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Investments
An Introduction
11e
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Investments
An Introduction
11e
Herbert B. Mayo
The College of New Jersey
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1 2 3 4 5 6 7 16 15 14 13 12
Dedication
In memory of a best friend and
companion . . . Tinker
Brief Contents
part 1 The Investment Process and Financial Concepts 1

chapter 1 An Introduction to Investments 3
chapter 2 Securities Markets 17
chapter 3 The Time Value of Money 58
chapter 4 Financial Planning, Taxation, and the Efficiency
of Financial Markets 94
chapter 5 Risk and Portfolio Management 128
part 2 Investment Companies 193

chapter 6 Investment Companies: Mutual Funds 195
chapter 7 Closed-end Investment Companies, Real Estate Investment
Trusts (REITs), and Exchange-Traded Funds (ETFs) 234
part 3 Investing in Common Stock 263

chapter 8 Stock 265
chapter 9 The Valuation of Common Stock 315
chapter 10 Investment Returns and Aggregate Measures
of Stock Markets 355
chapter 11 The Macroeconomic Environment for
Investment Decisions 391
chapter 12 Behavioral Finance and Technical Analysis 411
part 4 Investing in Fixed-Income Securities 435

chapter 13 The Bond Market 437
chapter 14 The Valuation of Fixed-Income Securities 472
chapter 15 Government Securities 525
chapter 16 Convertible Bonds and Convertible Preferred Stock 571
part 5 Derivatives 607

chapter 17 An Introduction to Options 609
chapter 18 Option Valuation and Strategies 653
chapter 19 Commodity and Financial Futures 701
part 6 An Overview 743

chapter 20 Financial Planning and Investing in
an Efficient Market Context 745
vii
Contents
Preface xv
part 1 The Investment Process and Financial Concepts 1
chapter 1 An Introduction to Investments 3

Portfolio Construction and Planning 4
Preliminary Definitions 6
Diversification and Asset Allocation 8
Efficient and Competitive Markets 9
Portfolio Assessment 10
Professional Designations and Certifications 11
The Internet 11
The Author’s Perspective and Investment Philosophy 12
The Plan and Purpose of This Text 14
chapter 2 Securities Markets 17

Secondary Markets and the Role of Market Makers 18
The Mechanics of Investing in Securities 22
The Short Sale 31
Foreign Securities 36
Regulation 36
Securities Investor Protection Corporation 41
Initial Public Offerings 42
chapter 3 The Time Value of Money 58

The Future Value of $1 59
The Present Value of $1 62
The Future Sum of an Annuity 64
The Present Value of an Annuity 68
Illustrations of Compounding and Discounting 72
Equations for the Interest Factors 76
Nonannual Compounding 78
Uneven Cash Flows 79
Appendix 3: Using Excel to Solve Time Value Problems 88
ix
x | Contents
chapter 4 Financial Planning, Taxation, and the

Efficiency of Financial Markets 94
The Process of Financial Planning 95
Asset Allocation 99
Taxation 100
Pension Plans 104
The Efficient Market Hypothesis 108
Appendix 4: The Deductible versus
the Nondeductible IRA 124
chapter 5 Risk and Portfolio Management 128

Return 129
Sources of Risk 132
Total (Portfolio) Risk 136
The Measurement of Risk 139
Risk Reduction Through Diversification: An Illustration 148
Portfolio Theory 151
The Capital Asset Pricing Model 155
Beta Coefficients 158
Arbitrage Pricing Theory 166
Appendix 5: Statistical Tools 179
part 2 Investment Companies 193
chapter 6 Investment Companies: Mutual Funds 195

Investment Companies: Origins and Terminology 196
Mutual Funds 197
The Portfolios of Mutual Funds 199
Money Market Mutual Funds 203
Selecting Mutual Funds 205
Taxation 212
Redeeming Mutual Fund Shares 218
Measures of Risk-Adjusted Performance 219
chapter 7 Closed-end Investment Companies,

Real Estate Investment Trusts (REITs),
and Exchange-Traded Funds (ETFs) 234
Closed-end Investment Companies 235
Real Estate Investment Trusts (REITs) 240
Exchange-Traded Funds (Etfs) 244
Hedge Funds and Private Equity Firms 248
Investment Companies and Foreign Investments 251
Contents | xi
part 3 Investing in Common Stock 263
chapter 8 Stock 265

The Corporate Form of Business and the Rights of Common
Stockholders 266
Cash Dividends 269
Stock Dividends 274
The Stock Split 276
Stock Repurchases and Liquidations 278
Preferred Stock 280
Analysis of Financial Statements 282
Liquidity Ratios 284
Activity Ratios 287
Profitability Ratios 290
Leverage (Capitalization) Ratios 293
Coverage Ratios 295
Analysis of Financial Statements, Securities Selection,
and the Internet 297
Analysis of Cash Flow 298
chapter 9 The Valuation of Common Stock 315

The Logical Process of Securities Valuation 316
The Investor’s Expected Return 317
Stock Valuation: The Present Value of Dividends 318
Risk-adjusted Required Return and Stock Valuation 324
Stock Valuation: Discounted Earnings or Cash Flow 326
Stock Valuation: Analysis of Financial Statements and Price
Multiples 328
Valuation and the Efficient Market Hypothesis 336
Appendix 9: Testing the Efficient Market Hypothesis:
The Event Study 350
c h a p t e r 10 Investment Returns and Aggregate Measures

of Stock Markets 355
Measures of Stock Performance: Averages and Indexes 356
The Dow Jones Industrial Average 359
Other Indexes of Aggregate Stock Prices 363
Rates of Return on Investments in Common Stock 370
Studies of Investment Returns 375
Reducing the Impact of Price Fluctuations:
Averaging 379
xii | Contents
c h a p t e r 11 The Macroeconomic Environment for Investment

Decisions 391
The Economic Environment 392
Measures of Economic Activity 393
The Consumer Price Index 396
The Federal Reserve 398
Fiscal Policy 405
The 2008–2012 Economic Environment 406
c h a p t e r 12 Behavioral Finance and Technical Analysis 411

Behavioral Finance 412
Technical Analysis 417
Market Indicators 419
Specific Stock Indicators 421
Technical Analysis in an Efficient Market Context 428
The Dogs of the Dow 431
part 4 Investing in Fixed-Income Securities 435
c h a p t e r 13 The Bond Market 437

