1.

Your healthy 63 year old neighbour is about to

retire and comes to you for advice. She indicates
that she is planning on taking all the money out of
her companys retirement plan and investing it in
bond mutual funds and money market funds. What
advise would you give her?
One of the most frequently asked question after retirement is
how long will your money last as you do? This is a must for every
individual who will no longer receive their monthly pay checks.
When it comes to the point of retirement, one of the major
considerations of a retiree is taking investments on bond mutual
funds and money market funds. However, this is a matter of taking
a bet for an expected return. Before engaging to this kind of
business, important factors must be put in place. First, you must
determine the flexibility of your budget as to your daily expenses.
Since you were no longer subjected to monthly compensation, you
have no other sources of funds other than your retirement money.
You must appropriate enough money to cover your daily expenses.
Decision wise, there must be a stable source of income. Money
market funds are good investments for it require little amount of
investment. However, the return may not be that large to cover the
rising cost of living. Second, you must have the ability to tolerate
risk both on practical and psychological basis. Engaging on
investment connotes your engagement on risk. You must be a good
price taker depending when price will be high or low. Since returns
on investment may vary from time to time, you must have the
capacity to tolerate it.
But after all, theres no perfect method on managing your
retirement money. So then, its a must for you to know how to figure
out how much risk you can tolerate and then create a good mix of
stocks, bonds and cash to meet your everyday needs.

2. What are the advantages of investing in the

common stock rather than corporate bonds of the
same company? Compare the certainty of returns
for a bond with those for a common stock. Draw a
line graph to demonstrate the pattern of returns
you would envision for each of the asset overtime.

Investors with a longer time horizon will be better suited to stick

to the right asset allocation rather than to try and time the market.
If one needs their investments to produce income, then it it is
important to decide if corporate bonds or dividend stocks are a
better place to be.
Investors use bonds to make their investments more diverse,
and to generate income. Diversification reduces risk and maximizes
returns
because you have invested in assets that react differently
to market conditions. However, corporate bonds and stocks have a
positive correlation. That is, when stocks lose value, corporate
bonds would most likely lose value too. The bonds will typically not
go down as much as stocks, which have little downside protection,
but the overall portfolio will still decrease.

Advantages of Investing in Common Stock

1. Ownership interest in the corporation will not be diluted by
adding more owners. Bondholders and other lenders are not
owners of the assets or of the corporation. Therefore, all of the
gain in the value of the assets belongs to the stockholders.
The bondholders will receive only the agreed-upon interest.
This is related to the concept of leverage or trading on equity.
By issuing debt, the corporation gets to control a large asset
by using other peoples money instead of its own. If the asset
ends up being very profitable, all of its earnings minus the
interest, will enhance the owners financial position.1
2. When one invests with a stock, one becomes a part-owner in
that company. As part-owner of a company, he may expect to
receive a growing dividend stream from his investment, and
hope the stock price will rise over time. However, dividends
depend on management discretion and company profits. As
for the stock price, it can go anywhere over the short to
medium term, regardless of the companys performance.
When one invests with a corporate bond, he becomes a mere
creditor, and the company owes him fixed interest payments
on his money, plus its eventual repayment.
3. Corporations often issue callable corporate bonds, for
instance, so that if the interest rates fall they can refinance
their debt at a cheaper rate. But bondholders cant do the
same if the interest rates rise and the attractiveness of their
bond diminishes.
4. Management is more aligned with the interests of the
shareholders than bondholders. Due to how debt affects a
companys statement of financial position and the fact that
1Averkamp, Harold (2016), Accounting Coach,
http://www.accountingcoach.com/blog/bonds-instead-of-stock.

directors personal wealth is usually linked to the companys

share price, either via direct holdings, options or performance
targets, a companys management will tend to try to improve
the share price at the expense of bondholders.
5. In contrast with stockholders, bondholders are faced with
different kinds of risks, one of which is the interest rate risk. It
is the risk associated with changes in asset price due to
changes in interest rates. As interest rate rise, prices on
existing bonds decline and vice versa. Interest rate risk is
greater for bonds with longer maturities, than short-term
bonds.2
6. Another risk bondholders face with their investment is the
reinvestment risk. It is the risk that earnings from current
investments will not be reinvested at the same rate of return
as current investment yield. Coupon payment from a bond
may suffer reinvestment risk if they cannot reinvested at the
same rate as the bonds yield.
7. Returns are fixed with bonds, dependent on the price paid.
One may expect to see a capital gain on maturity if he buys
the bond at a depressed price, but the most he will get is the
face value of the bond on maturity, plus the annual interest
while he holds it.

Certainty of Returns of Bonds and Stocks

2Risk and Return: An Introduction.

https://www.bogleheads.org/wiki/Risk_and_return:_an_introduction#cite_note-9.

