After doing each of the 2009 CFAI mock exams and sample exams following my CFA level two strategy with 14 days left, here are the points that I made a note for myself to remember. I hope they are of use to someone out there…

Alternative Investments

Altinv (bonds) The purpose of credit tranching is for the subordinate tranche to absorb credit losses.

Alt inv (bonds) Non-amortizing assets, prior to the lockout or revolving period, principal repayments can be either paid out to security holders or reinvested in additional loans.

Alt inv (bonds) The main parties to a securitization are the seller or originator, the servicer, and the issuer or SPV.

Alt inv (bonds) The insurance protection provides for the timely payment of principal and interest payments as due.

Fixed Income

Bonds CPR (conditional prepayment rate) = 6% X t/30 X PSA (public sec association prepayment benchmark) / 100

Bonds months elapsed = number of months - WAM

Bonds agency securities still have credit risk

Bonds excess spread accounts don’t pay out all interest to security holders - can cover future defaults

Fixed income succession plan –> character

Fixed income USE quick and current ratios for liquidity

Fixed income high bank loans mean junk likely, high bonds issuance means higher rated likely

Fixed income don’t easily place things on negative outlook

Fixed income larger PAC collar equals more certainty payment schedule will be satisfied, therefore largest prepayment protection - The narrower the PAC window (labelled Expected Principal Repayment Dates in Exhibit 1), the more likely an MBS will behave like a bullet corporate bond.

Fixed income If mortgage rates rise above the contract rate, the expected cash-flow improves, but the cash flow is discounted at a higher rate. The net effect may be either a rise or a fall in IO value.

Fixed income REVISE OAS / volatility / option costs etc for bonds - You would want to own a security with the lowest option cost, a relatively high OAS if volatility decreases and higher OAS as volatility increases, and relatively better price performance if volatility either decreases or increases.

Fixed income Evaluating MBS and other structured securities subject to prepayment risk requires a model that reflects that cash flows are ”interest rate path-dependent”

Fixed income Cash flow duration is an inferior form of effective duration. Even if advanced analytics are used to determine the best prepayment assumption, it will not be as accurate as building a Monte Carlo simulation which determines prepayment rates stochastically given various interest rate changes to determine the average price of the MBS.

Corporate Finance

Corporate finance excessive compensation is asset risk

Corporate finance target payout ratio stuff - = last div + increase in earnings X target X 1/number of years)

Corporate finance value of firm is maximised when WACC is minimised

Corporate finance (S-C) x (1-t) + Dxt

Corporate finance Be very careful for economic vs accounting income

Corporate finance Econ income = cash flow - (ending MV-beginning MV)

Corporate finance greater risk reduces NPV

Derivatives

Derivatives learn the probability up move / down move formula

Derivatives revise meaning of gamma delta bs

Derivatives remember the put call parity thing

Derivatives revise swaps

Derivatives revise swaptions

Derivatives SWAPS _ REVISE = Calculate and interpret the fixed rate on a plain vanilla interest rate swap and the market value of the swap during its life

Derivatives While there is no credit risk at contract initiation, the potential credit risk of an interest rate swap is greatest at the middle of its life; it does not increase throughout the life of the swap.

Derivatives A receiver swaption is equivalent to a call option

Derivatives REVISE SWAPTION PAYOFFS - Calculate and interpret the value of an interest rate swaption on the expiration day -Using the information in Exhibit 1 and Howell’s sixth statement: [4.32% - 3.90%) * (90/360)]= $105,000 () = 1 / ( 1 + 0.0400*90/360) = 0.9901 () = 1 / ( 1 + 0.0435*180/360) = 0.9787 ($105,000 * 0.9901) + ($105,000 * 0.9787) = $206,725

Derivatives F = S x 1+r f / 1+r base

Derivatives learn to price forward contracts

Derivatives learn the derivative % up / down formula

Derivatives Only the position owing money has credit risk near expiry.