General Features of Bonds 438
Risk 444
The Mechanics of Purchasing Bonds 448
Variety of Corporate Bonds 450
High-Yield Securities 455
Accrued Interest, Zero Coupon Bonds, Original-issue
Discount Bonds, and Income Taxation 459
Retiring Debt 460
Appendix 13: The Term Structure of Interest Rates 470
c h a p t e r 14 The Valuation of Fixed-Income Securities 472

Perpetual Securities 473
Bonds with Maturity Dates 475
Fluctuations in Bond Prices 479
The Valuation of Preferred Stock 482
Yields 483
Risk and Fluctuations in Yields 488
Realized Returns and the Reinvestment Assumption 490
Duration 493
Bond Price Convexity and Duration 499
Management of Bond Portfolios 501
Contents | xiii
Appendix 14A: Bond Discounts/Premiums and Duration

Compared 519
Appendix 14B: Using the Structure of Yields to Price a
Bond 523
c h a p t e r 15 Government Securities 525

The Variety of Federal Government Debt 526
Strips 533
Federal Agencies’ Debt 535
State and Local Government Debt 543
Authority Bonds and Build America Bonds 551
Foreign Government Debt Securities 552
Government Securities and Investment Companies 552
Appendix 15: Using Yield Curves 564
Yield Curves and Active Bond Strategies 564
Riding the Yield Curve to Enhance Short-term Yields 567
c h a p t e r 16 Convertible Bonds and Convertible

Preferred Stock 571
Features of Convertible Bonds 572
The Valuation of Convertible Bonds 573
Premiums Paid for Convertible Debt 579
Convertible Preferred Stock 583
Selecting Convertibles 586
The History of Selected Convertible Bonds 588
Calling Convertibles 590
Contingent Convertible Bonds 590
Put Bonds 591
Bonds with Put and Call Features Compared 593
Investment Companies and Convertible Securities 594
part 5 Derivatives 607
c h a p t e r 17 An Introduction to Options 609

Call Options 610
Leverage 614
Writing Calls 619
Puts 623
Leaps 632
Price Performance of Puts and Calls 632
The Chicago Board Options Exchange 634
xiv | Contents
Stock Index Options 636

Currency and Interest Rate Options 637
Warrants 638
c h a p t e r 18 Option Valuation and Strategies 653

Black–Scholes Option Valuation 654
Expensing Employee Stock Options and
Option Valuation 662
Put–Call Parity 663
The Hedge Ratio 666
Additional Option Strategies 670
Buying the Call and a Treasury Bill versus Buying the
Stock—An Alternative to the Protective Put 682
Appendix 18: Binomial Option Pricing 697
c h a p t e r 19 Commodity and Financial Futures 701

Investing in Commodity Futures 702
Leverage 708
Hedging 711
The Selection of Commodity Futures Contracts 713
The Pricing of Futures 715
Financial Futures and Currency Futures 717
Futures for Debt Instruments 725
Currency Futures 726
Swaps 729
part 6 An Overview 743
c h a p t e r 20 Financial Planning and Investing in an Efficient

Market Context 745
Portfolio Planning, Construction, and Risk
Management 745
Choice and Its Impact on Security Selection and Risk 747
The Importance of Market Efficiency 748
Appendix A 757
Appendix B 763
Glossary 773
Index 781
Preface
M
any individuals find investments to be fascinating because they can actively
participate in the decision-making process and see the results of their
choices. Of course, not all investments will be profitable because you will
not always make correct investment decisions. In addition, there is the thrill from a
major success, along with the agony associated with the stock that dramatically rose
after you sold or did not buy. Both the big fish you catch and the big fish that got away
can make wonderful stories.
Investing, of course, is not a game, but a serious subject that can have a major
impact on your future well-being. Virtually everyone makes investments. Even if the
individual does not select specific assets such as the stock of AT&T or federal govern-
ment bonds, investments are still made through participation in pension plans and
employee savings programs or through the purchase of whole-life insurance or a home.
Each of these investments has common characteristics, such as the potential return and
the risk you must bear. The future is uncertain, and you must determine how much risk
you are willing to bear, since a higher return is associated with accepting more risk.
You may find investing daunting because of specialized jargon or having to work
with sophisticated professionals. A primary aim of this textbook is to make investing
less difficult by explaining the terms, by elucidating the possible alternatives, and by
discussing many of the techniques professionals use to value assets and to construct
portfolios. Although this textbook cannot show you a shortcut to financial wealth, it
can reduce your chances of making uninformed investment decisions.
This textbook uses a substantial number of examples and illustrations employing
data that are generally available to the investing public. This information is believed
to be accurate; however, you should not assume that mention of a specific firm and its
securities is a recommendation to buy or sell those securities. The examples have been
chosen to illustrate specific points, not to pass judgment on individual investments.
Many textbooks on investments are written for students with considerable back-
ground in accounting, finance, and economics. Not every student who takes a course in
investments has such a background. These students cannot cope with (or be expected
to cope with) the material in advanced textbooks on investments. Investments: An
Introduction is directed at these students and covers investments from descriptive mate-
rial to the theory of portfolio construction and efficient markets. Some of the concepts
(for example, portfolio theory) and some of the investment alternatives (for example,
derivatives) are difficult to understand. There is no shortcut to learning this material,
but this text does assume that you have a desire to tackle a fascinating subject and to
devote real energy to the learning process.
xv
xvi | Preface
THE STRUCTURE OF INVESTMENTS: AN iNTRODUCTION

The previous edition of Investments: An Introduction was a major effort to make the
book more concise. More concise implies that specific topics were cut or shortened.
This edition clarifies the previous edition and in a few cases restores material that had
been deleted. The basic structure of the text, however, remains the same.
Part 1, Chapters 1 through 5, is devoted to the investment process and fundamental
financial concepts such as the time value of money and the measurement of risk. Part 2,
Chapters 6 and 7, covers investment companies. References to investment companies
such as exchange-traded funds occur throughout the text. Part 3, Chapters 8 through 12,
is devoted to investing in stock while Part 4, Chapters 13 through 16, is devoted to
fixed-income securities. Chapters 17 through 19 (Part 5) cover those fascinating specu-
lative and financial assets referred to as derivatives. The text ends with one chapter
(Part 6) that serves as a summing up of the process of financial planning, the manage-
ment of risk, and the role of the individual’s belief in the efficiency of financial markets.
CHANGES FROM THE PREVIOUS EDITION