Figure1 Risk vs. Return.

The annual returns on 3-month T-Bills (representing "cash") have

fallen in the range of 0% to 15% during the 84 year period from
1928 through 2011. This range of returns is represented in Figure 1
by the vertical bar on the far left (above the label "U.S. Treasury
Bills). Also note the tick mark showing the average annual return of
4%.
The middle vertical bar in Figure 1 represents the range of
annual returns on 10-Year U.S. Treasury bonds over the same time
period. Note the larger range or dispersion of returns from about
-11% to +33%. Also note the somewhat larger average annual
return of 5%.
The far right vertical bar in Figure 1 represents the range of
annual returns on U.S. stocks (as represented by stocks in the S&P
5003) over the same time period. Note the much larger dispersion of
returns from about -44% to +53%. Also note that the average
annual return of 11% is significantly higher.
As the chart indicates, the return on bonds is less certain than
the return on cash, and the return on stocks is less certain than the
return on bonds. Thus, bonds are considered riskier than cash, and
3The Standard & Poors 500, often abbreviated as the S&P 500, is an American
stock market index based on market capitalization of 500 large companies having
common stock listed on the New York Stock Exchange (NYSE) or NASDAQ Stock
Market.

stocks are considered riskier than bonds.

45

In general, stocks are considered riskier and more volatile than

bonds. However, stocks are also believed to offer a higher return
compared with bonds. This chart compares the returns from stocks
vs. bonds over a 10 year period and represents the conventional
thinking around stock vs. bond performance:

Figure 2 Growth of $10,000 invested in Vanguard's index funds for the total stock
market (VTSMX) and the total bond market (VBMFX), over 10 years.

It is important to understand that stocks are often very long-term

investments (10+ years), usually for retirement purposes. In any
given year, a stock can have steep highs and deep lows as its value
is redefined again and again on the market, making frequent buying
and selling extremely risky and mostly inadvisable. Over time,
though, stocks tend to return 6-7% annually, on average, after
adjusting for inflation and dividends.
Bonds are also used for retirement savings, but shorter-termed
bonds those which mature within 10 years or fewer can just as
easily be used throughout a lifetime for small, periodic returns.6
4Damodaran, Aswath. Annual Returns on Stock, T.Bonds, and
T.Bills.http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/histretSP.
html. January 5, 2016.
5Elton, Gruber, Brown, Goetzmann (2003), Modern Portfolio Theory and
Investment Analysis, p. 49. Wiley.
6

Where you are invested should be influenced by ones goals and

timeline. The further you are form retirement the less you need to
worry about todays market which makes it easier to stick to your
asset allocation. The closer you are to retirement the more
important it is to understand what you need from you money and
then pick the right place for you investments. With todays market,
those looking for income will do better in equities rather than bonds.

3. You own 100 shares of General Electric Stock and you

want to sell it because you need money to buy a laptop. How
would you go about selling the stocks? Discuss how you
would have to do to find a buyer, how long will it take and
the price you may receive.
Just because a seller performs the necessary functions to sell a
stock, it does not mean the order will always be executed. For a
stock to sell there must be someone on the other side of the trade
willing to buy. The order type a seller assigns to a trade can often
dictate the time it takes for a trade to go through. For instance, a
market order lets the broker know that a seller wants to sell a stock
immediately at the best price available. A market order is an order
to buy or sell immediately at the best available price. These orders
do not guarantee a price, but they do guarantee the orders
immediate execution. Typically, if you are going to sell a stock, you
will receive a price near the posted bid. One important thing is to
remember that the last traded price is not necessarily the price at
which the market order will be executed. If a stock is highly liquid,
as in the case of General Electric, it would not be a problem to find
opportunities to sell it. From a sellers perspective, demand for a
stock is necessary for a broker to attract potential buyers and carry
out the sellers trade. The time it takes for a trade to be executed
can also depend on the amount of stock a seller wants to sell. If the
amount of stock offered for sale is too large for a broker to match
with a buyer in one trade order, the broker might split the stock into
multiple orders. These types of orders can delay the time it takes to
sell all shares belonging to the original sell order. The market
capitalization of a stock plays a role in the market liquidity of that
stock. Market capitalization is the overall value of a company
measured by the amount of the companys stock or shares,
available in the marketplace, multiplied by the price per individual
stock. Larger companies like General Electric tend to have highest
market capitalization. Market hours and the relative time zones
affecting the market participants will impact the speed at which
stocks can be sold. In fast moving and volatile markets, the price at
which you actually execute the trade can deviate from the last
traded price. The price will remain the same only when the bid and
ask prices are exactly at the last traded price.

By:
Cindy Abrahan
Joy Zenia Caringal
Kristine Joyce Gagalang
Shaira Maureen Atienza
Maria Gina Marquez