Derivatives F0,t = So - PVD x (1+r)^t OR F0,t = So x (1+r)^t - FVD

Derivatives Value (fwd) = So-F / (1+r)^t

Derivatives F = So e ^-cd c^rcT - go over continuous fwd pricing

Derivatives F(o,t)= S0 (1+r for) / 1+r base - DONT FORGET THIS FORMULA

Derivatives to convert given rates to continuous rates do ln(1+rate)

Derivatives convenience yield will decrease the futures price - Fo(t) = So(1+r)^t + FV (CB) - CB = costs of storage minus convenience yield

Economics

Economics external factors in porters framework are government , social changes, technology, demographics and foreign influences

Economics graham and dodd want to buy cycling businesses at bargain prices and growth stocks at or under intrinsic value

Economics prem / discount = fwd rate - spot / spot X (12/number of months) X 100%

Economics revise international Fischer relation

Economics Triangular arbitrage

Economics go over uncovered IRP

Economics F=So x (1+Rforeign)/(1+rbase) (IRP)

Economics S1=S0 x (1+Iforeign / (1+Ibase)

Economics foreign/base, base:foreign is how they do quotes. Spastics.

Equity

Equity EVA = NI - $WACC (or ke x equity capital)

Equity Value = book + [(ROE - r )/ (r-g)] X book

Equity higher values of tax and interest burden (EAT/EBT and EBT/EBIT) mean lower burden apparently

Equity operating margin is EBIT / rev and pre-tax margin is EBT /rev

Equity Franchise Factor = 1/r – 1/ROE

Equity Sustainable Growth Rate = Retention Ratio X ROE

Equity Growth Factor = g/(r-g)

Equity Franchise P/E = Franchise Factor X Growth Factor

Equity Intrinsic P/E = Franchise P/E + Tangible P/E = (26.66 + 6.67) = 33.33 Tangible P/E = 1/required rate of return = 1/.15 = 6.67 Franchise Factor = 1/r – 1/ROE = 1/0.15 – 1/0.18 = 1.111 Sustainable Growth Rate = Retention Ratio X ROE = (1 - .20) X .18 = .1440 Growth Factor = g/(r-g) = .1440/(.150 - .1440) = 24 Franchise P/E = Franchise Factor X Growth Factor = 1.111 X 24.0 = 26.66

Equity REVISE FRANCHISE FACTOR P/E RUBBISH

Equity Intrinsic P/E = (1 – retention ratio) / (required rate of return – sustainable growth)

Equity Sustainable growth = (retention ratio * ROE) / ((required return – (retention ratio * ROE))

Equity Intrinsic P/E using prospective earnings: / = 1/ [ρ + (1 - λ)I]; ρ = r – I ρ = 15% - 5% = 10%; / = 1 / [0.10 + (0.40 x 0.05)] = 8.33.

Equity Absolute valuation models specify an asset’s intrinsic value and relative valuation models specify an asset’s value relative to that of another asset.

Equity READ the QUESTION = asset turnover is not the asset multiplier

Equity higher intrinsic P/E’s are LESS attractive

Equity use cost of equity for residual income (not about financing decisions)

Equity use FCF when capacity to pay dividends differs from dividends

Equity FCFF is better than FCFE whenever the capital structure is changing

Equity FCFE = FCFF - int(1-t) + net borrowing

Equity Net borrowing is the change in long term debt

Equity make sure to use end years dividend

Equity GO OVER EQUITY HARD

Ethics

Ethics need consent before working for someone else,

Ethics client accounts have priority of account where employees have beneficial ownership

Ethics must provide research reports to audience members at reasonable price

Ethics do not provide other client details to clients

Ethics don’t have to disclose soft dollar arrangements just need to ensure quality blah blah

Ethics can’t have compensation tied to investment banking clients

Ethics Funded status = plan assets - PBO (which SFAS is this? )

ethics can’t communicate a rating different to current rating

ethics issue final report if there is doubt

Financial Statement Analysis

FSA revise consolidation / pc and equity method (incremental effect on NI = total - minority interest for consolidation)

FSA balance sheet carrying values year on year are cost + share of NI - dividends received

FSA equity income is only from those you control (consolidation) or JVs (not equity or small investments)

FSA only include dividend income from AVS, HTM, trading and equity method (check last bit)