Since the previous edition was a major restructuring, this edition primarily refines the
changes and updates much of the material. Sections of several chapters such as the valu-
ation of stock using discounted cash flow and the final chapter on financial planning
were rewritten. Selected new problems have been added and the wording of some exist-
ing problems has been improved. Since my students were honest and admitted that they
did not read the “Point of Interest” features, most of them have either been omitted or
integrated into the text. The same applies to the footnotes. Except for the footnotes that
provide citations, virtually all footnotes have been incorporated into the text material.
Reviewers virtually always want more problems and self-help projects. This edition
has two new features designed to meet both requests. The first feature is “Relation-
ships,” which asks the student to determine the relationship between two things. For
example, an increase in interest rates _________ the price of a bond and _________ the
face value (principal) of the bond. The answers are “decreases” and “does not affect”
(i.e., no change). Realizing that no relationship may exist is important, so there are
examples in which there is no effect.
The second new feature is “Fundamental Worked Problems.” These are illustrations
of basic problems covered in the chapter. For example, if a $1,000 bond has a 7 percent
coupon and matures after ten years, what is the current price of the bond if the interest
rate on comparable bonds is 5 percent? Answers are provided for both Relationships
and Fundamental Worked Problems. In addition, the steps necessary to solve the prob-
lems are provided. For the above bond problem, the solution is shown using interest
tables and financial calculators.
PEDAGOGICAL FEATURES
In addition to the “relationships” and “fundamental worked problems,” this textbook
has a variety of features designed to assist the individual in the learning process. Chapters
begin with a set of learning objectives that emphasize topics to be covered as the chapter
Preface | xvii
develops. Terms to remember are defined in the marginal glossary entry that appears as
each term is introduced. Chapters also include questions and, where appropriate, prob-
lems. The questions and problems are straightforward and designed to review and apply
the material in the chapter. Answers to selected problems are provided in Appendix B.
Most of the chapters have short cases. These are not cases in the general usage of
the term, in which a situation is presented and the student is required to determine
the appropriate questions and formulate an answer or strategy. Instead, the cases are
essentially problems that are cast in real-world situations. Their primary purpose is to
illustrate how the material may apply in the context of real investment decisions.
Many instructors have students construct a paper portfolio. A project, referred to
as “Investment Assignment,” is included. It is essentially a buy-and-hold strategy, and
as the semester proceeds more parts are added to the assignment.
POSSIBLE ORGANIZATIONS OF INVESTMENT COURSES

This textbook has 20 chapters, but few instructors are able to complete the entire book
in a semester course. Many of the chapters are self-contained units, so individual chapters
may be omitted (or transposed) without loss of continuity. There are, however, excep-
tions. For example, the pricing of bonds uses the material on the time value of money. The
valuation of common stock employs statistical concepts covered in the chapter on risk.
Individual course coverage also depends on the background of the students or how
much they have retained from prior courses. Time value of money (Chapter 3), mea-
surement of risk (Chapter 5), and the analysis of financial statements in Chapter 8
may have been covered in other finance or accounting courses. These chapters may be
quickly reviewed or omitted. Other chapters are not easily omitted. Securities markets
(Chapter 2), the analysis, valuation, and selection of common stock (Part 3), and fixed-
income securities (Chapters 13 and 14) are the backbone of investments and need to be
covered. Since investment companies (Part 2) have become such a large part of savings
programs such as retirement plans, they should also be included in an introduction to
investments.
The remaining chapters offer individual instructors considerable choice. My prefer-
ence is to include an introduction to options (Chapter 17), which many students find
both difficult and exciting. I also have a personal bias toward the material on financial
planning and taxation, since I believe they play an important role in portfolio construc-
tion and asset selection.
Supplementary Materials
A number of supplements are included in the Investments package and are available to
instructors and students using the textbook.
Instructor’s Manual and Test Bank (found on the IRCD-ROM

and on the Instructor’s companion website)
The Instructor’s Manual includes points to consider when answering the questions as
well as complete solutions to the problems. In addition, suggestions are given for using
the Investment Assignment feature in the classroom; teaching notes are provided for the
xviii | Preface
cases; and instructions are provided for the Investment Analysis Calculator, which can
be found on the book’s website. The Test Bank section of the manual includes approxi-
mately 1,000 true/false and multiple-choice questions. It is available on the text website
in Word format for simple word-processing purposes. The Test Bank can also be found
in ExamView. This edition’s Test Bank answers include tagging with AACSB Standards.
ExamView
This computerized testing software contains all of the questions in the printed Test
Bank. ExamView is easy-to-use test creation software that is compatible with both
Microsoft Windows and Macintosh. Instructors can add or edit questions, instructions,
and answers and select questions by previewing them on the screen, selecting them ran-
domly, or selecting them by number.
PowerPoint™ Slides
These are available on the website and on the Instructor’s Resource CD-ROM for use
by instructors for enhancing their lectures. These slides bring out the most important
points in the chapter. They also include important charts and graphs from the text,
which will aid students in the comprehension of significant concepts. This edition’s
slide package has been revised by Anne Piotrowski.
Instructor’s Resource CD-ROM

