Economics

Inflation

• Demand-pull inflation: Demand↑→GDP↑→unemployment↓→wages↑→supply↓→price↑
• Cost-push inflation: Wage/energy price↑→supply↓→GDP↓→price↑
• Government anticipation: inflation↑→price↑→money value↓ wage↓
• Phillips curve: inflation X/ unemployment

Earnings multiplier (P/E)

• microanalysis approach: P/E = (D/E)/(k-g)

Foreign exchange

• Purchasing power parity: derived from difference in cost of goods
• Interest rate parity
• Balance of payments: current acct. + financial acct. + official reserve = 0
  • monetary policy → currency depreciation → ↑current acct. → ↓financial acct.
  • fiscal policy → ↑currency → ↓current acct. → ↑financial acct.
• Relative PPP: depends on inflation rates between the two countries

Forward discounts & premiums = %forward rate surplus / spot rate * (360/#forward contract days)

Currency appreciation & depreciation causal factors

1. X/ ∆ income growth e.g. faster growth → currency depreciation
2. // ∆ inflation rates
3. X/ ∆ real interest rates

• Expansionary monetary policy
  • rapid economic growth → stimulates imports
  • ↑inflation rate → ↑domestic product prices → reduces exports
  • ↓real interest rates → ↓foreign investments

Fixed Income

• Accrual bonds: sold at par, coupon interest build up, no coupon payments
• Floating rate securities: coupon payment based on a specified interest rate or index
• Treasury Inflation Protected Securities (TIPS): coupon rate fixed, face value adjusted semiannually on CPI
  • limits with cap, floor, and collar
• Embedded options
  • call: issuer's right to retire
  • prepayment: issuer's right to repay ahead of scheduled repayment
  • put: owner's right to demand principal repayment
• repurchase(repo) agreement

Risks

• Duration = - avg.(%Δ price) / Δ I/y
• Convexity: degree of curvature

Yield Spreads

• Bootstrapping: price = sum of discounted coupons and par-value
• nominal spread: amount premium to Treasury I/R
• Zero volatility spread: slope which makes the yield curve a straight line, consistent difference between different periods
• Option-adjusted spread = Z-spread - %option cost

Et Cetera

Alternative investments

• open-end fund: stands ready to redeem shares at any time during regular market hours at end-of-day NAV
• closed-end fund: traded after IPO
• ETF fund: diversified portfolio with lower trading volume
• Hedge fund
• Commodities

Risk Management

• Confidence intervals(normal distribution): 1σ=±1=68%, 2σ=±1.96=95%, 3σ=±2.58=99%
• Student's t-distribution: degrees of freedom=sample size
• Hypothesis testing: value at risk calculated by setting outliers as H₀

Derivatives

• Forward contracts: deliverable, cash settlement, forward rate agreement

FRA payment to long at settlement = notional principal * (floating rate - forward rate)%days / (1+floating rate)%days

• Futures: exchange-traded, margin, marking to market
• Options
  • Call: long has right to buy
  • Put: long has right to sell
  • American options: executed anytime
  • European options: can only be exercised at expiration
  • Put-Call parity: C + X/(1 + R_F)^T = S + P
• Swaps: offsetting contracts, swaption(:option to enter into an offsetting swap)
  • Plain Vanilla I/R swap = swap fixed rate-LIBOR_t-1 * %days * notional principle
  • currency/equity swaps: settled on forward prices

Asset pricing models

• Capital market line: series of optimal earnings:risk relationship, function of σ
• Security market line: total risk = systematic + unsystematic risk (CAPM), function of β