FSA all current method (all assets convert at current rate (year end), all income statement converts at the average rate)

FSA PBO - learn the stupid SFAS numbers - Under SFAS No. 158 the pension liability recognized is the ending pension obligation minus the ending pension assets without any adjustments for unrecognized amounts. 972-604 = 368

FSA ECONOMIC vs expected pension expense - be careful - it’s easy - The economic pension expense would include service cost plus interest cost less actual return on assets: 60 + 54 – 56 = 58. Alternatively, it is the change in the pension obligation less the change in plan assets adjusted for cash contributions and benefit payments. [Change in benefit obligation + benefits paid (non-expense item)] – [Change in plan assets – (contributions – benefits paid)]

FSA don’t forget to get Fcinv from investment in fixed assets regardless of fixed asset sales, WCInv from CFS

FSA [NI - (CFO+CFI) / (NOA end - NOA beg / 2)]

FSA Advances from customers are a legitimate liability and should not be part of an adjustment of the firm’s debt. Guarantees represent a contingent liability and need to be included in a firm’s adjusted debt level. Sale of receivables (with recourse) can be thought of as collateralized borrowing and needs to be part of the adjustment to the debt level.

FSA Sweet Home’s reduction of the accounts receivables’ allowance should be reversed; this would increase the allowance for doubtful accounts by 150 and hence reduce the net receivables balance. So total assets decrease by 150. The adjustment would also require an increase the bad debt expense of 150 which reduces net income by 150(1-.35) = 97.50.

FSA Quality of earnings refers to the degree of conservatism in reported earnings. Accelerated depreciation methods are an indication of high earnings quality; both sale of receivables with partial recourse and guarantees of unconsolidated subsidiary debt represent off-balance sheet financing techniques, which lower the quality of earnings.

FSA Go Over equity method and consolidation method.

FSA pension expense reported vs underlying pensions expense — service cost + interest cost -EXP return + amortization of unrecognized loss or prior cost

FSA functional / local / presentation currency. All current (funct + local same), temporal (functional presentation same)

FSA remember which things to translate at which rates

FSA influence but not control is minority active investment

FSA Go over question 20,21,22 for the workings of the equity method

After completing the CFA level one exam last December, this is my first post about Level two of the CFA which I am taking on the 7th of June 2009. Click here to see my update 1 day before the exam about the CFAI sample and mock exams.

I have just finished my first run through of the material for the exam - 40 hours of videos, some audio tapes and a bit of reading here and there. I now have 14 days to revise it, practise it and somehow remember the increased amount of formulas required when compared to the level one exam (something i didn’t previously think possible).

At this stage, I feel very comfortable about my understanding of almost every concept in the course. There was very little that simply didn’t make sense to me when I went through each study session. Regardless of this, more so than in the level one exam, passing will require much more practise and memorisation of intricate formulas - something i unfortunately do not have alot of time for.

In terms of comparing level one and level two of the CFA exam, so far I have found level two to be:

• Much more focused on understanding and applying concepts rather than rote learning or memorisation (although there is still a mountain to memorise),
• A much more useful course in terms of valuing assets and understanding the impacts of the industry and the economy that a company operates in,
• Much longer and more difficult to master. The question format change - 20 vignettes of information followed by 6 questions each rather than 240 individual multiple choice questions - means much more practice is required to succeed in the exam.

With 14 days left, I don’t rate my chances of passing above about 30-40%. Whilst I feel I understand the material, whether i can get it all to stick in 14 days and have it ready to assault the demands of time pressure, crazily confusing CFA questions, and exam day stress is another question.

That said, my approach to the next 14 days is below (or it will be once I’ve thought about it - which is why i am writing this):

Things that need to be done - My ideal preparation for the CFA level 2 exam

• Revise all material using either the notes i made watching the videos or the secret sauce by Schweser. I will probably go for the later due to time pressure but I may do both if time permits.
• Start doing some practice questions. It is far too late for this really but If i can do 1000+ questions spread well across the different areas, I will be happy. I should note here that i typically spend more time learning than doing practice questions and this usually works for me (who knows what will happen with level two though)
• Do the 3 CFAI level two sample tests and the CFAI level two mock exam and then spend plenty of time revising answers and analysing weak spots (I used a spreadsheet for this is level one and it was particularly helpful in finding commonly tested item sets and in revising).
• Go over weak areas and make a formula sheet / level two summary sheet. My version of this for level one was 2 pages in tiny writing.
• Make sure I read a little about each area of the course every day. This is something i didn’t do for level one that i believe will help. Even if it is just a skim over the material, the repetition will help me.