Get quick access to all instructor ancillaries from your desktop. This easy-to-use CD-ROM
lets you review, edit, and copy exactly what you need in the format you want. The Instruc-
tor’s Resource CD-ROM contains electronic versions of the Instructor’s Manual, the Test
Bank, the resource PowerPoint presentation, and the ExamView files.
Website
The support website for Investments: An Introduction, Eleventh Edition (www.cengage
.com) includes the following features:
• About the Product
• Instructor’s Manual
• Test Bank
• Powerpoint Slides
ACKNOWLEDGMENTS
A textbook requires the input and assistance of many individuals. Over the years, my
publisher has provided a variety of reviews from individuals who sincerely offered sug-
gestions. Unfortunately, suggestions from different reviewers are sometimes contradic-
tory. Since I cannot please all the reviewers at the same time, I trust that individuals
whose advice was not or could not be taken will not be offended.
Preface | xix
Anne Piotrowski created the PowerPoint slides. Her willingness to work through
various styles and possible presentations greatly enhanced the final product. Suzanne
Davidson and Margaret Trejo served as copy editor and proofreader. Anne, Suzanne,
and Margaret deserve a special “thank you” for their efforts.
At this point, it is traditional for the author to thank members of the editorial and
production staff for their help in bringing the book to fruition. I wish to thank Mike
Reynolds, my editor; Adele Scholtz, the developmental editor, and Joseph Malcolm,
Senior Project Manager.
These individuals deserve warm thanks for their efforts toward facilitating the
completion of this text.
The Investment
Process and
Financial
Concepts
Part 1
I
nvesting is a process by which individuals construct markets. Tax rates differ on long-term and short-term
a portfolio of assets designed to meet specified capital gains; some investments defer tax obligations
financial goals. These goals range from financing and others avoid taxation. These differences in taxation
retirement or paying for a child’s education to starting a affect the amount of your return that you get to keep. In
business and having funds to meet financial emergen- addition, some facet of the tax law changes each year,
cies. The specification of financial goals is important, for complicating investment decision making and affect-
they help determine the appropriateness of the assets ing investment strategy.
acquired for the portfolio. Since the future is not known, all investments
Part 1 of this text covers the mechanics of buying involve risk. Chapter 5 is devoted to sources of risk, how
and selling financial assets, the legal and tax environ- risk may be measured, and how it may be managed.
ment in which investment decisions are made, and The allocation of your assets and the construction of
crucial financial concepts that apply to asset allocation a diversified portfolio may be the most important
and portfolio management. Chapter 1 introduces im- financial concept you must face. Failure to diversify sub-
portant definitions and concepts that appear through- jects the investor to additional risk without generating
out the text. Chapter 2 is devoted to the mechanics of additional return. Your objective should be to construct
investing. These include the process by which securi- a portfolio that maximizes your return for a given level
ties are issued and subsequently bought and sold. Next of risk. Of course, this requires that you determine how
follows one of the most important concepts in finance, much risk you are willing to bear. Individuals with dif-
the time value of money (Chapter 3). All investments ferent financial resources and disparate financial goals
are made in the present but returns occur in the future. may be willing to accept different levels of risk, but in
Linking the future and the present is the essence of the each case the goal is to maximize the return for the
time value of money. amount of risk the investor bears.
Chapter 4 combines several disparate topics. It One final caveat before you start Part 1. Chapter 4
begins with financial planning and the importance introduces the concept that investments are made in
of asset allocation. However, you execute your finan- exceedingly competitive markets. Rapid dissemination
cial plan in a world of taxation and efficient financial of information and stiff competition among investors
1
2 PA R T O N E The Investment Process and Financial Concepts
produce efficient markets. Efficient markets imply that exceptionally poorly. The emphasis in this text will be
you cannot expect to earn abnormally high returns not how to outperform but how to use financial assets
over an extended period of time. Although you may to meet financial goals. That is, you should emphasize
outperform the market, such performance on a con- constructing a diversified portfolio that meets your
sistent basis is rare. Perhaps you will do exception- financial objectives and earns a return that compen-
ally well, but then there is also the chance of doing sates you for the risk you take.
An Introduction
to Investments
CHAPTER 1
LEARNING OBJECTIVES
After completing this chapter you should be able to:
1. Explain why individuals should specify investment 3. Identify the sources of risk and the sources of
goals. return.
2. Distinguish between primary and secondary 4. Differentiate between efficient and inefficient
markets, risk and speculation, liquidity and markets.
marketability.
I
n 1986, Microsoft first sold its stock to the general public. Within ten years, the
stock’s value had increased by over 5,000 percent. A $10,000 investment was
worth over $500,000. In the same year, Worlds of Wonder also sold its stock to
the public. Ten years later, the company was defunct. A $10,000 investment was worth
nothing. These are two examples of emerging firms that could do well or could fail.
Would investing in large, well-established companies generate more consistent returns?
The answer depends, of course, on which stocks were purchased and when. In 1972,
Xerox stock reached a high of $171.87 a share. The price subsequently declined and
did not exceed the old high for the next 26 years. Now it languishes way below that
historic high.
Today the investment environment is even more dynamic. World events can rap-
idly alter the values of specific assets. There are so many assets from which to choose.
The amount of information available to investors is staggering and grows continually.
The accessibility of personal computers and the dissemination of information on the
Internet increase an individual’s ability to track investments and to perform invest-
ment analysis. Furthermore, the recessions of 1990–1991 and 2008–2009, the large
decline in stock prices during 2007–2009, the historic decline in interest rates during
2001–2003 and 2008–2009, and the frequent changes in the tax laws have increased
3
investor awareness of the importance of financial planning, asset selection and alloca-
tion, and portfolio construction.
This text will describe and explain many investment alternatives and strategies. But
a textbook cannot make investment decisions for you; it can only provide information
about your choices. This text explains techniques for analyzing and valuing financial
assets, their sources of risk, and how these risks may be managed, if not eliminated. It
is your obligation to learn the material, determine which parts are most relevant, and
then apply them to your financial situation.
Portfolio Construction and Planning

