DCF Notes
Free Cash flow - this is a (hopefully positive) number that is essentially the company’s profits after it has paid all its operating expenses and capital expenditures. One thing to note however, is that cash flow cannot allow you to make a binary decision on how the company is doing. For example, a great company that invented a new product and poured lots of resources into it, making the company have a negative free cash flow. This doesn't mean they are a bad company, this could just mean they invested heavily into their infrastructure that quarter. Likewise, a company could be too stagnant and not invest its profits to grow and evolve their business, leaving them behind in the dust. On paper, this company may look great with a good free cash flow, but in reality something else could be happening. Another thing investors should be wary of is if a company is seemingly strong, has increasing year over year cash flows, but is in declining revenue, it can be assumed that something is amiss. Nevertheless, a good rule of thumb that will not fail you,(mostly) is ensuring that a company has a strong positive cash flow, with increasing revenue growth, but is also making wise investments for growth. (keeping up with the youngins)
Unlevered Free Cash Flow - UFCF is a little more straightforward than a traditional free cash flow. However, it is as complicated, if not more to calculate than free cash flow. This is because when we calculate a company’s unlevered free cash flow, we exclude their collected interest incomes, their debt and interest payments, adn any other streams of revenue that is not part of their core business. You want to use unlevered free cash flow when comparing companies because UFCF gives a more clear picture of how the company is generating money as it excluded the riff raff of debt payments and interest incomes. You get to the knitty gritty, straightforward, answer of how the company at its heart is doing year over year. This is important when trying to choose between companies that are similar because it is very likely that investors would choose to put their money in the growing one. Again, like anything in life we have to face a tradeoff, UFCF can be influenced by companies as they choose to invest less in assets or lay off workers which will affect their EBIT.
Levered Free Cash Flow - FCF is all but the same as unlevered free cash flow, except for the fact that it takes debt into account. Unlike UFCF where we did not account for debt or debt payments, the levered free cash flow does. For this reason, UFCF is more useful and broadly used. However, it matters the intent. For valuing and measuring a business you want to use the unlevered free cash flow because we can get straight to the core. However, sometimes we have to take into account how the business handles their debt and how much of it they have. Therefore, when we want to get the most accurate depiction of the value of a company, debt needs to be accounted for, which is why we have the levered free cash flow model.(However, I should still note that LFCF is rarely used.)
Weighted Average Cost of Capital - The WACC is the amount that a company will need to pay to be able to raise capital it doesn't have and needs. This will vary by company even if they are in the same industry. For example a company that is established and well renowned for being successful will have a low WACC because they are known to pay their debts and will be charged low interest rates. On the other hand, companies that are smaller and have more risk tied to them will have a higher WACC because companies that lend money will charge a higher interest rate, because they will need a high rate of return to compensate for the fact that they have a chance of nervously seign their money again.
Internal Rate of Return - the IRR is the percentage returns per annum on investment in an asset. In the IRR formula, it sets the NPV or net present value to 0, that way you can determine the rate of your return. IRR is often used within companies to compare potential projects. They aid in the process of choosing which project to pursue, which usually will have the highest IRR. It is important to remember that the IRR is compounded and in reality, it is not very often the IRR remains consistent every year of the project. In theory, IRR will be higher than the WACC and therefore, the company should consider pursuing the project. Again, the company will most likely choose the project that offers the highest IRR in relation to its WACC.
Present value of free cash flow is unlevered free cash flows/1+WACC^1
Notes from trading seminars / along with some of my own advice -
There are many ways with pros and cons of trading each option strategy. If you are bullish on a stock you can sell puts or buy calls or buy call debit spreads or sell put credit spreads, there are many ways to make money with different pros and cons.
Different ways to end the trade - you can sell an in the money option wiping out your trade - but you don't want to wait until expiry
You want to exit by trim/cash out/sell/rolling up options against it (hard to roll when iv pop’s because now you are buying iv which you don't want to do when iv is 300 percent)
You play for singles and doubles with options
Two ways that the option price can go up, it gains Intrinsic value (EX. the stock price goes up for a call) and extrinsic value (IV goes up making it more expensive) of a option
Hedge funds and brokers have to follow strict rules when buying penny stocks (stocks under five dollars) and many avoid them, this may lead to an increase in volume after a stock hits the five dollar threshold
The most simple ways to trade options are using call debit spreads, if you're bullish on a stock and IV of the option is cheap, you want to buy the call then sell a out of the money call when the stock moves to the upside, otherwise, if the IV is already high, you want to sell the out of the money call first, to collect that premiums and that way you take out time decay - this is to prevent yourself from being “long volatility” which is generally not a good thing for risk management purposes. Selling a call will also limit your exposure and give you some of your money back but it limits your profits.
