FAQ - Must read

1) What is bond?

A debt investment in which an investor loans money to an entity (corporate or governmental) that borrows the funds for a defined period of time at a fixed interest rate.

2) What is Future?

A financial contract obligating the buyer to purchase an asset (or the seller to sell an asset), such as a physical commodity or a financial instrument, at a predetermined future date and price.

3) What is Options ?

A financial derivative that represents a contract sold by one party (option writer) to another party (option holder). The contract offers the buyer the right, but not the obligation, to buy (call) or sell (put) a security or other financial asset at an agreed-upon price (the strike price) during a certain period of time or on a specific date (exercise date). Dividends may be in the form of cash, stock or property.

4) What is dividend ?

A distribution of a portion of a company's earnings, decided by the board of directors, to a class of its shareholders. The dividend is most often quoted in terms of the dollar amount each share receives (dividends per share).

5) What is clean price bond ?
The price of a coupon bond not including any accrued interest. A clean price is the discounted future cash flows, not including any interest accruing on the next coupon payment date. Immediately following each coupon payment, the clean price will equal the dirty price.

Calculated as: Clean Price = Dirty Price – Accrued Interest
6) What is dirty price bond ?
A bond pricing quote referring to the price of a coupon bond that includes the present value of all future cash flows, including interest accruing on the next coupon payment. The dirty price is how the bond is quoted in most European markets, and is the price an investor will pay to acquire the bond. The dirty price is sometimes called the "price plus accrued". The clean price is quoted more often in the United States.

7) What is difference between future and options ?
The primary difference between options and futures is that options give the holder the right to buy or sell the underlying asset at expiration, while the holder of a futures contract is obligated to fulfill the terms of his/her contract.
8) What is Ex-date, pay date, record date, etc. ?
The date on or after which a security is traded without a previously declared dividend or distribution. After the ex-date, a stock is said to trade ex-dividend.
The date established by an issuer of a security for the purpose of determining the holders who are entitled to receive a dividend or distribution.
The date on which a declared stock dividend is scheduled to be paid.

9) What is reconciliation ?
An accounting process used to compare two sets of records to ensure the figures are in agreement and are accurate. Reconciliation is the key process used to determine whether the money leaving an account matches the amount spent, ensuring the two values are balanced at the end of the recording period.

10) What is Cash, Trade and Position Rec ?

A cash reconciliation is the process of verifying the amount of cash in a cash register as of the close of business.


11) What is difference between Future and Forward ?

Future are standardized instruments transacted through brokerage firms that hold a "seat" on the exchange that trades that particular contract. The terms of a futures contract - including delivery places and dates, volume, technical specifications, and trading and credit procedures - are standardized for each type of contract. Like an ordinary stock trade, two parties will work through their respective brokers, to transact a futures trade. An investor can only trade in the futures contracts that are supported by each exchange. In contrast, forwards are entirely customized and all the terms of the contract are privately negotiated between parties. They can be keyed to almost any conceivable underlying asset or measure. The settlement date, notional amount of the contract and settlement form (cash or physical) are entirely up to the parties to the contract.

Forwards entail both market risk and credit risk. Those who engage in futures transactions assume exposure to default by the exchange's clearing house. For OTC derivatives, the exposure is to default by the counterparty who may fail to perform on a forward. The profit or loss on a forward contract is only realized at the time of settlement, so the credit exposure can keep increasing.
With futures, credit risk mitigation measures, such as regular mark-to-market and margining, are automatically required. The exchanges employ a system whereby counterparties exchange daily payments of profits or losses on the days they occur. Through these margin payments, a futures contract's market value is effectively reset to zero at the end of each trading day. This all but eliminates credit risk.
The daily cash flows associated with margining can skew futures prices, causing them to diverge from corresponding forward prices.
Futures are settled at the settlement price fixed on the last trading date of the contract (i.e. at the end). Forwards are settled at the forward price agreed on at the trade date (i.e. at the start).
Futures are generally subject to a single regulatory regime in one jurisdiction, while forwards - although usually transacted by regulated firms - are transacted across jurisdictional boundaries and are primarily governed by the contractual relations between the parties.
In case of physical delivery, the forward contract specifies to whom the delivery should be made. The counterparty on a futures contract is chosen randomly by the exchange.
In a forward there are no cash flows until delivery, whereas in futures there are margin requirements and periodic margin calls.