Investment decisions are about making choices: Will income be spent or saved? If you
choose to save, you face a second decision: What should be done with the savings? Each
saver must decide where to invest this command over resources (goods and services)
that is currently not being used. This is an important decision because these assets are
the means by which investors transfer today’s purchasing power to the future. In effect,
portfolio you must decide on a portfolio of assets to own. (Terms will be in boldface and defined
An accumulation in the margin.) A portfolio is a combination of assets designed to serve as a store of
of assets owned by value. Poor management of these assets may destroy the portfolio’s value, and you will
the investor and then not achieve your financial goals.
designed to transfer
purchasing power to
There are many assets (e.g., stocks, bonds, derivatives) that you may include in the
the future. portfolio. This textbook will discuss many of them, but the stress will be on long-term
financial assets. While you may hold a portion of the portfolio in short-term assets,
such as savings accounts, these assets do not present the problem of valuation and
choice that accompanies the decision to purchase a stock or a bond. Understanding
how long-term securities are bought and sold, how they are valued, and how they may
be used in portfolio construction is the primary focus of this text.
Several factors affect the construction of a portfolio. These include the goals of the
investor, the risks involved, the taxes that will be imposed on any gain, and a knowledge
of investment alternatives. This text describes these alternative investments, their use in
a portfolio, the risks associated with owning them, and their valuation.
The investor’s goals should largely determine the construction and management of
the portfolio. Investing must have a purpose, for without a goal a portfolio is like a boat
without a rudder. Some objective must guide the composition of the portfolio.
There are many reasons for saving and accumulating assets. Individuals may post-
pone current consumption to accumulate funds to make the down payment on a house,
finance a child’s education, start a business, meet financial emergencies, finance retire-
ment, leave a sizable estate, or even accumulate for the sake of accumulating. For any
or all of these reasons, people construct portfolios rather than spend all their current
income.
The motives for saving should dictate, or at least affect, the composition of the
portfolio. Not all assets are appropriate to meet specific financial goals. For example,
savings that are held to meet emergencies, such as an extended illness or unemploy-
ment, should not be invested in assets whose return and safety of principal are uncer-
tain. Instead, emphasis should be placed on safety of principal and assets that may be
C H A P T E R one An Introduction to Investments 5
readily converted into cash, such as savings accounts or shares in money market mutual
funds. The emphasis should not be on growth and high returns. However, the funds
should not sit idle but should be invested in safe assets that offer a modest return.
Other goals, such as financing retirement or a child’s education, have a longer and
more certain time horizon. The investor knows approximately when the funds will be
needed and so can construct a portfolio with a long-term horizon. Bonds that mature
when the funds will be needed or common stocks that offer the potential for growth
would be more appropriate than savings accounts or certificates of deposit with a bank.
The longer time period suggests the individual can acquire long-term assets that may
offer a higher yield.
Most investors have several financial goals that must be met simultaneously. Thus,
it is not surprising to learn that their portfolios contain a variety of assets. Of course,
priorities and needs differ. The individual who is employed in a cyclical industry and
may be laid off during a recession may place more stress on funds to cover unemploy-
ment than would the tenured professor. An individual with a poor medical history may
seek to have more short-term investments than the person with good health. Medical
coverage or disability insurance will also affect the individual’s need for funds to cover
a short-term emergency. If the investor has this coverage, more of the portfolio may be
directed toward other financial goals.
In addition to the individual’s goals, willingness to bear risk plays an important
role in constructing the portfolio. Some individuals are more able to bear (that is, as-
sume) risk. For example, if the saver wants to build a retirement fund, he or she can
choose from a variety of possible investments. However, not all investments are equal
with regard to risk and potential return. Those investors who are more willing to ac-
cept risk may construct portfolios with assets involving greater risk that may earn
higher returns.
Taxes also affect the composition of an individual’s portfolio. Income such as in-
terest and realized capital gains are taxed. When a person dies, the federal government
taxes the value of the estate, and many states levy a tax on an individual’s inheritance.
Such taxes and the desire to reduce them affect the composition of each investor’s
portfolio.
Portfolio decisions are obviously important. They set a general framework for the
asset allocation of the portfolio among various types of investments. Individuals, how-
ever, rarely construct a portfolio all at once but acquire assets one at a time. The de-
cision revolves around which specific asset to purchase: Which mutual fund? Which
bond? or Which stock? Security analysis considers the merits of the individual asset.
Portfolio management determines the impact that the specific asset has on the portfolio.
A large portion of this text is devoted to descriptions and analysis of individual
securities, because it is impossible to know an asset’s effect on the portfolio without
first knowing its characteristics. Stocks and bonds differ with regard to risk, potential
return, and valuation. Even within a type of asset such as bonds there can be consid-
erable variation. For example, a corporate bond is different from a municipal bond,
and a convertible bond differs from a straight bond that lacks the conversion feature.
You need to know and to understand these differences as well as the relative merits
and risks associated with each of the assets. After understanding how individual assets
are valued, you may then construct a portfolio that will aid in the realization of your
financial goals.
Preliminary Definitions
I went to the doctor and he said, “You have a contusion.” I asked, “What is a contu-
sion?” and he said, “A bruise.” I thought: “A bruise by another name is still a bruise”
and immediately wanted to ask (but did not), “Why not call it a bruise?”
Every discipline or profession has its own terminology. The field of investments
is no different. Some of the jargon is colorful (e.g., bull and bear); some is descriptive
(e.g., primary and secondary markets); and some, like contusion, seems to confuse or
muddy the waters (e.g., purchasing power risk, which is the risk associated with loss
from inflation). In order to proceed, it is desirable to know some initial definitions
concerning investments, and the best time to learn them and to start using them is now.
investment The term investment can have more than one meaning. In economics, it refers to
(in economics) the purchase of a physical asset, such as a firm’s acquisition of a plant, equipment, or
The purchase of inventory or an individual’s purchase of a new home. To the layperson the word de-
plant, equipment, or notes buying stocks or bonds (or maybe even a house), but it probably does not mean
inventory.
purchasing a plant, equipment, or inventory.
investment In either case, the firm or the individual wants a productive asset. The difference
(in lay terms)
in definition rests upon the aggregate change in productive assets that results from the
Acquisition of an
investment. When firms invest in plant and equipment, there is a net increase in produc-
asset such as a stock
or a bond. tive assets. This increase generally does not occur when individuals purchase stocks and
bonds. Instead, for every investment by the buyer there is an equal disinvestment by the
seller. These buyers and sellers are trading one asset for another: The seller trades the
security for cash, and the buyer trades cash for the security. These transactions occur
in secondhand markets, and for that reason securities markets are often referred to as
secondary market secondary markets. Only when the securities are initially issued and sold in the primary
A market for buying market is there an investment in an economic sense. Then and only then does the firm
and selling previously receive the money that it, in turn, may use to purchase a plant, equipment, or inventory.
issued securities. In this text, the word investment is used in the layperson’s sense. Purchase of an
primary market asset for the purpose of storing value (and, it is hoped, increasing that value over time)
The initial sale of will be called an investment, even if in the aggregate there is only a transfer of owner-
securities. ship from a seller to a buyer. The purchases of stocks, bonds, options, commodity con-
tracts, and even antiques, stamps, and real estate are all considered to be investments if
the individual’s intent is to transfer purchasing power to the future. If these assets are
acting as stores of value, they are investments for that individual.
value Assets have value because of the future benefits they offer. The process of determin-
What something ing what an asset is worth today is called valuation. An investor appraises the asset and
is worth; the pres- assigns a current value to it based on the belief that the asset will generate cash flows
ent value of future (e.g., interest) or will appreciate in price. After computing this value, the individual
benefits.
compares it with the current market price to determine if the asset is currently over-
valuation priced or underpriced.
The process of deter- In some cases this valuation is relatively easy. For example, the bonds of the federal
mining the current
government pay a fixed amount of interest each year and mature at a specified date.
worth of an asset.
Thus, the future cash flows are known. However, the future cash flows of other assets
are not so readily identified. For example, although you may anticipate future divi-
dends, neither their payment nor their amount can be known with certainty. Forecast-
ing future benefits is difficult but crucial to the process of valuation. Without forecasts
C H A P T E R one An Introduction to Investments 7
and an evaluation of the asset, you cannot know if the asset should be purchased or
sold.
Because the valuation of some assets is complicated and the future is uncertain,
people may have different estimates of the future cash flows. It is therefore easy to
understand why two individuals may have completely divergent views on the worth of
a particular asset. One person may believe that an asset is overvalued and hence seek
to sell it, while another may seek to buy it in the belief that it is undervalued. Valua-
tion may be subjective, which leads to one person’s buying while the other is selling.
That does not mean that one person is necessarily irrational or incompetent. People’s
perceptions or estimates of an asset’s potential may change, affecting their valuation of
the specific asset.
return An investment is made because the investor anticipates a return. The total return
The sum of income on an investment is what the investor earns. This may be in the form of income, such as
plus capital gains dividends and interest, or in the form of capital gains, or appreciation if the asset’s price
earned on an invest- rises. Not all assets offer both income and capital appreciation. Some stocks pay no cur-
ment in an asset.
rent dividends but may appreciate in value. Other assets, including savings accounts, do
income not appreciate in value. The return is solely the interest income.
The flow of money Return is frequently expressed in percentages, such as the rate of return, which is
or its equivalent
the annualized return that is earned by the investment relative to its cost. Before pur-
produced by an
asset; dividends and chasing an asset, the investor anticipates that the return will be greater than that of
interest. other assets of similar risk. Without this anticipation, the purchase would not be made.
capital gain
The realized return may, of course, be quite different from the anticipated rate of return.
An increase in the
That is the element of risk.
value of a capital Risk is the uncertainty that the anticipated return will be achieved. As Chapter 5
asset, such as a stock. discusses, there are many sources of risk. The investor must be willing to bear these
rate of return risks to achieve the expected return. Even relatively safe investments involve some risk;
The annual percent- there is no completely safe investment. For example, savings accounts that are insured
age return realized on still involve some element of risk of loss. If the rate of inflation exceeds the rate of in-
an investment. terest that is earned on these insured accounts, the investor suffers a loss of purchasing
risk power.
The possibility of loss; While the term risk has a negative connotation, uncertainty works both ways. For
the uncertainty of example, events may occur that cause the value of an asset to rise more than anticipated.
future returns. Certainly the stockholders of Rubbermaid reaped larger-than-anticipated returns when
it was announced the firm would merge with Newell. The price paid for the stock was
considerably higher than the price the security commanded before the announcement
of the merger.
speculation A term that is frequently used in conjunction with risk is speculation. Many years
An investment that ago virtually all investments were called “speculations.” Today the word implies a high
offers a potentially degree of risk. However, risk is not synonymous with speculation. Speculation has the
large return but is connotation of gambling, in which the odds are against the player. Many securities are
also very risky; a rea-
sonable probability
risky, but over a period of years the investor should earn a positive return. The odds are
that the investment not really against the investor, and such investments are not speculations.
will produce a loss. The term speculation is rarely used in this text, and when it is employed, the implica-
tion is that the individual runs a good chance of losing the funds invested in the specula-
tive asset. Although a particular speculation may pay off handsomely, the investor should
not expect that many such gambles will reap large returns. After the investor adjusts for
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PSALTER IN GREEK. Byzantine, 11th Century
Solomon, David, Gideon, and the Annunciation
(Brit. Mus. Add. MS. 19352. 9¼ × 8 inches)
There are comparatively few of these extravagant relics now in existence.