Good luck to all others doing the course and I’ll write more about my experiences as I get closer to exam day.

When analysing the financial statements of companies, consider the implications of the methods of accounting that a particular company chooses. Unfortunately, using acceptable accounting practices does not always reflect economic reality. Companies often have the discretion to manipulate their earnings to reflect the reality that they wish the rest of the world to see them in.

Have a look below for some of the signs to look out for in the financial statements of companies you are interested in investing in:

Conservative Accounting Practices:

•    Choosing LIFO as opposed to FIFO accounting for inventory in an inflationary environment (this leads to ending inventory being lower from higher COGS, and lower operating profit)
•    Rapid write-offs of intangibles gained through acquisition
•    Lack of nonrecurring gains (no regularity of weird gains from unusual or infrequent items)
•    Expensing of initial start up costs (should be expensed as opposed to being capitalised)
•    Minimal software capitalization (again should usually be expensed unless it is going to provide an on-going future economic benefit)
•    Minimal capitalization of interest and overheads (again should be expensed)
•    Accelerated depreciation methods (this leads to higher depreciation in early years thus decreasing net income in early yearly and increasing the reliability of the earnings) (this also has the benefit of decreasing taxes payable)
•    Short asset lives – depreciation (using a small useful life leads to a bigger depreciation expense and again a smaller net income)
•    Using the completed contract method for revenue recognition rather than the percentage of completion method (this ensures all revenue has been earned)
•    High bad debt provisions
•    Little use of off-balance sheet finance (eg operating leases or using the equity method to account for associate companies)
•    Clear accounting policy disclosure
•    Net income approximate to CFO (higher earnings quality)

Aggressive Accounting Practices (mostly the opposite of above):

•    Lengthening asset lives (will reduce depreciation charge)
•    Using straight line depreciation (lower depreciation in earlier years)
•    Choosing FIFO as opposed to LIFO accounting for inventory in an inflationary environment (this leads to ending inventory being higher from lower COGS, and higher operating profit)
•    Insufficient acquisition disclosures
•    Capitalisation of operating costs (this can be fraudulent - Anything that doesn’t lead to future economic benefits must be expensed)
•    Recording investment income as revenue (Think: is management masking a decline in sales?)
•    Recording revenue prematurely (percentage of completion incorrectly used, bill and hold)
•    Manipulating discretionary expenses (big bath provisioning so future years look better - this involves taking an extra hit in the bad years so the future years look better)
•    Manipulating reserves (impair an asset one year and reverse in future periods – only available under international accounting standards, not US GAAP, as you can reverse impairments)
•    Adopting new accounting policies early/late depending on the the impact of the policy
•    Frequent changes in auditors (why are management changing auditors, is there something to hide? always a warning sign)
•    Selling assets/investments to generate gains/losses (these are one off gains)
•    Accelerating/decelerating sales activities (incorrectly reporting sales, bringing forward etc)

December 7th 2008:

2:37am - After finally getting to sleep approximately 7 and a half hours before the Level One CFA examination was set to begin in Sydney, I received a phone call from a good friend of mine asking me to meet him at bar nearby. It’s saturday night and for the fourth weekend in a row, I am unable to agree to his request. The CFA preparation process had been grueling and I had not put in anywhere near the recommended 250 hours. But somehow I felt I had come as far as I could have - 2 weeks of solid study had blended the 18 study session curriculum into some sort of continuum of finance knowledge - in short, I felt I was ready.