12) For which product we can only perform Trade rec and no position Rec ?

Answer: An unsettled fx forward

13) Corporate Actions: Stock Split, Bonus, Acquisition, Merger, etc.

Stock spit is equal to Rs. 10 face value divided in 5 shares of Rs. 2 each.
Bonus 2:5 i.e. two free shared for every 5 shares hold.
Acquisition : one company acquires all the assets and liability of other company.
Merger : two company form new company with existing assets and liabilities.

14) What is NAV ?

A mutual fund's price per share or exchange-traded fund's (ETF) per-share value. In both cases, the per-share dollar amount of the fund is calculated by dividing the total value of all the securities in its portfolio, less any liabilities, by the number of fund shares outstanding.

15) How the NAV is calculated ?
MV of Positions + Accrued Interest / Dividend – Non-Trading Accuals + Debtors balances – Creditors balances = NAV

16) What is GAV ?
A productivity metric that measures the difference between output and intermediate consumption. Gross value added provides a dollar value for the amount of goods and services that have been produced, less the cost of all inputs and raw materials that are directly attributable to that production.

17) What is board pack ?
Summary of performance, various expenses analysis, MV reconciliation, high risk securities, etc. are reported.

18) What is the difference between Hedge fund and mutual fund ?

A:These two types of investment products have their similarities and differences.

First, the similarities:
Both mutual funds and hedge funds are managed portfolios. This means that a manager (or a group of managers) picks securities that he or she feels will perform well and groups them into a single portfolio. Portions of the fund are then sold to investors who can participate in the gains/losses of the holdings. The main advantage to investors is that they get instant diversification and professional management of their money.

Now, the differences:
Hedge funds are managed much more aggressively than their mutual fund counterparts. They are able to take speculative positions in derivative securities such as options and have the ability to short sell stocks. This will typically increase the leverage - and thus the risk - of the fund. This also means that it's possible for hedge funds to make money when the market is falling. Mutual funds, on the other hand, are not permitted to take these highly leveraged positions and are typically safer as a result.

Another key difference between these two types of funds is their availability. Hedge funds are only available to a specific group of sophisticated investors with high net worth. The U.S. government deems them as "accredited investors", and the criteria for becoming one are lengthy and restrictive. This isn't the case for mutual funds, which are very easy to purchase with minimal amounts of money.

19) What is call option ?

An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument at a specified price within a specific time period.
It may help you to remember that a call option gives you the right to "call in" (buy) an asset. You profit on a call when the underlying asset increases in price.

20) What is put option ?

An option contract giving the owner the right, but not the obligation, to sell a specified amount of an underlying security at a specified price within a specified time. This is the opposite of a call option, which gives the holder the right to buy shares.

21) What is In the money,

For a call option, when the option's strike price is below the market price of the underlying asset.

2. For a put option, when the strike price is above the market price of the underlying asset.

22) out of the money,

A call option with a strike price that is higher than the market price of the underlying asset, or a put option with a strike price that is lower than the market price of the underlying asset. An out of the money option has no intrinsic value, but only possesses extrinsic or time value. As a result, the value of an out of the money option erodes quickly with time as it gets closer to expiry. If it still out of the money at expiry, the option will expire worthless.

23) at the money options ?
for Call or put option :  Strike price = Actual Market price
24) What is  duration ?
A measure of the sensitivity of the price (the value of principal) of a fixed-income investment to a change in interest rates. Duration is expressed as a number of years. Rising interest rates mean falling bond prices, while declining interest rates mean rising bond prices.

25) What is IRR ?

The discount rate often used in capital budgeting that makes the net present value of all cash flows from a particular project equal to zero. Generally speaking, the higher a project's internal rate of return, the more desirable it is to undertake the project. As such, IRR can be used to rank several prospective projects a firm is considering. Assuming all other factors are equal among the various projects, the project with the highest IRR would probably be considered the best and undertaken first.

IRR is sometimes referred to as "economic rate of return (ERR)."