Their intrinsic value made them favorite objects of pillage, and hundreds were
destroyed for their jewels and precious metals. In many of those that have
endured, like the Codex Argenteus, at Upsala, in Sweden, the silver letters have
turned black, the gold ink has become a rusty red, and the stained vellum now
supplies a tawdry background.
After passing the early stages of the art, there are ten examples I
particularly like to keep fresh in my mind as showing the evolution of that
insatiable desire on the part of booklovers of all ages to enrich the book. Four
of these are in the British Museum in London, four in the Bibliothèque
Nationale in Paris, one in the Library of San Marco in Venice, and one in the
Laurenziana Library in Florence. In each of these storehouses of treasure there
are many other manuscripts worthy of all the time a pilgrim can spare; but
these ten represent different schools and different epochs, and in my own
study have combined to make illumination a living art and a romantic history.
The Lindisfarne Gospels is where I start my illuminated pilgrimage. It takes
me back to the seventh century, when the world was shrouded in darkest
ignorance, and is a reminder that except for the development in the Irish
monasteries, as typified by early illuminated volumes such as this, knowledge
of books might have almost wholly disappeared. It recalls the asceticism of
those early Irish monks carried even to a point of fanaticism; their toilsome
pilgrimages to Rome, visiting the different monasteries and collecting, one by
one, the manuscripts to bring back to form those early libraries that kept alive
the light of learning.
The Irish school of writing and painting passed over to England through
the monasteries established by the Irish monks in Scotland, and the earliest of
the English settlements was Lindisfarne. It was here that the Gospels, one of
the most characteristic examples of the Celtic School, as translated to northern
England, was produced. Such knowledge of its date and origin as exists rests
upon a colophon added at the end of the manuscript, probably in the tenth
century, which would seem to place the date of the execution of the work at
about the year 700. For nearly two centuries it remained as the chief treasure
of Lindisfarne. In 875, so the tradition runs, in order to escape from the
invasion of the Danes, it was decided to remove the body of Saint Cuthbert
and the most valued relics to the mainland, and the Gospels was included.
When the attempt was made to cross over to Ireland, according to the legend,
the ship was driven back by storm, and the chest containing the precious
volume was lost overboard. Here is the quaint chronicle:
In this storm, while the ship was lying over on her side, a copy of the Gospels,
adorned with gold and precious stones, fell overboard and sank into the depths of the
sea. Accordingly, after a little while, they bend their knees and prostrate themselves at
full length before the feet of the sacred body, asking pardon for their foolish venture.
Then they seize the helm and turn the ship back to the shore and to their fellows, and
immediately they arrive there without any difficulty, the wind blowing astern.…
Amidst their lamentations in this distress, at length the accustomed help of their pious
patron came to their aid, whereby their minds were relieved from grief and their bodies
from labor, seeing that the Lord is a refuge of the poor, a helper in time of trouble. For,
appearing in a vision to one of them, Hunred by name, he bade them seek, when the
tide was low, for the manuscript…; for, perchance, beyond the utmost they could hope,
they would, by the mercy of God, find it.… Accordingly they go to the sea and find
that it had retired much farther than it was accustomed; and after walking three miles
or more they find the sacred manuscript of the Gospels itself, exhibiting all its outer
splendor of jewels and gold and all the beauty of its pages and writing within, as
though it had never been touched by water.… And this is believed to be due to the
merits of Saint Cuthbert himself and of those who made the book, namely Bishop
Eadfrith of holy memory, who wrote it with his own hand in honor of the blessed
Cuthbert; and the venerable Æthelwald, his successor, who caused it to be adorned
with gold and precious stones; and Saint Billfrith the anchorite, who, obeying with
skilled hands the wishes of his superior, achieved an excellent work. For he excelled in
the goldsmith’s art.
This quotation from Mr. Eric George Millar’s Introduction to the facsimile
reproduction of this famous manuscript, published by the British Museum, is
given at such length to emphasize at the very beginning of this pilgrimage the
important place given to these manuscripts in the communities for which they
were prepared. The fact that such a legend exists at all attests the personality
the manuscript had assumed. It was my very great pleasure, the last time I
studied the Gospels, to have Mr. Millar, who is an Assistant in the Department
of Manuscripts at the British Museum, explain many things in connection with
it which could not be gleaned without the exhaustive study which he has given
to it.
The Gospels includes 258 leaves of heavy vellum, measuring about 13 by 10
inches. The Latin text is written in beautifully designed, semi-uncial characters.
These differ from the capital letters only by their relatively greater roundness,
inclination, and inequality in height. This style of lettering obtained until the
eighth or ninth century, when the semi-uncial character became the transition
to the minuscule. There are five full pages of decoration, in cruciform design
of most extraordinary elaboration; six pages of ornamented text; four full-page
miniatures of the Evangelists, in which the scribes are drawn in profile, seated,
with cushion, desk, and footstool; sixteen pages of Canon tables, decorated in
pure Celtic style; and numerous initials of various sizes.
The great interest in this manuscript lies in the cruciform pages. When I
first saw them I thought the work a marvelous example of the amount of
intricate design an artist could devise within a given area of space. Then, as I
studied them, came the realization that, complicated as they were, there was a
definite plan the artist had established and followed which preserved the
balance of coloring and design.
In the illustration here given (page 124), Mr. Millar showed me how he has
ingeniously unraveled the knots. It is peculiarly interesting as it demonstrates
the methods by which the expert is able to understand much that the casual
observer fails to see. He pointed out that the background of the page is
occupied by a design of no less than 88 birds, arranged in a perfect pattern,
with 7 at the top, 7 at the bottom, 9 on each side, 12 in the gaps between the
outer panels, four groups of 10 surrounding the rectangular panels, and 4
single birds in the gaps between the points of the cross and the T panels. The
necks and the bodies are so cleverly balanced that even when at first the
scheme seems inconsistent, further examination shows that the artist adhered
religiously to his plan. The color arrangement is carried out with equal thought
and care.
THE LINDISFARNE GOSPELS. Celtic, about A.D. 700
(Brit. Mus. Cotton MS. Nero. D. iv. 12½ × 10 inches)
The four miniatures of the Evangelists show Byzantine influence, but in