At a institutional level, funds will trade with whatever is cheaper, if they are bullish they may sell puts if they are expensive or if calls are cheap, they buy calls - so a huge order to buy half a million dollars worth of calls won't necessarily mean that a firm is bullish on a stock, they could just be hedging their massive short position on the company. Likewise, depending on the bid-ask spread it may be hard to tell whether the firm was selling or buying these calls. More importantly, the institution could just be closing their position. Maybe they bought these calls a long time ago and now they are selling to close their positions. Or maybe they have a massive long position and are now selling to open because they want to create some income and don't see any upside. They also could be a massive firm where half a million dollars doesn't mean much to them and it's just a shot in the dark. The bottom line is that looking at big trades is interesting, but it is nearly impossible to determine an investment thesis by just following huge trades.
When you are long a call you are long delta, Short call short delta this means that for every dollar move in the stock, you are expecting the option to rise by delta. EX. if delta is .7 (this would probably be a fairly deep In the Money call) you could expect your option value to go up by .7 of a dollar for every dollar move of the stock. This however is all theoretical and not exact.
Demand for options can increase implied volatility - or how expensive an option is.
Treasury securities can be seen as a signal of how much institutions trust the government. Treasury bonds are a way of lending money to the government and they pay you back a certain amount of interest. This interest is better than savings interest, but it's certainly not good, and most times doesn't outpace inflation. However, institutions are willing to take a loss on these securities because they need a certain position of cash, but they don't want to keep straight up cash. Treasury securities are a safe and relatively liquid way to keep cash on the side.
Bollinger Bands (what is statistically normal?)
Takes a 20 day moving average and takes the standard deviations, two lower, two higher
Uses statistically normal model bell curve that 2 SD’s either way will equal 90% of the bell curve
This will create a channel within the stock will usually trade
Trying to find change in trend - what price move is statistically not normal
Can be used as support and resistance levels
As bands get smaller in width, we see contracting volatility
Ad the difference in width between bands gets larger, you get expanding bands and increase in volatility
Pierce of the bands is important
You usually want to see the follow through, when you get the first peirce, you want to see days usually a couple to confirm the direction in the upper part of the band or piercing it for a couple days in a row (smaller reward but better quantity of singles and doubles)
Sma’s and anything tied to sma’s will lag a bit because it is just an average - this will mean that there may not be an all out breakout, but more of a riding the upper band higher, which will eventually be followed by consolidation
You can scan the markets for upper and lower and piercings
When you trade the office of the bollinger band, you want to exist when you enter back into the channel or when you hit the 20 day sma - which is the middle
Even though price movies one way, the channel will expand in either direction due to increased volatility
You want to pair these indicators with other technical analysis, this is just a added tool, but you want to focus on momentum indicators or trend, like RSI and MACD
Rule of 16 of historical volatility
RSI - Relative Strength Index (momentum indicator) - much like Williams % r and Stochastic fast, all use different calculations, but all show momentum to a different degree
Oscillates between 0 and 100
Reflective on price movement
RSI measures the average change of prices upward or downward over a period of time - most likely the 14 day period
RSI formula - (14 consecutive up days would mean an RSI of 100) - is the upward momentum outperforming the downward momentum
Creator’s opinions is that at above 70 we are overbought, but beneath the 30 mark we are oversold
During a bull market 40-50 RSI will act as a support
In a bear market a 50-60 RSI will act as resistance
Divergence - the rsi may be flat while the stock is going up, this may signal a drop in momentum and a end to the rally soon
Positive reversals - price going upward, rsi going downwards
Negative reversals - price going downward, rsi goes up
By lowering the 14 day period in you rsi calculations, like if you sue the last two days, the rsi is going to be much more sensitive, it is way easier to have 2 days of up in a row, which will mean rsi will hit 100 much more than if we had a 14 day average for the RSI
RSI is also a good indicator of support and resistance, and you can if a stock is in a bearish trend when their former support turns to resistance in the RSI
You don't use technical indicators and RSI to make an investment thesis, but more a better confirmation to make (price is king)