26) What is private equity

Equity capital that is not quoted on a public exchange. Private equity consists of investors and funds that make investments directly into private companies or conduct buyouts of public companies that result in a delisting of public equity. Capital for private equity is raised from retail and institutional investors, and can be used to fund new technologies, expand working capital within an owned company, make acquisitions, or to strengthen a balance sheet.

The size of the private equity market has grown steadily since the 1970s. Private equity firms will sometimes pool funds together to take very large public companies private. Many private equity firms conduct what are known as leveraged buyouts (LBOs), where large amounts of debt are issued to fund a large purchase. Private equity firms will then try to improve the financial results and prospects of the company in the hope of reselling the company to another firm or cashing out via an IPO.

27) What is modified bond duration?
Modified duration follows the concept that interest rates and bond prices move in opposite directions. This formula is used to determine the effect that a 100-basis-point (1%) change in interest rates will have on the price of a bond.



28) What is yield

The income return on an investment. This refers to the interest or dividends received from a security and is usually expressed annually as a percentage based on the investment's cost, its current market value or its face value.



For example, there are two stock dividend yields. If you buy a stock for $30 (cost basis) and its current price and annual dividend is $33 and $1, respectively, the "cost yield" will be 3.3% ($1/$30) and the "current yield" will be 3% ($1/$33).

Bonds have four yields: coupon (the bond interest rate fixed at issuance), current (the bond interest rate as a percentage of the current price of the bond), and yield to maturity (an estimate of what an investor will receive if the bond is held to its maturity date). Non-taxable municipal bonds will have a tax-equivalent (TE) yield determined by the investor's tax bracket.

Mutual fund yields are an annual percentage measure of income (dividends and interest) earned by the fund's portfolio, net of the fund's expenses. In addition, the "SEC yield" is an indicator of the percentage yield on a fund based on a 30-day period.

30. Hurdle Rate
DEFINITION of 'Hurdle Rate'
The minimum rate of return on a project or investment required by a manager or investor. In order to compensate for risk, the riskier the project, the higher the hurdle rate.
In the hedge fund world, hurdle rate refers to the rate of return that the fund manager must beat before collecting incentive fees.

31. DEFINITION of 'High-Water Mark'?

The highest peak in value that an investment fund/account has reached. This term is often used in the context of fund manager compensation, which is performance based.


 

33. DEFINITION of 'Management Fee'

A charge levied by an investment manager for managing an investment fund. The management fee is intended to compensate the managers for their time and expertise. It can also include other items such as investor relations expenses and the administration costs of the fund.




34. DEFINITION of 'Zero-Coupon Bond'

A debt security that doesn't pay interest (a coupon) but is traded at a deep discount, rendering profit at maturity when the bond is redeemed for its full face value.

Also known as an "accrual bond."



35. High water mark

The highest NAV of a fund to date is known as the "high water mark". If the NAV of a fund declines during a year, no performance fee will be payable to the investment manager. If the NAV subsequently increases over the following year back to the high-water mark (but no higher), it would be objectionable for the investor to be charged a performance fee on that increase because the investor has not yet made any return on its investment. Therefore, to address this concern, hedge funds will typically only charge a performance fee on increases in NAV over the high-water mark. This also applies to mutual funds though variably.

35. DEFINITION of 'Managed Account'

An investment account that is owned by an individual investor and looked after by a hired professional money manager. In contrast to mutual funds (which are professionally managed on behalf of many mutual-fund holders), managed accounts are personalized investment portfolios tailored to the specific needs of the account holder.

For example, if an investor buys ABC Mutual Funds, which invests in Company 1 and Company 2, and that investor wants to reduce the weighting of Company 1 in the fund, the fund company wouldn't allow it since the money manager looking after the fund cannot make investment decisions based on one investor's preferences. On the other hand, with managed accounts, investors are given the freedom and ability to do what they want with the investments within the portfolio, and any decision made by the money manager is based on the individual investor's goals and objectives. Thus, if an investor holds a managed account and wants to reduce holdings in Company 1, he or she could do so.

36. DEFINITION of 'Ex-Date'

The date on or after which a security is traded without a previously declared dividend or distribution. After the ex-date, a stock is said to trade ex-dividend.

This is the date on which the seller, and not the buyer, of a stock will be entitled to a recently announced dividend. The ex-date is usually two business days before the record date. It is indicated in newspaper listings with an x.