the features, and the hair, and in the frames, the Celtic style prevails. Gold is
used only on two pages.
The Lindisfarne Gospels cannot be called beautiful when compared with the
work of later centuries, but can we fully appreciate the beauty we are
approaching without becoming familiar, step by step, with what led up to it? In
this manuscript the precious Gospels were enriched by the labor of devoted
enthusiasts in the manner they knew best, and with an ingenuity and industry
that staggers us today. Taking what the past had taught them, they gave to it
their own interpretation, and thus advanced the art toward its final
consummation and glory.
Taken merely as an example of illumination, few would share my interest
in the Alcuin Bible, a Carolingian manuscript of the ninth century; but to any
one interested in printing, this huge volume at the British Museum cannot be
overlooked. In the eighth century the Irish and Anglo-Saxon missionary artists
transplanted their work to their settlements on the Continent, out of which
sprang the Carolingian School in France,—so named in honor of
Charlemagne. Sacred compositions, derived largely from Latin and Byzantine
sources, were now added to the highly ornamental letters. Solid backgrounds
were abandoned, and handsome architectural designs were used to frame the
miniatures.
If you will examine the Alcuin Bible with me, you will note what a
tremendous advance has been made. The manuscript is a copy of the Vulgate
said to be revised and amended by Alcuin of York to present to Charlemagne
on the occasion of that monarch’s coronation. Some dispute this tradition
altogether; some claim that a similar Bible, now in Rome, is entitled to the
honor; but the controversy does not detract from the interest in the book
itself. This Alcuin of York was the instrument of Charlemagne in establishing
the reform in hand lettering, which has been of the utmost importance in the
history of printing. Starting with the foundation of the School of Tours in 796,
the minuscule, or lower-case letter, which is the basis of our modern styles,
superseded all other forms of hand lettering. By the twelfth century the clear,
free-flowing form that developed from the Caroline minuscule was the most
beautiful hand ever developed, and was never surpassed until the humanistic
scribes of the fifteenth century took it in its Italian form as their model and
perfected it.
The volume is a large quarto, 20 by 14¼ inches in size, splendidly written
in double column in minuscule characters with uncial initials (opp. page). There
are four full-page illuminations, and many smaller miniatures, with
characteristic architectural detail that show Roman influence, while the
decorations themselves are reminiscent of the Byzantine and the Celtic
Schools.
ALCUIN BIBLE. Carolingian, 9th Century
Showing the Caroline Minuscule
(Brit. Mus. Add. MS. 10546. 20 × 14¼ inches)
It is the hand lettering rather than the illumination or the decoration that
particularly interests me. When I first began my work in designing my
Humanistic type, I was amazed that the humanistic scribes of the fifteenth
century, upon whose letters I based my own, could have so suddenly taken
such a stride forward. The mere fact that there was a greater demand for their
work did not seem to explain the phenomenon. Then I discovered that these
fifteenth-century artists, instead of adapting or copying the Caroline
minuscule, set about to perfect it. They mastered the principles upon which it
was based, and with the technical advantages that had come to them through
the intervening centuries, brought the design to its fullest beauty.
To supplement my study of the Alcuin Bible, I turn to the masterpiece of
the Carolingian School in the Bibliothèque Nationale in Paris. The Golden
Gospels of Saint Médard belongs to the same period as the Alcuin Bible, and its
hand letters are of the same beautiful design, but more brilliant in that they are
written throughout in gold. In spite of the crude and unnatural figures, I am
always impressed with a feeling that the artist is, for the first time, making a
definite effort to break away from past tradition toward more natural design.
The Byzantine atmosphere still clings to the work as a whole (opp. page), but in
the frames and the backgrounds there is an echo of the ivory carving and the
architecture of the new Church of San Vitale at Ravenna, and the powerful
influence of the early Christian symbolism asserts itself in the miniatures.
GOLDEN GOSPELS OF ST. MÉDARD.
Carolingian, 9th Century
(Bibl. Nat. MS. Lat. 8850. 12 × 7½ inches)
The hand-lettered pages are enclosed in plain borders of green or red tint,
with outside rules of gold. Each picture page covers the entire leaf. Every now
and then, superimposed upon the solid background of the margins, are tiny
figures so far superior in freedom of design to the major subjects as to make
one wonder why the more pretentious efforts are not farther advanced than
they are. Yet why should we be surprised that an artist, under the influence of
centuries of precedent and the ever-present aversion to change, should move
slowly in expressing originality? As it is, the pages of Saint Médard give us for
the first time motivation for the glorious development of the art to come in
the fourteenth and fifteenth centuries.
The rise of Gothic influence forms the great dividing line between the old,
or ecclesiastic, and the new, or naturalistic, spirit in monastic art. The Psalter of
Saint Louis, a Gothic manuscript of the thirteenth century, in the Bibliothèque
Nationale in Paris, is an example of this transition that I like to study.
By the beginning of the thirteenth century the initial—which in the Celtic
style had dominated the entire page—was losing its supremacy, becoming
simply one factor in the general scheme. A delicate fringe work or filigree of
pen flourishes, which had sprung up around the initial as it became reduced in
size, was later to be converted into a tendril or cylindrical stem, bearing a
succession of five leaves and leaflets of ivy, usually entirely filled with
burnished gold. Small figures, and, later, groups of figures, take the place of
the linear ornament in the interior of the letter, and calligraphy and miniature
painting become successfully fused. An exact date cannot be assigned, as it
was the result of a slow and gradual growth.
From certain references made in the Calendar pages of the Psalter, it is
evident that the manuscript was copied and illuminated between the year 1252,
when Queen Blanche of Castile died, and the death of Saint Louis in 1270.
What a story this book could tell! Written in French in red ink on one of the
front end leaves is this inscription:
This Psalter of Saint Louis was given by Queen Jeanne d’Evreux to King Charles,
son of King John, in the year of our Master, 1369; and the present King Charles, son
of the said King Charles, gave it to Madame Marie of France, his daughter, a nun at
Poissy, on Saint Michel’s Day, in the year 1400
The Psalter contains 260 leaves of parchment, 8½ by 6 inches. Of these,
seventy-eight are small, beautiful miniatures, depicting the principal scenes in
the early books of the Old Testament, and eight are illustrations to the Psalms
(page 132), the remaining leaves being occupied by the text. In these miniatures
is shown a refinement and delicacy of treatment combined with unusual
freedom in execution. Here is one of the best examples of the reflection of the
stained-glass windows of the Gothic cathedrals (opp. page), to which reference
has already been made. There is no shading whatever. The body color is laid
on the design in flat tints, finished by strokes of the pen.
PSALTER OF SAINT LOUIS. Gothic, 13th Century

