2.81939-0.45.9-0.51940-9.8-5.26.11941-11.6-9.00.90.19.7194220.3184.108.40.20694325.988.42.1194419.853.72.8194536.473.610.72.3Average (No Compounding)7.420.50.7Compounded Average220.127.116.11.4Growth of $18.104.22.168.06
7Performance of the Indices YearDJIAS&P 500Dogs of the Dow198931.70%31.50%26.50%1990-0.40%-3.20%-7.60%199123.90%30.00%34.30%19927.40%7.60%7.90%199316.80%10.10%27.30%19944.90%1.30%4.10%199536.40%37.60%36.50%199628.60%23.00%27.90%199724.90%33.40%21.90%199818.10%10.70%199927.20%21.10%4.00%2000-4.70%-9.20%6.40%2001-5.40%-11.90%-4.90%2002-14.90%-22.10%-8.90%200328.30%28.70%10-Year return14.40%13.00%12.9%** Ten years ended December 31, 2003
8Average annual total return on stock from 1928 to 2006 was 9 Average annual total return on stock from 1928 to 2006 was 9.6% per Year.4.6% dividend yield.5.0% earning growth.When there are multiple solutions to one problem: Choose the simplest one.Two sources of superior return on index fund.Broadest possible diversification.The tinniest possible cost: Minimal tax.Real money in investment will be made not of buying & selling but owing & holding security.Common stocks, Real estate and commodities perform better during periods of slight to moderate inflationDuring high inflation: all financial assets and common stock do poorly.Two great enemies of investor are:ExpenseEmotionFor investor as a whole, return decrease as motion increase.Where return is concerned, time is your friend but when cost is concerned, time is your enemy.“I can calculate the motion of heavenly bodies, but not the madness of people.” - Sir Isaac Newton
9The Japanese Yen for Land & Stock One of the largest booms and busts of the late twentieth century involved the Japanese real estate and stock markets. From 1955 to 1990, the value of Japanese real estate increased more than 75 times. By 1990, the total value of all Japanese property was estimated at nearly $20.00 trillion-equal to more than 20 percent of the entire world’s wealth and about double the total value of the world’s stock markets. America is twenty five time bigger than Japan in terms of physical acreage, and yet Japan’s property in 1990 was appraised to be worth five times as much as all American property. Theoretically, the Japanese could have bought all the property in American by selling off metropolitan Tokyo. Just selling the imperial palace and its grounds at their appraised value would have raised enough cash to buy all of California.The stock Market countered by rising like a helium balloon on a windless day. Stock prices increased 100 fold from 1955 to At their peak in December 1989, Japanese stocks had a total market value of about $4.00 trillion, almost 1.5 times the value of all U.S equities and close to 45% of the world’s equity-market capitalization.StockBased on Firm-Foundation Investing theory, Japanese stocks sold more than 60 times earnings, (U.S. at about 15 times earning and London at about 12 times earning)almost 5 times book value andmore than 200 times dividends.Two mythLand price could never go downHigh saving and low return on saving.Law of gravity Isaac Newton arrived in Financial law of gravity knows NO geographic boundary.
11Total number of recession : 11 (Time duration : 96 months) Recovery & RecessionBetween 1950 – 2005Total number of recession : 11 (Time duration : 96 months)Shortest : 6 monthsLongest : 12 months660 Months – 96 Months = 564 months recovery85:15 (Growth : Recession)Through out American history : 1/3 recessionThose who has mood & money (Cash & Courage), they get the highest return.Why recession is short & shallow?
12Number of days, on average, that the stocks are held in the portfolio. Volatility (Turnover Rate)Number of days, on average, that the stocks are held in the portfolio.Average turnover rate between 1945 and 1965: 16% means average holding period of stock in the portfolio: 6 Years.Between 1995 – 2005Index%Average holding period of stock in portfolioDIAMOND100%12 monthsETF200%-800%6-1.5 monthsRussel 20007500%3 DaysSPDR8500%2.5 Days
13Wealthy Family:A wealthy family named the Gotrocks, grown over the generations to include thousands of brothers, sisters, aunts, uncles, and cousins, owned 100% of every stock in the United States. Each year, they reaped the rewards of investing: all the earnings growth that those thousands of corporations generated and all the dividends that they distributed. Each family member grew wealthier at the same pace, and all was harmonious. Their investment had compounded over the decades, creating enormous wealth, because the Gotrocks family was playing a winner’s game.But after a while, a few fast-talking Helpers arrive on the scene, and they persuade some “smart” Gotrocks cousins that they can earn a larger share than the other relatives. These Helpers convince the cousins to sell some of their shares in the companies to other family members and to buy some shares of other from them in return. The helpers handle the transactions, and as brokers, they receive commissions for their services. The ownership is thus rearranged among the family members.To their surprise, However, the family wealth begins to grow at slower pace. Why? Because some of the return in now consumed by the Helpers, and the family’s share of the generous pie that U.S industry bakes each year- all those dividends paid, all those earning reinvested in the business-100% at the outset, starts to decline, simply because some of the return is consumed by the Helpers.To make matters worse, while the family had always paid taxes on their dividends, some of the members are now also paying taxes on the capital gains they realize from their stock-swapping back and forth, further diminishing the family’s total wealth.The smart cousins quickly realize that their plan has actually diminished the rate of growth in the family’s wealth. They recognize that their foray into stock-picking has been a failure and conclude that they need professional assistance, the better to pick the right stocks for themselves. So they hire stock-picking experts- more Helpers!- to gain an advantage. These money managers charge a fee for their services. So when the family appraises its wealth a year later, it finds that its share of the pie has diminished even further.To make matters still worse, the new managers feel compelled to earn their keep by trading the family’s stock at feverish levels of activity, not only increasing the brokerage commissions paid to the first set of Helpers, but running up the tax bill as well. Now the family’s earlier 100% share of the dividend and earning pie is further diminished.Conclusion: More the manager & brokers take, less the investor makes. Get rid of all your helpers. Then our family will again reap 100% of the pie that Corporate America bakes for us.