6:30am - Having managed to get some level of sleep (I dont believe it was of the REM kind), my mind is mapping out the day ahead. I’d been thinking about this day for at least the last week and despite not being as prepared as I may have dreamt, I couldn’t wait for it to be over. Cook and eat breakfast, follow instructions on the list that I had magnetised to my fridge - “can of tuna, apples, pencils, calculator, eraser, etc..”, get in pre-ordered taxi to the exam and pass. How hard could it be?

7:55am - Other than waiting in a line for 10 minutes to go to the overpopulated toilet, things have gone smoothly thus far. I am outside the venue, frantically reading over my CFA in two pages cheat sheet, and hoping that the 9 hours ahead of me passes me by as quickly as possible. Interestingly, having completed two other degrees, I had probably put in the most study that I ever have for one exam. More interestly, save for the dark depths of administrative law, I also felt that despite this fact I had the greatest chance of failure in any one exam that i’ve ever done. The weight of the course materials is perhaps greater thanmost people realise and is siply exhausting to try and learn in a shot amount of time without prior knowledge or working experience.

10:00am - One hour into the paper, I have completed around 75 of the 120 questions. I am well ahead of time. At this stage my reflections on the paper are that it is far more qualitative than I had believed it would be (despite having been told otherwise). I have probably used my calculator 4 or 5 times by this point. Knowing the intracacies of each study session (at many points including trivia-esque details) has been required many a time to narrow the answer down from 2 options to the correct one. The CFA Institute seems to believe that instead of asking two questions, they will ask two questions in the form of one question (see made up question below):

In periods of rising prices, inventory will least likely be overstated and COGS will be maximised when:

a) LIFO is used for both purposes

b) LIFO is used and FIFO is used respectively

c) FIFO is used for both purposes

d) FIFO is used and LIFO is used respectively

1:00pm - I managed to get a small amount of study done during the break on areas that were not tested heavily during the morning session. I also ate my prepared can of tuna (gourmet I know) so that I didn’t fall asleep in the afternoon session. I decided it was smart not to arrive at the exam when they said to in the afternoon (1 hour early) and returned with about 15 minutes before the next exam was due to start. I was feeling very confident at this point.

3:30pm - Thank you CFA for making me feel so confident - why could you not have been so kind in the afternoon? Like some crual set-up, sometime around 60% through the afternoon exam session, I was just about ready to committ exam suicide. I felt it was a very tough afternoon paper and often I found myself down to a choice between two options in one question (which was really two questions). I was usually sure of one answer out of the two you needed to know to get the answer correct and close to sure about the second. I estimate that I got a maximum of 24 questions wrong in the morning paper compared to around 45 in the afternoon paper. With 40 or so questions to go, I remember feeling absolutely drained (180 questions in) and thoroughly ready to go home and relax my brain. No such luck.

6:00pm - Overall, I’d say the paper was far less quantitative than I may have hoped or planned. I was ready to calculate the depreciation in year 27 of a 40 year capital lease and instead I was instructed to decide what quintile a random score fell into. All I can say about my experience in level one is know the concepts, know them in detail and be very sure about everything. The CFA Institute has a way of making you doubt even the most concrete parts of your knowledge. How well do you know what you think you know? Do firms really need to lodge a statement of changes in owners equity under US GAAP or is it optional - their questions will test knowledge qualitatively and you must be ready if you wish to have a chance. I don’t believe time was a problem at all but I did do 2 practice quizes timing myself accurately (less than the ~10-15 I heard others doing). Overall I completed a breakdown of how I think I went and even in my most conservative assessment where I got all the 66 questions I checked as possibly wrong wrong, I still got greater than the 70% that is needed to pass. Here’s hoping but the fatigue of it all may have messed up my assessment.

2:01am Thursday 29th of January - Results have just been released (later due to the time difference in Australia). I am very pleased to communicate that my study has paid off and that I passed level 1 of the CFA. Not sure what happened to my corporate finance results but beggars can’t be choosers I guess…

My results in the difference sections are below:

save

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Seeing as I have managed to document my thoughts throughout my CFA level one study so far in my CFA Blog updates and my original CFA Level One Study Plan, I figured an update 4 days out from the exam is in order. I write this update knowing full well my time could be better spent studying.