Difference between fast and slow stochastics - has a smoothing elements, it just averages, it is literally the same line just showed differently smoothing element gives you a little more confirmation, but you lose a little time , but they are really just the same
Youtube - Anton Kruel Seminars -
Traders need volatility, volatility since '08 crisis has been crushed
Higher liquidity means less volatility, because there are so many willing buyers and sellers at any price movement
As a newer trader, you should familiarize all asset classes so you can determine where the volatility is and where the money is to be made
Investment bank prop traders will usually have 10 to 20 positions long and short with a 5% to 10% percent weighting while HF managers usually look for 20 positions and less than 5% percent each
You can measure the volatility of a portfolio and can control that to make sure they do not have too much risk (10%) risk
Professionals already know ideas of numbers and they know what is going to happen ex. Earnings while retail traders are more reactionary
Brokers need to spend money on advertising because 90% of retail traders lose money, so the brokers usually will take the other sides of their bets
CFD - contract for difference the broker will pay the difference in the way the stock goes
100 times leverage in forex and 10 times leverage game in stock and bonds - 1000-100000 lose 1 percent
You need to realize that the brokers and other most likely have conflict of interest, it is important to realize this and that most brokers want you to lose money
It is imprtant tio know that smart money needs dumb money ton exssitc to take the other side of their trades
The perfect broker is one that creates a narrative and the perfect client is one that believes it
RSC - Relative Strength Comparison (comparative visual representation between two assets)
Comparing performance between two different securities
You are basically dividing your base stock by another stock you are comparing
So if you see a downward slope you know the base stock is underperforming, not necessarily going down, just underperforming the other stock you are comparing
When looking at RCL, if you see a big rise in the RSC, you know your base stock is outperforming what you stock you are comparing it to
Diagonals and Calendars
The target is the strike price that you short, you want price to be there when the short strike is expiring
You are mainly going to use this strategy when you want to take advantage of vega (implied volatility)
We want to capture as much of the iv from the short option (your premium), while keeping the iv of your long option
Essentially what this is is a poor man covered call with different expirations
Most you can lose is the amount you paid
You want your vertical call spread to go up in value as quickly as possible, that is how you maximize profit, contrary to debit call spreads
You pick the long strike as a way to know how much capital you want to deploy, the short strike is where you want the stock to be
When you do a straight calendar spread not a diagonal, your thesis is more of a range bound profit zone from x-y you are profitable, but when you want your short dated option to expire right at the strike price (targeted price action)
You may want to do puts instead if you trade a security that pays dividends
Notes From Class
Chapter 1
What is Finance - "is the study of how individuals, institutions, governments, and businesses acquire, spend, and manage money and other financial assets." (Textbook, Chpt 1, Pg 6)
Full employment - Full employment is an economic situation in which all available labor resources are being used in the most efficient way possible. Full employment embodies the highest amount of skilled and unskilled labor that can be employed within an economy at any given time. Full employment is seen as the ideal employment rate within an economy at which no workers are involuntarily unemployed. Full employment of labor is one component of an economy that is operating at its full productive potential and producing at a point along its production possibilities frontier. (www.investopedia.com)
Underemployment - Underemployment is a measure of employment and labor utilization in the economy that looks at how well the labor force is being used in terms of skills, experience, and availability to work. People who are classified as underemployed include workers who are highly skilled but working in low-paying or low-skill jobs and part-time workers who would prefer to be full-time. This is different from unemployment in that the person is working but not at their full capability. (www.investopedia.com)
Cyclical unemployment - Cyclical unemployment is the component of overall unemployment that results directly from cycles of economic upturn and downturn. Unemployment typically rises during recessions and declines during economic expansions. Moderating cyclical unemployment during recessions is a major motivation behind the study of economics and the goal of the various policy tools that governments employ to stimulate the economy. (www.investopedia.com)