14Mr. Market Story“In the short run, the stock market is a voting machine….(but) in the long run it is a weighing machine.”“Imagine that in some private business you own a small share which cost you $1000. One of your partners, named Mr. Market, is very obliging indeed. Every Day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell you an additional interest on that basis. Sometimes this idea of value appears plausible and justified by business developments and prospects. Often, on the other hand, Mr. Market lets his enthusiasm or his fears run away with him, and the value he proposes seems little short of silly.The investor with a portfolio of sound stocks should expect their prices to fluctuate and should neither be concerned by sizable declines nor become excited by sizable advances. He should always remember that market quotations are there for his convenience, either to be taken advantage of or to be ignored.If you are a prudent investor will you let Mr. Market’s daily communication determine your view as the value of your $1000 interest in the enterprise?
15Charles DarwinIt is not the strongest of the species that survives, not the most intelligent, but the one most responsive to change.In 1917, Forbes published a list of the 100 largest U.S. companies. Over the next 71 years there was the Great Depression, World War II, the inflation of the 1970s, and the spectacular postwar boom. When forbes reviewed the original list in 1987, 61 of the companies no longer existed for one reason or another. Of the rest, 21 still were in business but no longer were in the top 100. Only 18 were, and with the exception of General Electric and Kodak, they all had underperformed the market indexes. Since then, Kodak has had serious difficulties so GE is the sole, truly successful survivor. In 1997, Foster and Kaplan checked the endurance record of the Standard & Poor’s 500 Stock Index since it was created 40 years earlier. Only 74 of the original companies were still in the select 500, and that group had underperformed the overall index by 20%.
16SIRIS & Bird flue epidemic. EMP Attack: Black SwansA Black Swan is a very low probability but extremely high impact event. (They prove to be turning points)Nassim Taleb, an original and creative philosopher, introduces the concept of the Black Swan. The black swan. The black swan is a freak of nature, and until Australia was discovered, civilized people could not believe a black swan could happen.Black Swans are totally unpredictable happenings, 20 standard deviation events that come out of the great nowhere of the inconceivable to change the world. The assassination of Arch Duke Ferdinand, the rise of Hitler, Pearl Harbor, the fall of the Soviet Union, September 11, 2001, and the crash of 1987 were all Black Swans. What were the odds that event happening.SIRIS & Bird flue epidemic.EMP Attack:Let’s say the freighter ship launches a nuclear-armed Shahab-3 missile off the coast of the U.S and the missile explodes 300 miles over Chicago. The nuclear detonation in space creates an electromagnetic pulse (EMP).Gamma rays from the explosion through the Compton effect, generate three classes of disruptive electromagnetic pulses, which permanently destroy consumer electronics, the electronics in some automobiles and, most importantly, the hundreds of large transformers that distribute power through out the U.S. All of our lights, refrigerators, water-pumping stations, TVs and radios stop running. We have no communication and no ability to provide food and water to 300 million Americans.
17Weapons of Mass Destruction (WMD) BanksInvesting BankGoldman SachsMorgan StanleyMerill LynchLehman BrothersBear StearnsCommercial BankCitiBankJP MorganBank of AmericaWeapons of Mass Destruction (WMD)CDS (Credit Default Swaps) : Bank A making a $10 million loan to company B. Bank A can eliminate most of the risk of B from its books by going to C, a dealer in these swaps, who agrees to pay the $10 million to A if B defaults, in exchange for A paying an annual premium to C for the protection.CDO (Collateral debt obligation)Currency TradingOil, Gold, Commodity TradingAt First glance, the financial markets are remarkably complex. Stocks and bonds are complicated enough, but then there are options, futures options on futures, interest rate swaps, government “strips” and an array of other products so arcane that new Ph.D.s in mathematics routinely head for wall street rather than the Ivory Tower. At the Chicago Mercantile Exchange, it is now possible to buy or sell a futures contract based on the average temperature in Los Angeles. Across town at the Chicago board of Trade, one can buy and sell the right to emit CO2.“The dollars still enjoys a special status Safe Haven”As the crisis has deepened, investors, companies and banks world wide have raced to get their hands on dollars. Either because they need U.S dollar to do business and pay bank to borrower or because they perceived the buck as a Safe Haven.
18Type of StocksBlue Chip Stock: A well-established company having stable earnings and no extensive liabilities. Most blue chip stocks pay regular dividends, even when business is faring worse than usual.Income Stock: They have steady streams of revenue that allow for a high level of income payout to investors. The ideal income stock would have a very low volatility Ideal income stocks would also show a history of increasing dividends on a regular basis so as to keep up with inflation, which eats away at future cash payments.Growth Stock: Growth Stocks are stocks that appreciate in value and yield a high return on equity (ROE). Analysts compute ROE by taking the company's net income and dividing it by the company‘s equity. To be classified as a growth stock, analysts expect to see at least 15 percent return on equityValue Stock: A value investor believes that the market isn't always efficient and that it's possible to find companies trading for less than they are worth. An easy way to attempt to find value stocks is to use the "Dogs of the Dow" investing strategy - buying of the 10 highest dividend-yielding stocks on the Dow Jones at the beginning of each year and adjusting it every year thereafter.Cyclical Stock: The stock of a company which is sensitive to business cycles and whose performance is strongly tied to the overall economy. Cyclical companies tend to make products or provide services that are in lower demand during downturns in the economy and higher demand during upswings. Examples include the automobile, steel, and housing industries. The stock price of a cyclical company will often rise just before an economic upturn begins, and fall just before a downturn begins.