Biggest points of interest

• Very interesting course. it all comes together at some point. highly recommend skimming the whole course with schweser secret sauce to get your head around all you have to know. Once you do this, it is easier to focus on weaker areas.
• Boredom of doing questions that you can do is a problem. circa motivation too. but must continue to do them or will forget.
• Need to focus on problem areas.
• Need to do practice questions.
• Must do ethics material from CFAI, schweser Q bank or some other source of questions, all the practice Q’s you can get your hands on.

A post I made on Analyst forum is below with the results further down.

After going back and forwards on different plans and strategies for weeks (I think I have written at least 6 plans in excel and or word), I think i have finally found one i like. If it helps others, fantastic, if not it provides great procrastination time as i try to put off the 60 derivatives questions i am about to do after i write this…. This may not provide much value to most and is fairly elementary (i wish i had come up with it earlier).

Once you are fairly comfortable with the majority of the workload (which i assume most of us are by this point), there are going to be gaps in our knowledge which we need to improve. Simulating test conditions may also be important to some if time is an issue for you.

I have been taking the CFAI samples (nothing new here) but actually working through my results in a systematic way. I chose to do the CFAI samples first before i take the Schweser ones as they are obviously more representative of the exam.

My ’systematic’ way is as follows (sounds stupid but i hope it helps)(also note i have the tests on my computer but it would work just as well for schweser etc)..

1-creating an excel spreadsheet for my answers numbered 1–>x
2-input answers as i do the test (put a star on the questions i know need revision on as i do the test or that I am totally guessing - also write the topic of the question in the next cell as a primer for later)
3-mark the test
4-go through with answers and identify problem areas.
5- create a “must revise”, a “forgotten formulas” and a “should revise” list in the same spreadsheet
6- add areas that you need to work on to the list and repeat this process for each of the sample exams and the Schweser exams and you will have a fairly comprehensive list
7- Revise key areas and question bank or some other way test yourself on these areas.
8-pass.

Here is a link to what it looks like - hope it helps someone - glad i wasted time not thinking about swaptions.

I have made a list of stuff I need to work on before the exam. It is below and the spreadsheet that I made it from is here. It is unedited.

Thanks have to go to Wallstats.com and blog.mint.com for creating this amazing diagram.

Following on from my previous CFA Blog updates on my CFA progress, I have spent the last month working hard at work, studying the CFA and not finding much time to update this website. My original CFA Level One Study Plan seems far off and I find myself less than 30 days from the exam…

The title of this post is somewhat misleading as I have not yet passed the exam and I am probably far off being able to claim such a feat.

I do however, feel that I have come up with a strategy that will enable me to use approximately 6 more weekend days, 15 or so after work nights and 5 full days off before the exam to have a good shot at passing the CFA level one exam.

The strategy is as follows:

1. Read learning outcome statements in Scheweser Question Bank program. This program is amazing
2. Complete practice multiple choice questions relating to each LOS in the same program
3. Maintain a simple spreadsheet with key new concepts learnt in super summarised form - refer to this each day until the exam
4. Complete practice CFAI exam papers 2 weeks before the exam. They are apparently much harder than the Schweser material
5. Rinse and Repeat

So far, I feel comfortable that I can answer the economics, ethics, quantitative methods (50%) and financial statment analysis (50%) sections of the exam.

My only other feedback at this point is that the CFA program has thus far served the exact purpose I had intended it to. It has forced me to study a very wide range of business/ finance / economics topics in a systematic manner. It has been highly enjoyable and whilst doing it as well as working full-time is not a walk in the park, I highly recommend giving it a go.

My blog will not be updated as often over the coming month.

Speak soon.

Here is another CFA link that may be of some use to those doing the exam.

How Many Days Do You need to Pass the CFA Level One?

Six weeks on from my first CFA Blog update and my original CFA Level One Study Plan, I am now 67 days from the start of the CFA exams on December the 7th, 2008, in Sydney.

So let’s hope the answer to the question above is less than 67 days as this link on How to Pass the CFA in 50 days implies.

