This video explores how the investments industry works and the basic principles that drive it.
- [Instructor] As an investment professional, there's some basic principles that you need to know that'll apply to any work you're doing in Excel. First of all, you should understand that as an investor, higher risk is commensurate with higher return. Why do we take on risk in investments? Well, it's because we earn a higher return for doing so. So how exactly do we measure risk and what is that? Well, in our context, in the context of investments, risk equates to dispersion in cash flows. So the more uncertain we are about what our returns will look like, the bigger the risk on a stock. We can minimize this risk to some extent through diversification, diversification across different stocks that we own, across different asset classes, across different assets themselves. Any diversification that we can do potentially helps us to reduce our risk. A second principle that we need to understand in investments is investment allocation. Where are we going to put our money? Is it going to go into active funds or passive? So mutual funds or ETFs, for example. Do we want to allocate money towards developed markets like the US and Western Europe or emerging markets like, say, parts of Asia? In the fixed income space, are we looking for long-maturity or short-maturity products? The investment allocation decisions we make will be critical to the returns that we get. The third principle we should think about is investment selection. What types of investments are we looking for within each asset class? Are we looking for those investments that are going to provide income or where we expect to see significant growth over time? Are we looking for value stocks or growth stocks? The kind of investor who buys something like a utility company, say, Duke Energy, is probably very different than the kind of investor who buys something like a software company, say, Salesforce. For that matter, do we want to look at large caps or small caps? All of these are key critical questions that we need to ask ourselves around each of these different principles in finance.
- Determine the variable required to compute the P/E ratio of a stock.
- Identify two factors that drive expected returns on a stock.
- Apply the appropriate formula to determine portfolio returns.
- Recall the type of mean that should be used to determine future returns based on buying an investment and holding it for an extended period of time.
- Define the formula for information ratios.
- Recognize the measure that describes worst case expected loss under normal circumstances.