19Between 1.0 billion – 5.0 billions. Small Cap: < 1.0 billions: Type of StocksDefense Stock: A stock that tends to remain stable under difficult economic conditions. Defensive stocks include food, tobacco, oil, and utilities. These stocks hold up in hard times because demand does not decrease as dramatically as it may in other sectors. Defensive stocks tend to lag behind the rest of the market during economic expansion because demand does not increase as dramatically in an upswing.Speculative Stock: A stock which is considered to be very risky, in comparison with its expected return. One example of an often speculative stock is a penny stock.Large Cap> 5.0 billionsDow 30 / S&P 500.Medium Cap:Between 1.0 billion – 5.0 billions.Small Cap:< 1.0 billions:Note: some small cap companies are future Intel & Microsoft. However, some small company goes out of business.
20InflationIn economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. A chief measure of price inflation is the inflation rate, which is the percentage change in a price index over time.Inflation can cause adverse effects on the economy. For example, uncertainty about future inflation may discourage investment and saving. Fixed nominal payments unadjusted for inflation in the monetary medium of exchange as a result of the implementation of the Historical Cost Accounting model will widen the real salary gap between those with fixed payments for constant real value salaries and those with inflation-adjusted payments for constant real value salaries. High inflation may lead to shortages of goods as consumers begin hoarding them out of concern their prices will increase in the future.The overall general upward price movement of goods and services in an economy, usually as measured by the Consumer Price Index and the Producer Price Index. Over time, as the cost of goods and services increase, the value of a dollar is going to fall because a person won't be able to purchase as much with that dollar as he/she previously could. While the annual rate of inflation has fluctuated greatly over the last half century, ranging from nearly zero inflation to 23% inflation, the Fed actively tries to maintain a specific rate of inflation, which is usually 2-3% but can vary depending on circumstances.
21Hyper Inflation (Germany & Argentina) by June of 1922, inflation was at an annual rate of 4% by September 22% and by December, 68% Then it really took off: in March 1933, it hit 285%, then 765% in June, 1,500,000% in September, and finally 152,221,670,000% in December.At the end of 1990, Argentine inflation was more than 1,000% a year. In 1991, Argentina declared that it was relinquishing control over its own monetary policy. No more printing money.
22DeflationWhen the inflation rate slows down (decreases, but remains positive), this is known as disinflationA general decline in prices, often caused by a reduction in the supply of money or credit.Deflation can be caused also by a decrease in government, personal or investment spending.The opposite of inflation, deflation has the side effect of increased unemployment since there is a lower level of demand in the economy, which can lead to an economic depression.Declining prices, if they persist, generally create a vicious spiral of negatives such as falling profits, closing factories, shrinking employment and incomes, and increasing defaults on loans by companies and individuals. To counter deflation, the Federal Reserve (the Fed) can use monetary policy to increase the money supply and deliberately induce rising prices, causing inflation. Rising prices provide an essential lubricant for any sustained recovery because businesses increase profits and take some of the depressive pressures off wages and debtors of every kind. Deflation in economics is a persistent decrease in the general price level of goods and services only when annual inflation is below zero percent resulting in an increase in the real value of money - a negative inflation rate.Inflation destroys real value in money. Deflation creates real value in money. Alternatively, the term deflation was used by the classical economists to refer to a decrease in the money supply and credit; some economists, including many Austrian school economists, still use the word in this sense. The two meanings are closely related, since a decrease in the money supply is likely to cause a decrease in the price level.Cure for deflation? (The Printing Press): Comments from current Federal Reserve Chairman Ben Bernanke years before he was Fed chief offer support for economist’s arguments. In his famous address on fighting deflation in 2002, Mr. Bernanke said the Fed wouldn’t run out of ammunition to influence prices, even after cutting interest rates to Zero: “The U.S. government has a technology, called a printing press that allows it to produce as many U.S. dollars as it wishes at essentially no cost”.
23Construction was virtually halted in many countries. DepressionThe depression had devastating effects in virtually every country, rich or poor. International trade plunged by half to two-thirds, as did personal incomes, tax revenues, prices, and profits.The Great Depression was a worldwide economic downturn starting in most places in 1929 and ending at different times in the 1930s or early 1940s for different countries. It was the largest and most important economic depression in modern history, and is used in the 21st century as an example of how far the world's economy can fall.The Great Depression originated in the United States; historians most often use as a starting date the stock market crash on October 29, 1929, known as Black Tuesday. The end of the depression in the U.S is associated with the onset of the war economy of World War II, beginning around 1939.Cities all around the world were hit hard, especially those dependent on heavy industry.Construction was virtually halted in many countries.
24StagflationEconomists offer two principal explanations for why stagflation occurs.First, stagflation can result when an economy is slowed by an unfavorable supply shock, such as an increase in the price of oil in an oil importing country, which tends to raise prices at the same time that it slows the economy by making production less profitable. This type of stagflation presents a policy dilemma because most actions to assist with fighting inflation worsen economic stagnation and vice versa.Second, both stagnation and inflation can result from inappropriate macroeconomic policies. For example, central banks can cause inflation by permitting excessive growth of the money supply, and the government can cause stagnation by excessive regulation of goods markets and labor markets; together, these factors can cause stagflation. Both types of explanations are offered in analyses of the global stagflation of the 1970s: it began with a huge rise in oil prices, but then continued as central banks used excessively simulative monetary policy to counteract the resulting recession, causing a runaway wage-price spiral.John Maynard Keynes wrote in The Economic Consequences of the Peace that governments printing money and using price controls were causing a combination of inflation and economic stagnation in Europe after World War I.Stagflation was also a very serious macroeconomic problem in the 1970s. In contrast to central bank responses to the oil price spike of the 1970s where similar policies were pursued on both sides of the Atlantic, the 21st century began with America going one way to fight recession and Europe going the other way to fight inflation.