37. DEFINITION of 'Payment Date'

The date on which a declared stock dividend is scheduled to be paid.


38. DEFINITION OF 'RECORD DATE'

The date established by an issuer of a security for the purpose of determining the holders who are entitled to receive a dividend or distribution.


39. The Important Dates of a Dividend

Declaration date - This is the date on which the board of directors announces to shareholders and the market as a whole that the company will pay a dividend.
Ex-date or Ex-dividend date - On (or after) this date the security trades without its dividend. If you buy a dividend paying stock one day before the ex-dividend you will still get the dividend, but if you buy on the ex-dividend date, you won't get the dividend. Conversely, if you want to sell a stock and still receive a dividend that has been declared you need to sell on (or after) the ex-dividend day. The ex-date is the second business day before the date of record.

Date of record - This is the date on which the company looks at its records to see who the shareholders of the company are. An investor must be listed as a holder of record to ensure the right of a dividend payout.

Date of payment (payable date) - This is the date the company mails out the dividend to the holder of record. This date is generally a week or more after the date of record so that the company has sufficient time to ensure that it accurately pays all those who are entitled.
Why All These Dates?

Ex-dividend dates are used to make sure dividend checks go to the right people. In today's market, settlement of stocks is a T+3 process, which means that when you buy a stock, it takes three days from the transaction date (T) for the change to be entered into the company's record books.

As mentioned, if you are not in the company's record books on the date of record, you won't receive the dividend payment. To ensure that you are in the record books, you need to buy the stock at least three business days before the date of record, which also happens to be the day before the ex-dividend date.




40. DEFINITION of 'In The Money'

1. For a call option, when the option's strike price is below the market price of the underlying asset.

2. For a put option, when the strike price is above the market price of the underlying asset.


Being in the money does not mean you will profit, it just means the option is worth exercising. This is because the option costs money to buy.




41. DEFINITION of 'Out Of The Money - OTM'

A call option with a strike price that is higher than the market price of the underlying asset, or a put option with a strike price that is lower than the market price of the underlying asset. An out of the money option has no intrinsic value, but only possesses extrinsic or time value. As a result, the value of an out of the money option erodes quickly with time as it gets closer to expiry. If it still out of the money at expiry, the option will expire worthless.





42. DEFINITION of 'At The Money'

A situation where an option's strike price is identical to the price of the underlying security. Both call and put options will be simultaneously "at the money." For example, if XYZ stock is trading at 75, then the XYZ 75 call option is at the money and so is the XYZ 75 put option. An at-the-money option has no intrinsic value, but may still have time value. Options trading activity tends to be high when options are at the money.





43. DEFINITION of 'Option Premium'

1. The income received by an investor who sells or "writes" an option contract to another party.

2. The current price of any specific option contract that has yet to expire. For stock options, the premium is quoted as a dollar amount per share and most contracts represent the commitment of 100 shares.


2. Option prices quoted on an exchange such as the Chicago Board Options Exchange (CBOE) are considered premiums as a rule because the options themselves have no underlying value. The components of an option premium include its intrinsic value, its time value and the implied volatility of the underlying asset. As the option nears its expiration date, the time value will edge closer and closer to $0, while the intrinsic value will closely represent the difference between the underlying security's price and the strike price of the contract.

44. DEFINITION of 'Black Scholes Model'

A model of price variation over time of financial instruments such as stocks that can, among other things, be used to determine the price of a European call option. The model assumes that the price of heavily traded assets follow a geometric Brownian motion with constant drift and volatility. When applied to a stock option, the model incorporates the constant price variation of the stock, the time value of money, the option's strike price and the time to the option's expiry.

Also known as the Black-Scholes-Merton Model.


There are a number of variants of the original Black-Scholes model.

The Black-Scholes model is used to calculate the theoretical price of European put and call options, ignoring any dividends paid during the option's lifetime. While the original Black-Scholes model did not take into consideration the effects of dividends paid during the life of the option, the model can be adapted to account for dividends by determining the ex-dividend date value of the underlying stock.

