CHAPTER 15 types of investments.docx

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21 Apr 2012
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CHAPTER 15 types of investments
CASH AND CASH EQUIVALENCES
Federal government of Canada securities
o Treasury bills: short-term obligations issued normally in denominations ranging from $1,000 to
$1 million and with 91-day, 182-day, and occasionally 1-year term
Does not pay interest, but purchased at a discount from their face value
Difference between the face value and the initial price paid, is considered as interest
income for tax purposes
o Canada savings bonds (CSBs): sold once a year with the actual issue date and the maturity date
falling on November 1
Regular interest bond: pays annual interest either by cheque or by direct deposit into
the investor’s bank account each year
Compound interest bond: does not pay annual interest but reinvests the interest
payable automatically until maturity or redemption
Deposits with financial institutions
o Bank accounts
Chequing accounts: does not pay interest
Savings account: do not allow chequing but pay interest to the account holders
Cheuqing-savings account: attributes of the two; allows chequing but pays a lower
interest rate than savings accounts
o Term deposits: guarantee a rate of interest for a specified term
o Guaranteed investment certificates (GICs): long-term deposits with guaranteed interest rate
o Canada deposit insurance corporation (CDIC): provides investor with insurance against any loss
on his deposits should a member institution become insolvent or bankrupt
Maximum coverage is $100,000 for each person in each member institution, amount
applies to the combined total of principle and interest
Does not cover investments in stocks, bonds, mortgages or mutual funds
BONDS
Bonds: fixed income securities issued by various levels of government and corporations
Bond market: a communication system where brokers put orders to buy and orders to sell together
Investment dealers (bond dealers): holds hundreds of millions of dollars of bonds in inventory and then
buy or sell bonds on their own account
Bond quotations: investment dealers set a price lost for the bond
o Bid price: price which the deal will pay to buy the bond
o Ask price: price which the dealer will sell the bond
Spread: difference between he ask price and the bid price, represents the dealer’s gross profit margin
Yield to maturity (return to maturity or internal rate of return): average rate of return that will be
earned on the bond if it is bought now and held until maturity
Bond price equation: current bond price is equal to the present value of the interest annuity plus the
present value of the face value of the bond
Current yield: bond’s annual coupon payment divided by the bond price
INVESTMENT RISK OF BONDS
Default risk: risk that the issuer may not be able to pay part or all of the interest and face value
o Bond rating agencies: specializes in rating the credit risk of different issuers
o Bond ratings: used as indicator of the probability of uninterrupted payment of interest and
principle repayment
Interest rate risk: volatility or fluctuation of the bond’s price due to the fluctuation in interest rates
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