25“Nothing to fear but fear itself” – Franklin Delano Roosevelt’s RecessionIn economics, the term recession generally describes the reduction of a country's gross demestic product (GDP) for at least two quarters.The usual dictionary definition is "a period of reduced economic activity", a business cycle contraction.Inflation is bad; deflation, or steadily falling prices, is much worse. Even modest deflation can be economically devastating, as Japan has learned over the past decade. To begin with, falling prices cause consumers to postpone purchases. Why buy a refrigerator today when it will cost less next week? Meanwhile, asset prices are failing, too, so consumers feel poorer and less inclined to spend. As we know from the last chapter, when consumers stop spending, the economy stops growing.The United States-based National Bureau of Economic Research (NBER) defines economic recession as: "a signifiant decline in [the] economic activity spread across the economy, lasting more than a few months, normally visible in real GDP growth, real personal income, employment (non-farm payrolls), industrial production, and wholesale-retail sales.““Nothing to fear but fear itself” – Franklin Delano Roosevelt’s
26Assets Allocation“The amount of interest you want depends on weather you want to eat well or sleep well.”Wall street journal: “Bonds let you sleep at night but at a price.” Over that period, a portfolio of 100 percent stocks earned an average annual return of 12.9 percent; a portfolio of 100 percent bonds earned a relatively meager 5.8 percent average annual return over the same period.The stock portfolio lost 26.5 percent of its value in its worse year; the bond portfolio never lost more than 5 percent of its value in a single bad year. Similarly, the stock portfolio had negative annual returns eight times between 1945 and 1997; the bond portfolio lost money only once. The bottom line; Risk is rewarded.ReturnRiskSmall Cap Stock12.40%33.40%Large Cap Stock11.00%20.20%Government Bonds5.50%5.80%Treasury Bills3.90%3.20%
31Which Scenario would make you happier? Relative Wealth“The size of my pie compared to my neighbor’s- is an important determinant of our utility.”Which Scenario would make you happier?
32Relative WealthThe income figures represent real purchasing power. Your income in Option (A) would command a house 10% larger than the one you could afford in Option (B), 10% more restaurant dinners and so on.By choosing World B, you had give up small amount of absolute income in return for a large increase in relative income.You would be richer in Option (A);you would be less wealthy in Option (B) but richer than everyone else.Survey found majority of Americans would choose option (B). In other words “Relative income does matter”.
33Number of Van Haussen Shirts are sold Consumer SpendingConsumers are Engine of Economy. Consumer spending is corner stone of Economy.Consumer spending depends on Hrs wages & Salary + Employment.Net disposable income = Income – Tax – Inflation Adjustment.Three sources of money.Wages & SalaryBorrowing (i.e. Auto loan, Credit card loan, Home loan, Applicant loan)Income on investment. (i.e. Dividend, Rent)Money goes out (SSI)SpendingSavingInvestment.Number of Van Haussen Shirts are sold2005200620071st Qtr4,0004,2004,4002nd Qtr4,1004,6003rd Qtr4,3004,9004th Qtr4,8005,2005,600
34Gross Domestic Product (GDP) The gross domestic product (GDP) is one of the measures of national income and input for a given country's economy. Good & service produced by nation.GDP is defined as the total cost of all completed goods and services produced within the country in a stipulated period of time (usually a 365-day year). It is sometimes regarded as the sum of profits added at every level of production of all final goods and services produced within a country in a stipulated timeframe.I must make two important qualifications.First, what we care about is real GDP, which means that the figure has been adjusted to account for inflation. In contrast, nominal figures have not been adjusted for inflation. If nominal GDP climbs 10% in 2002 but inflation is also 10%, then we haven’t actually produced more of anything. We have just sold the same amount of stuff at higher prices, which has not made us any better off. Your salary has most likely gone up 10 % but so has the price of everything you buy. It’s the economic equivalent of swapping a $10 bill for ten $1 bills. It looks good in your wallet, but you are not any richer.Second, we care about GDP per capita, which is a nation’s GDP divided by its population. Again, this is necessary to prevent wildly misleading conclusions. India has a GDP of $427 billion while Israel has a GDP of $97 billions. Which is the richer country? Israel by far. India has nearly a billion people while Israel has only six million; GDP per capita is Israel is $16,180 compared to only $440 in India. Similarly, if a country’s economy grows 3 percent in a given year but the population grows 5 percent, then GDP per capita will fall. The country is producing more goods and services, but not enough more to keep up with a population that is growing faster.
35Mutual FundsA mutual fund is a professionally managed type of collective investment scheme that pools money from many investors and invests it in stocks, bonds, short-term money market instruments, and/or other securities.The mutual fund will have a fund manager that trades the pooled money on a regular basis.Currently, the worldwide value of all mutual funds totals more than $26 trillion.Three type of mutual fundsOpen-end funds: collective investment which can issue and redeem shares at any time. An investor can purchase shares in such funds directly from the mutual fund company, or through a brokerage house. Unlimited number of shares.Unit Investment Trusts (UITs) : is a form of collective investment constituted under a trust deedClosed-end fund: Limited number of shares. New shares are rarely issued after the fund is launched; shares are not normally redeemable for cash or securities until the fund liquidates.Load fundEntry feesExit feesNo Load fund.Manager are smart, well educated, experience, knowledge, honest. But they are competing with each other. When one buys a stock and another sells it.