Frictional unemployment - Frictional unemployment is the result of voluntary employment transitions within an economy. Frictional unemployment naturally occurs, even in a growing, stable economy. Workers choosing to leave their jobs in search of new ones and workers entering the workforce for the first time constitute frictional unemployment. It does not include workers who remain in their current job until finding a new one, as, obviously, they are never unemployed. Frictional unemployment is always present in the economy. It contributes to the overall employment picture and is part of natural unemployment. (www.investopedia.com)
Natural unemployment - Natural unemployment, or the natural rate of unemployment, is the minimum unemployment rate resulting from real or voluntary economic forces. Natural unemployment reflects the number of people that are unemployed due to the structure of the labor force, such as those replaced by technology or those who lack certain skills to gain employment. Is this the 4.2 percent? (www.investopedia.com)
Structural unemployment - Structural unemployment is a longer-lasting form of unemployment caused by fundamental shifts in an economy and exacerbated by extraneous factors such as technology, competition, and government policy. Structural unemployment occurs because workers lack the requisite job skills or live too far from regions where jobs are available and cannot move closer. Jobs are available, but there is a serious mismatch between what companies need and what workers can offer. (www.investopedia.com)
Employ - to use or engage the services of or to provide with a job that pays wages or a salary (merriam webster - https://www.merriam-webster.com/dictionary/employ)
Investments - involves the sale or marketing of securities, the analysis of securities, and the management of investment risk through portfolio diversification (Textbook, Chpt 1, Pg 7)
money markets - where debt securities of one year or less are issued or traded (Textbook, Chpt 1, Pg 17)
capital markets - are where debt securities with maturities longer than one year and corporate stocks are issued or traded" (Textbook, Chpt 1, Pg 17)
6 Principles of Finance
1. Money has a time value - "Money in hand today is worth more than the promise of receiving the same amount in the future. The “time value” of money exists because a sum of money today could be invested and grow over time. A dollar today is worth more than a dollar in the future. (Textbook, Chpt 1, Pg 10)
2. Risk vs. Return - "Rational investors would consider the business venture investment to be riskier and would choose this investment only if they feel the expected return is high enough to justify the greater risk. Investors make these trade-off decisions every day. Higher risk usually means higher returns. (Textbook, Chpt 1, Pg 10)
3. Diversification can reduce risk - While higher returns are expected for taking on more risk, all investment risk is not the same. In fact, some risk can be removed or diversified by investing in several different assets or securities. Not putting all your eggs in one basket can help you achieve higher returns in case an investment does not perform as expected. (Textbook, Chpt 1, Pg 11)
4. Financial markets are efficient in pricing securities - "A financial market is said to be information efficient if at any point the prices of securities reflect all information available to the public. When new information becomes available, prices quickly change to reflect that information. This informational efficiency of financial markets exists because a large number of professionals are continually searching for mispriced securities. Of course, as soon as new information is discovered, it is immediately reflected in the price of the associated security. Information-efficient financial markets play an important role in the marketing and transferring of financial assets between investors by providing liquidity and fair prices. " (Textbook, Chpt 1, Pg 12)
5. Manager and stockholder objectives may differ - "Owners, or equity investors, want to maximize the returns on their investments but often hire professional managers to run their firms. However, managers may seek to emphasize the size of firm sales or assets, have company jets or helicopters available for their travel, and receive company-paid country club memberships. Owner returns may suffer as a result of manager objectives. To bring manager objectives in line with owner objectives, it often is necessary to tie manager compensation to measures of performance beneficial to owners. Managers are often given a portion of the ownership positions in privately held firms and are provided stock options and bonuses tied to stock price performance in publicly traded firms.” In other words, don't pay them until they pay you. You need to incetvie returns to receive substantial ones. (Textbook, Chpt 1, Pg 12)
6. Reputation Matters - " An individual’s reputation reflects his or her ethical standards or behavior. Ethical behavior is how an individual or organization treats others legally, fairly, and honestly.” "Examples of high ethical behavior include when firms establish product safety and working-condition standards well above the legal or regulatory standards." (Textbook, Chpt 1, Pg 12)