The model makes certain assumptions, including:

The options are European and can only be exercised at expiration
No dividends are paid out during the life of the option
Efficient markets (i.e., market movements cannot be predicted)
No commissions
The risk-free rate and volatility of the underlying are known and constant
Follows a lognormal distribution; that is, returns on the underlying are normally distributed.


45. DEFINITION of 'Equity Swap'

An exchange of cash flows between two parties that allows each party to diversify its income, while still holding its original assets. The two sets of nominally equal cash flows are exchanged as per the terms of the swap, which may involve an equity-based cash flow (such as from a stock asset) that is traded for a fixed-income cash flow (such as a benchmark rate), but this is not necessarily the case. Besides diversification and tax benefits, equity swaps also allow large institutions to hedge specific assets or positions in their portfolios.



46. DEFINITION OF 'INTEREST RATE SWAP'

An agreement between two parties (known as counterparties) where one stream of future interest payments is exchanged for another based on a specified principal amount. Interest rate swaps often exchange a fixed payment for a floating payment that is linked to an interest rate (most often the LIBOR). A company will typically use interest rate swaps to limit or manage exposure to fluctuations in interest rates, or to obtain a marginally lower interest rate than it would have been able to get without the swap.



Generally speaking, swaps are sought by firms that desire a type of interest rate structure that another firm can provide less expensively. For example, let's say Cory's Tequila Company (CTC) is seeking to loan funds at a fixed interest rate, but Tom's Sports Inc. (TSI) has access to marginally cheaper fixed-rate funds. Tom's Sports can issue debt to investors at its low fixed rate and then trade the fixed-rate cash flow obligations to CTC for floating-rate obligations issued by TSI. Even though TSI may have a higher floating rate than CTC, by swapping the interest structures they are best able to obtain, their combined costs are decreased - a benefit that can be shared by both parties.


47. DEFINITION of 'Credit Default Swap - CDS'

A swap designed to transfer the credit exposure of fixed income products between parties. A credit default swap is also referred to as a credit derivative contract, where the purchaser of the swap makes payments up until the maturity date of a contract. Payments are made to the seller of the swap. In return, the seller agrees to pay off a third party debt if this party defaults on the loan. A CDS is considered insurance against non-payment. A buyer of a CDS might be speculating on the possibility that the third party will indeed default.


48. DEFINITION of 'Mortgage-Backed Security (MBS)'

A type of asset-backed security that is secured by a mortgage or collection of mortgages. These securities must also be grouped in one of the top two ratings as determined by a accredited credit rating agency, and usually pay periodic payments that are similar to coupon payments. Furthermore, the mortgage must have originated from a regulated and authorized financial institution.

Also known as a "mortgage-related security" or a "mortgage pass through."


When you invest in a mortgage-backed security you are essentially lending money to a home buyer or business. An MBS is a way for a smaller regional bank to lend mortgages to its customers without having to worry about whether the customers have the assets to cover the loan. Instead, the bank acts as a middleman between the home buyer and the investment markets.

This type of security is also commonly used to redirect the interest and principal payments from the pool of mortgages to shareholders. These payments can be further broken down into different classes of securities, depending on the riskiness of different mortgages as they are classified under the MBS.


49. DEFINITION of 'Foreign Currency Swap'

An agreement to make a currency exchange between two foreign parties. The agreement consists of swapping principal and interest payments on a loan made in one currency for principal and interest payments of a loan of equal value in another currency. The Federal Reserve System offered this type of swap to several developing countries in 2008.





50.  DEFINITION of 'Over-The-Counter - OTC'

A security traded in some context other than on a formal exchange such as the NYSE, TSX, AMEX, etc. The phrase "over-the-counter" can be used to refer to stocks that trade via a dealer network as opposed to on a centralized exchange. It also refers to debt securities and other financial instruments such as derivatives, which are traded through a dealer network.



Although Nasdaq operates as a dealer network, Nasdaq stocks are generally not classified as OTC because the Nasdaq is considered a stock exchange. As such, OTC stocks are generally unlisted stocks which trade on the Over the Counter Bulletin Board (OTCBB) or on the pink sheets. Be very wary of some OTC stocks, however; the OTCBB stocks are either penny stocks or are offered by companies with bad credit records.