36% (Active Manager would expected to outplace the index) Mutual Funds“Where return is concerned, time is your friend but when cost is concerned, time is your enemy.”Following are different types of investment cost.Management FeesSales personOperating costAdvertisement costBroker’s commissionTaxLawyers / Estate PlanningTax accountThe more the broker & Manager take, the less the investor makes.Performance comes & goes but cost goes on forever.Two great enemies of investor are:ExpenseEmotionUncertainty is a enemy of stock market.35 Years (1970 – 2005): 350 Mutual funds.210 (60%): Gone out of business.140 (40%): 115 (82%): 1% below market venture.25 (18%): 1% above market venture.1% above market venture ratio: 1:14Under normal circumstances, it takes between years to statistically prove that a money manager is skillful. For each big success, there must also be a big failure.Venture Capital, are those who put the first at risk capital into new entrepreneurship business. (i.e. Micorosoft, Google, Youtube)Number of Year(s)% (Active Manager would expected to outplace the index)1 Year24%5 Years15%10 Years9%Over 25 Years5%Over 50 Years2%
37High net worth ( > 1.5 million) Total Asset – Debt = Net worth. Hedge FundA hedge fund is a private investment fund open to a limited range of professional or wealthy investors.High net worth ( > 1.5 million)Total Asset – Debt = Net worth.Commit > 1.0 millionThis provides them with an exemption in many jurisdictions from regulations governing short selling, derivative contracts, leverage, fee structures and the liquidity of interests in the fund.A hedge fund will typically commit itself to a particular investment strategy, investment types and leverage levels via statements in its offering documentation, thereby giving investors some indication of the nature of the fund.
38IPO (Initial Public Offering) Initial public offering (IPO), also referred to simply as a "public offering", is when a company issues common stock or shares to the public for the first time. They are often issued by smaller, younger companies seeking capital to expand, but can also be done by large privately-owned companies looking to become publicly traded.Institutional Investor gets very large allocation & Time sensitive information.80% of the IPOs are found to be under performed after 5 years.SpeculationA man in their life time should not speculate two timesWhen they can not afford.When they can.What Games played by Management, Corporation, Underwriter, Analyst?Underwriter:AnalystStrong buyBuyHoldSellIPOCompany:Names :Ship building – Marine SystemZinc Corporation – Space Mineral DivisionLock Company – Profective Service Division.P/E 6 P/E 20Merger – Acquisition
39Investment Theory“A man who knows the price of everything and the value of nothing.” - Oscar WildeTwo important investment theories:Firm Foundation Theory: Any financial asset likes a stock or real estates like a piece of property has an intrinsic value. The condition in the market either keeps the price below the intrinsic value or above the intrinsic value - it rarely remains at or around the intrinsic value. This position offers the investor a choice - in case, he/she is able to buy the stock or the real estate below its intrinsic value, he/she shall make profits when the price goes above the intrinsic valueIntrinsic value = Careful analysis of present condition and future prospect.When market prices fall below this firm foundation of intrinsic value, A buying opportunity arises.Castle in the air Theory: Investor concentrates on psychic values. The Castle-in-the-Air Theory digs deep into another aspect of investing behavior. It tries to resolve and understand the psychic values and behavior of the group of investors. This theory was made popular in 1936 by John Maynard Keynes, a famous economist (as also an investor) and the theory propose that the investors try to build a sort of castles in the air and think of the probable price rise in the future than estimating the intrinsic values of stocks. Once the investor has estimated this, he/she tries to beat the crowd by building positions in the preferred stocks before the crowds (read other investors) start buying those stocks and the price surges ahead.Professional investor prefer to devote their energies not to estimate intrinsic value, but rather to analyze how the crowd of investor is likely to behave in the future.During period of optimism, they tend to build their hopes into castle in the air.For investor as a whole, return decrease as motion increase.
40Bubble arise positive feedback loop: Investment TheoryBubble arise positive feedback loop:A bubble starts when any group of stocks, in this case those associated with the excitement of the internet, begin to rise. The updraft encourages more people to buy the stocks, which cause more TV and print coverage, which causes even more people to buy, which creates big profits for early internet stockholders. The successful investors tell you at cocktail parties how easy it is to get rich, which causes the stocks to rise further, which pulls in larger and larger groups of investors. But the whole mechanism is kind of Ponzi scheme where more and more credulous investors must be found to buy the stock from the earlier investors. Eventually one runs out of greater fools.During a bubble buyers are everywhere then, suddenly, they disappear, waiting, watching, delaying, reluctant to buy assets that others might not. That buyers will disappear in a bubble is predictable, what is never predictable is the timing. In his 1933 inaugural address, President Franklin Roosevelt said “the only thing we have to fear to fear itself”. Yes. But the return of fearful buyers is just as unpredictable as the timing of their disappearance.
41An amount of good & service he/she can produce in an hr. ProductivityProductivity is the efficiency with which we convert input into output.Economy growth is not everythingWhat about Quality of life?PollutionEqualityHealthAn amount of good & service he/she can produce in an hr.Freer a nation is the richer & healthier population.Base single major of heath is a society is a life expectancy.Quality of Medical careInfant MotilityFreest people are not only richest but healthiest.Detroit auto worker does it take 2000 hrs vs. 200 hrs to make cars?More productive we are, richer we are.Iowa farmer if produce 30 Brussels of corn on one acre of land vs 300 Brussels of corn on one acre of land..I can calculate the motion of heavenly bodies, but not the madness of people.Productivity growth depends on investment – in physical capital, in human capital, in research and development, and even in things like more effective government institutions.