In terms of progress since my last update, I am feeling much more comfortable with some of the economics material and have revised the quantitative methods topics a few times. I have not yet done many practice questions at all as I have decided to get a good understanding of each of the topics before I do this - this is perhaps not an ideal tactic for all but it works for me. Unfortunately due to work and procrastination, time is running out and it is not looking like I will have a full month to do practice questions as planned.

I have now listened to all the audio tapes (except for some of ethics and alternative investments tapes) several times over between work and home. Just the sound of those two monotonous voices repeating “Question” or “Answer” or reading out a complicated formula makes me shudder at the thought of plugging my iphone headphones into my ears.

As a result of my new found hatred for listening to the audio tapes, I have switched to using a combination of the Schweser “Secret Sauce” (a summarised 220 page version of the 3200 page CFA material which I read on the way to and from work) and the Schweser video lessons, which include videos, the corresponding slides and a navigation mechanism. This switch will hopefully suit my studying technique of taking in little bits of information regularly but I do find it quite painful sitting my room alone, distractions rife, watching a 10 X 10 CM section of my LCD screen tell me about Financial Statement Analysis.

On that point, I have started the Financial Statement Analysis, Debt Investments (bonds) and Derivatives sections of the course. I believe the FSA stuff will be the most challenging for me because whilst none of its is particularly difficult, it is like learning a new language with no accounting and finance background.

I have nine weekends left before the weekend of the exam and am finding that I can make time to study two nights per week. I am obviously going to have to increase this as we get closer to the date and stop hosting Argentinian couch surfing girls at some point soon but overall, I think that whilst I could be further ahead, I am learning the information well and am close to where I would want to be at this point.

The following is an update of how far comfortable I am with each of the topics that I have studied so far:

Ethics - 50%

Quantitative Methods - 60%

Economics - 45%

Financial Statement Analysis - 25%

Debt Investments - 40%

Derivatives - 25%

Corporate Finance - 20%

Other - 5 %

Capitalism’s Holy Grail

Coming up with a system to succeed in the stock market and achieve market beating gains year after year is not an easy task. One might define the capitalist’s holy grail as finding the one system that will acheive the maximum possible returns year upon year.

“If you don’t get this elementary, but mildly unnatural, mathematics of elementary probability into your repertoire, then you go through a long life like a one-legged man in an ass-kicking contest.” Charlie Munger, “A Lesson on Elementary, Worldly Wisdom As It Relates To Investment Management & Business”

No Shortage of Stock Market Strategies

Finding Low price to earnings ratios, high dividend yields, high return on capital and only buying businesses that are priced below their intrinsic asset value would probably set you in the right direction as you entangle the stock market web and attempt to increase the value of your investments.

I have recently read several interviews with the Value Investing meritocracy of Buffet, Munger, Schloss, Robertson and Lynch and begun to invest myself over the past 3 months.

Without discounting the importance of understanding the strategies and financial ratios above, my reading has implied that succeeding in the stock market is less about strictly studying and following the investment strategies of others and more about finding a strategy that you can understand and which also falls within your ‘circle of competence’.

While reading a particular interview with one of the great investors above, you are swayed to believe that their way is the way to succeed, the only way. And seeing as each of their companies has averaged annual returns after fees of over 25% for at least ten years, perhaps you would not be far off the truth (their companies are Berkshire Hathaway, Walter J Schloss Associates, The Tiger Fund and the Magellan Fund if you’re interested).

But the truth is, each of their investment strategies is undeniably linked to their range of personal skills. Schloss sticks to buying businesses with a significant margin of safety below asset or book Value and doesn’t worry too much about the type of business or its management because that is not his area of expertise. Buffett understands and appreciates this method that they both picked up from Benjamin Graham but adds the necessity for the business to be a quality business in a profitable and sustainable industry to his list of investment requirements.

“It is better to buy great business at a fair price than a fair business at a great price”, Buffett says. Schloss feels otherwise.

Stick to Your Circle of Competence

Knowing that each of their investment strategies were fundamentally different from each other despite having commonalities, it became clear that if Warren Buffett were trying to use the strategies employed by Schloss, he would not have been as successful; and vice versa.

I had a tendency before doing all this reading to look for the objectively ideal strategy, the best and most efficient way to invest my money. Now I am seeking a strategy that I can understand, that I will have an edge in applying and that is likely to be successful (this final point is where past analysis is helpful).

