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Unformatted text preview: ANSWERS TO END-OF-CHAPTER QUESTIONS 1-1. The term Investments can be thought of as representing the study of the investment process. An investment is defined as the commitment of funds to one or more assets to be held over some future time period. 1-2. Traditionally, the investment decision process has been divided into security analysis and portfolio management. Security analysis involves the analysis and valuation of individual securities; that is, estimating value, a difficult job at best. Portfolio management utilizes the results of security analysis to construct portfolios. As explained in Part II, this is important because a portfolio taken as a whole is not equal to the sum of its parts. 1-3. The study of investments is important to many individuals because almost everyone has wealth of some kind and will be faced with investment decisions sometime in their lives. One important area where many individuals can make important investing decisions is that of retirement plans, particularly 401 (k) plans. In addition, individuals often have some say in their retirement programs, such as allocation decisions to cash equivalents, bonds, and stocks. The dramatic stock market gains of 1995-1999 and the sharp losses in 2000-2002 and 2008 illustrate well the importance of studying investments. Investors who were persuaded in the past to go heavily, or all, in stocks reaped tremendous gains in their retirement assets as well as in their taxable accounts in 1995-1999 and then often suffered sharp losses in 2000-2002 and 2008. 1-4. A financial asset is a piece of paper evidencing some type of financial claim on an issuer, whether private (corporations) or public (governments). A real asset , on the other hand, is a tangible asset such as gold coins, diamonds, or land. 1-5. Investments, in the final analysis, is simply a risk-return tradeoff. In order to have a chance to earn a return above that of a risk-free asset, investors must take risk. The larger the return expected, the greater the risk that must be taken. The risk-return tradeoff faced by investors making investment decisions has the following characteristics: The risk-return tradeoff is upward sloping because investment decisions involve expected returns (vertical axis) versus risk (horizontal axis)....
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This note was uploaded on 02/13/2012 for the course FINA 3480 taught by Professor Moore during the Spring '11 term at Toledo.

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