42ProductivityOur legal, regulatory, and tax structures also affect productivity growth. High taxes, bad government, poorly defined property rights, or excessive regulation can diminish or eliminate the incentive to make productive investments. Collective farms, for example, were a very bad way to organize agriculture. Social factors such as discrimination, can profoundly affect productivity. A Society that does not educate its women or that denies opportunities to members of a particular race or caste or tribe is leaving a vast resource fallow. Productivity growth also depends a great deal on innovation and technological progress, neither of which is understood perfectly.Skilled workers in American have always earned higher wages than unskilled workers; that difference has started to grow a remarkable rate. In short, human capital has become more important, and therefore better rewarded, than even before. One simple measure of the importance of human capital is the gap between the wages paid to high school graduates and the wages paid to college graduates. College graduates earned an average of 40% more than high school graduates at the beginning of the 1980s. Now they earn 80% more.Technology makes smart workers more productive while making low-skilled workers redundant. ATMs replaced bank tellers; self-serve pumps replaced gas station attendants; automated assembly lines replaced workers doing mindless, repetitive tasks.
43ProductivityComputers and sophisticated robots now assemble the major components of a car- while creates high-paying jobs for people who write software and design robots while reducing the demand for workers with no specialized skills other than a willingness to do an honest day’s work.We are more productive. The day is not any longer, but what we can get done in twenty-four hours has changed dramatically. “Making money takes time, so when we ship, we are really spending time. The real cost of living isn’t measured in dollars and cents but in the hours and minutes we must work to live”America is rich because Americans are productive. We are better off today than at any other point in the history of civilization because we are better at producing good and services than we have ever been including things like health care and entertainments. The bottom line is that we work less and produce more. In 1870, the typical household required 1,800 hours of labor just to acquire its annual food supply; today, it takes about 260 hours of work. Over the course of the twentieth century, the average work year has fallen from 3,100 hours to about 1,730 hours. All the while, real gross domestic product (GDP) per capita- an inflation adjusted measure of how much each of us produces, on average-has increased from $4,800 to $31,500. Even the poor are living extremely well by historical standards. The poverty line is now at a level of real income that was attained only by those in the top 10 percent of the income distribution a century ago. As John Maynard Keynes once noted, “In the long run, productivity is everything.”In India per capita GDP $ per Year.Will our children be better off than we are? Yes, if they are more productive than we are, which has been the pattern throughout American history. Productivity growth is what improves our standard of living. If productivity grows at 2 percent a year, then we will become 2 percent richer every year. Why? Because we can take the same inputs and make 2 percent more stuff. (Or we could make the same amount of stuff with 2 percent fewer inputs.) One of the most interesting debates in economics at the moment is whether or not the American economy has under gone a sharp increase in the rate of productivity growth. Some economists, including Alan Greensan, have argued that investments in information technology have led to permanently higher rates of productivity growth.
44CapitalCapital: is the engine of growing free market economy. Increase capital makes improvement in the labor force.Financial CapitalHuman (i.e. knowledge and know how, invention, hope & entrepreneurship technology, skill, value & honesty, Creativity)Physical (i.e. Factory, plan, computer, building etc)Why average US worker earn 5-10 times more per Hr than worker in Mexico. ?False: higher minimum wedge.True: American worker are 5-10 times more productive on job than average Mexican worker.Two great enemies of investor are:ExpenseEmotionCost of Investing:More the manager & brokers take less the investor makes.Following are different types of investment cost.Management FeesSales personOperating costAdvertisement costBroker’s commissionTaxLawyers / Estate PlanningTax accountPerformance comes & goes but cost goes on forever.Where return is concerned, time is your friend but when cost is concerned, time is your enemy.Investment Return (earning growth plus yield) 9.5%Market Return (includes speculative return*) 9.6%Why foreigners are willing and able to finance to US growth.?
45Effective Government Institution Effective government institutions : To grow and prosper, a country needs laws, law enforcement, courts, basic infrastructure, a government capable of collecting taxes – and a healthy respect among the citizenship for each of these things. These kinds of institutions are the tracks on which capitalism runs. They must be reasonably honest. Corruption is not merely an inconvenience, as it is sometimes treated; it is a cancer that misallocates resources, stifles innovation, and discourages foreign investment.Bad policy makes people to leave, not to live.Government is working against people not for people.Good Government Good Policy Good Economy.World Bank – 150 six broad measure of governance.AccountabilityRegulatory burdenRules or LawsCorruptionBetter government better development OutcomeHigher per CapitalLower Infant mortalityHigher literacyLife expectancyFiscal Policy: Fiscal policy uses the government’s capacity to tax and spend as a lever for prying the economy from reverse into forward. If nervous consumers won’t spend, then the government will do it for them – and that can create a virtuous circle. While consumers are sitting home with their wallets tucked firmly under the mattress, the government can start to build highways and bridges. Construction workers go back to work; their firms place orders for materials.Monetary Policy (FOMC): Where does the Fed drive this extraordinary power over interest rates? After all, commercial banks are private entities.