Althought I suggest reading the writings of the masters above to get a better defintiion, I will quickly define what I just described as my ‘circle of competence’; an area in which you can excel and ideally an area that you enjoy.

Without intending to turn this piece into a guide to finding your own circle of competence, I found Munger’s article that I linked to above to provide the best guidance I have yet received, in only 5 to 6 pages, to equip someone new to investing (or just life) with the tools you need to succeed.

If you’re Stuck for Fundamentals - Try Some of Munger’s Worldy wisdom

Munger states that we all need a latticework of models to choose from when going through life. He speaks of those who go through life with limited ways of looking at the world as not reaching their full potential:

And the models have to come from multiple disciplines - because all the wisdom of the world is
not to be found in one little academic department. That’s why poetry professors, by and large,
are so unwise in a worldly sense. They don’t have enough models in their heads. So you’ve got
to have models across a fair array of disciplines.

So whilst I recommend reading the article in full, here are the most important models he describes:

1. Mathematics – permutations and combinations –algebra – think in terms of decision trees and permutations and combinations – spend time to devote to apply elementary maths to real life problems.
2. Accounting – know it plus its limitations.
3. Who what where when and why? Science and engineering backed models are best.
4. Statistics? understand well enough – know what a normal or Gaussian distribution looks like and that most things end up distributed like that. “I’m like a poker player who has learned to play pretty well without mastering Pascal”.
5. Engineering - stuff like backup system, breakpoints, the physics notion of a critical mass, cost benefit analysis.
6. Understanding of biology / physiology –Helps to understand what is and what is not going on.
7. Cognitive functioning is helpful to know -The pyshology of misjudgment is the most important part to learn of psychology – 20 little principles that interact with each other. The mind is subject to manipulation – “the mind of man at one and the same time is both the glory and the shame of the universe”.

Try some of my related articles below if you enjoyed this one

I found the following information in the Wetfeet Insider Guide to Careers in Investment Banking. This post follows on from my previous post on Investment Banking Interview Questions and Tips.

The following are good generic questions that will fit most investment banking interviews. However, you’ll want to think of additional ones that apply specifically to the company with which you’re interviewing. One important reminder: If you’ve already covered any of this material in your interview, don’t revisit it. You’ll appear inattentive and unfocused.

A word to the wise: We’ve grouped our questions according to our sense of relative risk. Those in the “Safe” section are meant to be boring and innocuous, while those in the “Well Done” section will help you put the fire to your interviewer’s feet.

Safe Questions

• What kind of person are you looking for? (This question will provide useful information on personal characteristics you should emphasize.)
• What makes a person successful in this business?
• What made you choose this firm over other firms?
• What is a typical career path in the (corporate finance, sales, trading, research) department?
• How much of an analyst/associate’s time is spent pitching new business?
• Is there a formal mentoring program for new analysts/associates?
• If I’m a CEO, why would I choose your firm to take my company public?

Medium

• Beyond the league tables, what differentiates your firm from other firms?
• How is an analyst/associate assigned from the generalist pool to a project?
• How long does it take most people here to become managing directors?
• Can one request specific teams, industries, or product groups?
• How well do the firm’s different divisions work together?
• What’s the path? Are there specific benchmarks you have to hit?
• What are the firm’s biggest challenges and opportunities in the next 2 years?
• What aspect of your job do you find most frustrating?

Well Done

• How has increased consolidation in the industry affected your firm, both positively and negatively?
• If the company has merged: What new business has resulted from the merger? How well have the two cultures mixed?
• How would your firm fare relative to the competition if interest rates suddenly skyrocketed? If oil prices plummeted? (Or whatever else you can think of along these lines, to help you gauge how prepared the firm is for future possibilities.)
• If the company has not merged: Do you think the company needs to acquire or merge with a competitor in the near future?
• How committed is the firm to building its XYZ business? (Investment banks are known to eliminate entire departments when they underperform against expectations, and if you happen to work for one of those departments, that is not usually good news..)
• What percentage of the managing directors are female or minority?