Chapter 2
Money is a physical or electronic asset accepted for a payment of goods and services, generally accepted, medium of exchange, suve as a store of claue, standard of value
Currency - digital electronic money accepted for making payments, virtual - (like v bucks buying stuff in virtual world) , crypto
Medium of exchange - used to facilitate the exchange of goods and services
Surplus economic unit - something that makes more money than it costs (unit of business , real estate, corp)
Deficit economic unit - spends more money than it brings in, must borrow surplus economic units
One basis point = .01% or .0001
Central bank - controls the flow of money and money supply - known as the fed, has a different name in other countries
real assets - include the direct ownership of land, buildings or homes, equipment, inventories, durable goods, and precious metals (Textbook, Chapter 2, Pg. 29)
financial assets - are money, debt securities and financial contracts, and equity securities that are backed by real assets and the earning power of the issuer and backed by collateral, like stocks (Textbook, Chapter 2, Pg. 29)
store of value - exists when the price or value of money remains relatively stable over time. - Ability for money to be held for some time and not being devalued (Textbook, Chapter 2, Pg. 31)
purchasing power - amount of goods and services that can be purchased with a unit of money. (Textbook, Chapter 2, Pg. 31)
inflation - an increase in the prices of goods and services that is not offset by increases in their quality. (Textbook, Chapter 2, Pg. 31)
Any asset other than money can also serve as a store of value as long as that asset can be converted into money quickly and without significant loss of value. We refer to this quality – the ease with which an asset can be exchanged for money or other assets – as liquidity. Money is perfectly liquid since it is a generally accepted medium of exchange. Other assets, such as savings deposits held at depository institutions, approach the liquidity of money. The existence of such liquid assets reduces the need for holding money itself as a store of value.
liquidity - how easily and with little loss of value an asset can be exchanged for money or other assets" (Textbook, Chapter 2, Pg. 31) exchanging currency is very liquid but it depends on what currency it is
fiat money - paper money proclaimed to be legal tender by the government for making payments and discharging public and private debts. - Confederate dollar bills were warrantless after they lost the war. (Textbook, Chapter 2, Pg. 33)
M1 money supply - consists of currency, traveler’s checks, demand deposits, and other checkable deposits"(Textbook, Chapter 2, Pg. 38)
M2 money supply - Is all of M1 plus highly liquid financial assets, including savings accounts, small time deposits, and retail money market mutual funds, usually less liquid than m1(Textbook, Chapter 2, Pg. 40)
GDP AND MONEY SUPPLY AND VELOCITY OF MONEY - The output of goods and services in the economy is referred to as the gross domestic product (GDP). Since we typically measure output in current dollars, we are measuring “nominal” GDP. Some economists, called monetarists, believe that the amount of money in circulation determines the level of GDP or economic activity. If we divide GDP by the money supply (MS), we get the number of times the money supply turns over to produce GDP. Economists refer to the turnover of money as the velocity of money (VM). More specifically, the velocity of money measures the rate of circulation of the money supply. For example, if the annual GDP is $15 million and the MS is $5 million, the VM is three times (i.e. $15 million/$5 million). In alternative form, we can say that. (Textbook, Chapter 2, Pg. 41)
CPI - measures inflation, cost of basket of terms/cost of basket at base times 100 =
Net worth - (assets - liabilities) = net worth
Treasury securities - 3 types of treasury securities (difference is maturity time and yield) loan to the federal government, the government sells treasury securities to raise money
1. T-bills - maturity of 1 year or less the yield is currently .08%
2. T-notes - 2 and 10 years current yield 1.298%
3. T-bond - 10 - 30 years yield is currency 1.9667%
CD - a bank that sells you a loan to the bank giving you a yield - "short-term debt instrument issued by depository institutions that can be traded in the secondary money markets" )(Textbook, Chapter 2, Pg. 38)
Commercial paper - short term unsecured issued by corporate companies "short-term unsecured promissory note issued by a high credit – quality corporation"((Textbook, Chapter 2, Pg. 38)
Bankers acceptance - used to facilitate trade, promising future payment, guaranteed by a bank to do a transaction right now "promise of future payment issued by an importing firm and guaranteed by a bank" (Textbook, Chapter 2, Pg. 38)
Works Cited this Month
Wall street prep
https://youtu.be/L7G0OfJUON8 - 40.40
Fidelity trading desk seminars
College textbook
Investopedia
St. louis fed (fred)