46Size of Government: Government spending in America is roughly 20% of GDP, which is low by the standards of the developed world. Government spending in Britain is roughly 40% of GDP. In Japan, it is over 45%; in France and Sweden it is over 50%.Budget Deficit/Surplus: A budge deficit occurs when the government spends more than it collects in revenues and a surplus is the opposite. If the economy slips into recession, then tax revenues will fall and spending on programs such as unemployment insurance will rise. This is likely to lead to a deficit; raising taxes or cutting spending during a recession will almost certainly make it worse.Raising Capital: One of the fascination things in life, particularly in America, is that we can spend large sums of money that don’t belong to us. Financial markets enable us to borrow money. Sometime this means that Visa and MasterCard indulge our eagerness to consume today what we can not afford until next year; more often- and more significant to the economy – borrowing makes possible all kinds of investment. We borrow to pay college tuition. We borrow to buy homes. We borrow to build plants and equipment or to launch new businesses. We borrow to do things that make us better off even after we have paid the cost of borrowing.Sometimes we raise capital without borrowing; we may sell shares of our business to the public. Individuals, firms, and government need capital to do things today that they could not otherwise afford; the financial markets provide it to them- at a price. Modern economies can not survive without credit.Excessive regulation goes hand in glove with corruption. Government bureaucrats throw up hurdles so that they can extort bribes from those who seek to get over or around them.The interest rate is really just a rental rate for capital, or the “price of money”. The Fed controls America’s money supply. We will get to the mechanics of that process in a moment. For now, recognize that money is no different from apartments: The greater the supply, the cheaper the rent. The Fed moves interest rates by making changes in the quantity of funds available to commercial banks. It’s supply and demand – with the Fed controlling the supply.The determination whether interest rates need to go up, down, or stay the same – are made by a committee within the Fed called the Federal Open Market Committee (FOMC), which consists of the board of governors, the president of the Federal Reserve Bank of New York, and the presidents of four other Federal Reserve Banks on a rotating basis.Political independence is crucial if monetary authorities are to do their jobs responsibly. Evidence shows that countries with independent central banks – those that can operate relatively free of political meddling – have lower average inflation rates over time. America’s Federal Reserve is among those considered to be relatively independent.
47Asian Tigergrew rapidly by relying on a well-trained, educated, hard-working, and conscientious labor force.Human Capital: Human capital is what makes individuals productive, and productivity is what determines our standard of living. He has written “These so-called Asian tigers grew rapidly by relying on a well-trained, educated, hard-working, and conscientious labor force.”The Asian tigers, the all-star team in the economic development league, made their economic ascent with government spending in the range of 20 percent of GDP.The United States and all of Europe lie outside the tropics; most of central and south America, Africa, and Southeast Asia lie within.Tropical weather is wonderful for vacation; why is it so bad for everything else? The answer, according to Mr. Sachs, is that high temperatures and heavy rainfall are bad for food production and conducive to the spread of disease. As a result, two of the major advances in rich countries, better food production and better health, can not be replicated in the tropics.
48A Digression on Exchange rates When countries begin trading with one another, currencies must be exchanged at some rate. If an ounce of gold is worth $35 in American and 350 francs in France, what is the exchange rate between the dollar and the franc?If some bundle of everyday goods costs $25 in the United States, and the same bundle of goods costs 350 rubles in Russia, then we would expect $25 to be worth roughly 350 rubles. This is the theory of purchasing power parity, or PPP.First, governments have at least some control over their exchange rate.Second, that exchange rate can have a profound effect on the economy.A weak dollar makes import more expensive for Americans. A weak currency is good for exporters and punishing for importers.
49Overvalued Currencies: Government policies affect exchange rates. As economics like to put it, the most basic decision is “To float or not to float.”. “Floating” is just an insider’s way to saying that the value of a currency is allowed to go up or down based on market forces. Floating currencies such as the dollar or the euro or the yen, fluctuate by the second as they are traded on the foreign exchange markets. Banks and brokerage houses buy and sell huge quantities of dollars every day at whatever rate is dictated by supply and demand.In the process, they enrich themselves and crush their export industries. Here is what happens. Suppose a Nigerian exporter sells a product in the United States for $1000. Based on purchasing power parity, he should be able to swap that $1000 for roughly 50,000 nairas. Nope. Instead, he is forced by the government to convert the dollars into nairas at the official government exchange rate. Thus, he is paid 25,000 nairas – half of what is really due him. How many business can thrive when the government is essentially expropriating a large chunk of revenue? The government, on the other hand, is getting dollars on the cheap. They can use the dollars to buy luxury imports. Or they can sell them on the blank market. Corrupt officials get rich buying dollars for 25 nairas and selling them for 50. Any official overvaluation is a punishing tax on exporters – a tragic policy given the importance of exports in the development process.
50Natural resources matter less than you would think: Dutch DiseaseEffects of abundant natural resources as “Dutch Disease” after observing the economic effects of an enormous North Sea natural gas discovery by the Netherlands in the 1950s. The spike in natural gas exports drove up the value of the dutch guilder, making life more difficult for other exporters. The government also used the gas revenues to expand social spending, which raised employer’s social security contributions and therefore their production costs. The Dutch had long been a nation of traders, with exports making up more than 50 % of GDP. By the 1970s, other export industries, the traditional lifeblood of the economy, had grown far less competitive. One business publication noted, “Gas so distended and distorted the workings of the economy that it became a mixed blessing for a trading nation.Natural resources matter less than you would think:Israel, which has not oil to speak of, is a far richer country than nearly all of its Middle Eastern neighbors that have large petroleum reserves, Israeli GDP per capita is $16,000 compared to $7,000 for Saudi Arabia and $1,650 for Iran. Meanwhile, resource-poor countries like Japan and Switzerland have fared much better than resource-rich Russia. Or consider oil-rich Angola. The country takes in some $3.5 billion a year from its oil industry. What has happened to the people who might benefit from this reassure is the ground? Much of the oil money goes to fund a never-ending civil war that has ravaged the country. Angola has the world’s highest rate of citizens maimed by land mines. One-Third of Angola’s children die before age five; life expectancy is forty-two. Large swathes of the capital have no electricity, no running water, no sewers and no garbage pickup.