Instruments such as bonds do not trade on a formal exchange and are, therefore, also considered OTC securities. Most debt instruments are traded by investment banks making markets for specific issues. If an investor wants to buy or sell a bond, he or she must call the bank that makes the market in that bond and asks for quotes.

51. DEFINITION of 'Profit and Loss Statement - P&L'

A financial statement that summarizes the revenues, costs and expenses incurred during a specific period of time - usually a fiscal quarter or year. These records provide information that shows the ability of a company to generate profit by increasing revenue and reducing costs. The P&L statement is also known as a "statement of profit and loss", an "income statement" or an "income and expense statement".



52. DEFINITION of 'Financial Statements'

Records that outline the financial activities of a business, an individual or any other entity. Financial statements are meant to present the financial information of the entity in question as clearly and concisely as possible for both the entity and for readers. Financial statements for businesses usually include: income statements, balance sheet, statements of retained earnings and cash flows, as well as other possible statements.



- Schedule of Assets & Liabilities
- Schedule of Profit & Loss
- Schedule of Investments


53. Private Equity

DEFINITION of 'Private Equity'
Equity capital that is not quoted on a public exchange. Private equity consists of investors and funds that make investments directly into private companies or conduct buyouts of public companies that result in a delisting of public equity. Capital for private equity is raised from retail and institutional investors, and can be used to fund new technologies, expand working capital within an owned company, make acquisitions, or to strengthen a balance sheet.

The majority of private equity consists of institutional investors and accredited investors who can commit large sums of money for long periods of time. Private equity investments often demand long holding periods to allow for a turnaround of a distressed company or a liquidity event such as an IPO or sale to a public company.





54. Cash flows from operating activities, financing (Cap. Div Int.), Investing

55. DEFINITION of 'Available-For-Sale Security'

A debt or equity security that is purchased with the intent of selling before it reaches maturity, or selling prior to a lengthy time period in the event the security does not have a maturity. Accounting standards necessitate that companies classify any investments in debt or equity securities when they are purchased. The investments can be classified as: held to maturity, held for trading or available for sale.



56. DEFINITION of 'Held To Maturity Security'

Accounting standards necessitate that companies classify any investments in debt or equity securities when they are purchased. The investments can be classified as held to maturity, held for trading or available for sale. A held to maturity security is a debt or equity security that is purchased with the intention of holding the investment to maturity. This type of security is reported at amortized cost on a company's financial statements and is usually in the form of a debt security with a specific maturity date.


57. DEFINITION of 'Fair Value'

1. The estimated value of all assets and liabilities of an acquired company used to consolidate the financial statements of both companies.

2. In the futures market, fair value is the equilibrium price for a futures contract. This is equal to the spot price after taking into account compounded interest (and dividends lost because the investor owns the futures contract rather than the physical stocks) over a certain period of time.



58. DEFINITION of 'Amortizable Bond Premium'

A tax term referring to the excess premium paid over and above the face value of a bond. Depending on the type of bond, the premium can be tax deductible and amortized over the life of the bond on a pro-rata basis.

A bond premium occurs when the price of the bond has increased in the secondary market due to a drop in market interest rates.




60. DEFINITION of 'Greeks'

Dimensions of risk involved in taking a position in an option (or other derivative). Each risk variable is a result of an imperfect assumption or relationship of the option with another underlying variable. Various sophisticated hedging strategies are used to neutralize or decrease the effects of each variable of risk.


With the exception of vega (which is not a Greek letter), each measure of risk is represented by a different letter of the Greek alphabet:

Δ(Delta) represents the rate of change between the option's price and the underlying asset's price - in other words, price sensitivity.

Θ(Theta) represents the rate of change between an option portfolio and time, or time sensitivity.

Γ(Gamma) represents the rate of change between an option portfolio's delta and the underlying asset's price - in other words, second-order time price sensitivity.

ϒ(Vega) represents the rate of change between an option portfolio's value and the underlying asset's volatility - in other words, sensitivity to volatility.

ρ (Rho) represents the rate of change between an option portfolio's value and the interest rate, or sensitivity to the interest rate.


61. PE Transactions:

Capital Contribution – CC - Capital Call
Distribution – NC -  Non Callable Capital Return
Drawdown – CC – Capital Call
Refund – CR – Callable Capital Return