51The Comparative advantage of workers in poor countries is cheap labor: Bulls & BearsBulls, Bears make money, Pigs get slaughteredBulls & Bears are like politician. They always keep on changing side. Bottom of bear market by definition has to be the point of maximum bearishness. The new news does not have to be good. It simply has to be less than bad than what has already been discounted.“I can’t sleep, I can’t sleep I can’t deal with it.”.The Comparative advantage of workers in poor countries is cheap labor:They are not more productive than American workers; they are not better educated; they do not have access to better technology. They are paid very little by Western Standards because they accomplish very little by western standards. If foreign companies are forced to raise wages significantly, the there is no longer any advantage to having plants in the developing world. Firms will replace workers with machines, or they will move someplace where higher productivity justifies higher wages. If sweatshops paid decent wages by Western Standards they would not exist.In 1993, child workers in Bangladesh were found to be producing clothing for Wal-Mart and Senator Tom Harkin proposed legislation banning imports from countries employing underage workers. The direct result was that Bangladeshi textile factories stopped employing children. But did the children go back to school? Did they return to happy homes? Not according to Oxfam, which found that the displaced child workers ended up in even worse jobs, or on the streets – and that a significant number were forced into prostitution.
52REIT fund (Real Estate Investment Trust): Gold Standard:The institution at the center of the global fight against poverty is theWashington-based World bank. “The Bank,” as it is known, was conceived after World War II at Bretton Woods, New Hampshire, at an international meeting of finance ministers. The goal of the meeting was to create a new international financial architecture. The Bank, which is owned by its 183 member countries, raises capital from its members and by borrowing in the capital markets. Those funds are loaned to developing nations for projects that are likely to promote economic development. The World Bank is the world’s welfare agency, then its sister organization, the International Monetary Fund (IMF).REIT fund (Real Estate Investment Trust):REIT fund (Real Estate Investment Trust): Operate & Sell real estate.Individuals can invest in REITs either by purchasing their shares directly on an open exchange or by investing in a mutual fund that specializes in public real estate. An additional benefit to investing in REITs is the fact that many are accompanied by dividend reinvestment plans (DRIPs).Among other things, REITs invest inshopping malls,office buildings,apartments,warehouses andhotels.Some REITs will invest specifically in one area of real estate - shopping malls, for example - or in one specific region, state or country. Investing in REITs is a liquid, dividend-paying means of participating in the real estate market.Real Assets:HealthMoralFamily ValueImageDharma & Philanthropy
53TradeTrade makes us richer: We trade with others because it frees up time and resources to do things that we are better at.Saudi Arabia can produce oil more cheaply than the United States can. In turn, the United States can produce corn and soybeans more cheaply than Saudi Arabia. The corn-for-oil trade is an example of absolute advantage. When different countries are better at producing different things, they can both consume more by specializing at what they do best and then trading.Trade creates losers: Trade, like technology, can destroy jobs, particularly low-skilled jobs. If a worker in Maine earns $14 an hour for something that can be done in Vietnam for $1 an hour, then he had better be fourteen times as productive. If not, a profit-maximizing firm will choose Vietnam.Protectionism saves jobs in the short run and slows economic growth in the long run: America punishes rogue nations such as Iraq by imposing economic sanctions. In the case of severe sanctions, we forbid nearly all imports and exports. We cut off international trade as a punishment. Iraq is forbidden from trading what it does have, oil, for the things that it needs, which is basically everything else.Trade lowers the cost of goods for consumers, which is the same as raising their incomes:Trade is good for poor countries, too: Trade gives poor countries access to markets in the developed world. That is where most of the world’s consumers are.Trade paves the way for poor countries to get richer. Export industries often pay higher wages than jobs elsewhere in the economy. But that is only the beginning. New export jobs create more competition for workers, which raises wages everywhere else. Even rural incomes can go up; as workers leave rural areas for better opportunities. There are fewer mouths to be fed from what we can grown on the land they leave behind. Foreign companies introduce capital, technology, and new skills. Not only does that mae export workers more productive; it spills over into other areas of the economy. Workers “learn by doing” and then take their knowledge with them.Trade is based on voluntary exchange: Individuals do things that make themselves better off.
54Preferences change with income, particularly with regard to the environment: Yet inadequate access to safe drinking water a problem easily cured by rising living standards – kills two million people a year and makes another half billion seriously ill.Democracy Economic growth in some one hundred countries over many decades found that basic democracy is associated with higher economic growth. More advanced democracies, however, suffer slightly lower rates of growth.Capitalism is an economic ideology in which wealth, and the means of producing wealth, are privately owned and controlled rather than publicly or state-owned and controlled.Socialism refers to a social organization advocating state or collective ownership and administration of the means of production and distribution of goods, and an egalitarian society characterized by equal opportunities for all individuals and a fair or egalitarian distribution of wealthCommunism in the Marxian sense refers to a classless, stateless and oppression-free society where decisions on what to produce and what policies to pursue are made democratically, allowing every member of society to participate in the decision-making process in both the political and economic spheres of life.Populism may involve philosophy urging social and political system changes or style deployed by members of political or social movements competing for advantage within the existing party system.
55The most valuable natural resource in the twentieth first century is Brains. Smart people tends to be mobile because where they go, robust economic actively will follow.Venture Capital, are those who put the first at risk capital into new entrepreneurship business. (i.e. Micorosoft, Google, Youtube)
56Do Trade like commodities. If you do trade, trade losers, not winners. Avoid heard behavior.Be aware of tips.Avoid over trading.Assess your capacity – Risk