Abraham and Isaac
(Bibl. Nat. MS. Lat. 10525. 8½ × 6 inches)
PSALTER OF SAINT LOUIS. Gothic, 13th Century
Psalms lxviii. 1–3
(Bibl. Nat. MS. Lat. 10525. 8½ × 6 inches)
All this is interesting because this period marks the end of the needless
limitations illuminators placed upon themselves. Working on vellum as a
medium instead of in glass with lead outlines, should be a much simpler
operation! Still, one can’t help reveling in the bright scarlet and the rich blue of
the stained glass, and would be loath to give it up.
The volume is bound in old boards, covered with blue and rose material
embossed with silver and reinforced with velvet. The clasps are gone.
The style of illumination in the thirteenth century shows no distinct
national characteristics, for, even in England, some of the work was executed
by French artists. The initial is usually set within a frame shaped to its outline,
the ground being either of gold, slightly raised or burnished, or of color,
especially dark blue and pale tints of salmon, gray, or violet, sometimes edged
with gold.
Queen Mary’s Psalter, a superb example of the English School in the early
fourteenth century, is a landmark in our pilgrimage because, in addition to its
surpassing beauty, it is an example of illumination sought for its own artistic
value instead of being associated wholly with devotional manuscripts. No one
can examine the charming series of little tinted drawings in the margins of the
Litany without being convinced that the artist, whoever he may have been, was
quite familiar with the world outside the Church (see frontispiece).
The earliest note of ownership in this manuscript is of the sixteenth
century:
This boke was sume tyme the Erle of Rutelands, and it was his wil that it shulde
by successioun all way go to the lande of Ruteland or to him that linyally suceedes by
reson of inheritaunce in the saide lande.
How fascinating these records are, made by different hands as the precious
manuscripts are passed on down the ages! Even though we have no absolute
knowledge of which Rutland is meant, an added personality is given to the
pages we are now permitted to turn and to admire. In this manuscript there is
also a second note, written in Latin on the fly leaf at the end, paying a tribute
to a certain Baldwin Smith, “an honest customs officer,” who frustrated an
attempt to ship the volume out of England, and presented it to Queen Mary. It
is now in the British Museum.
Whether or not this was Queen Mary’s first acquaintance with the
manuscript is not known, but from the binding she put on it she surely
considered it a highly prized personal possession. It would naturally be of
special interest to her because of its connection with the old liturgy she was so
anxious to restore. The silver-gilt clasp fittings are missing now. The crimson
velvet with the pomegranate, the Queen’s badge, worked in colored silks and
gold thread on each cover, are worn and shabby; but on the corner plates the
engraved lion, dragon, portcullis, and fleur-de-lys of the Tudors are still
triumphant.
The manuscript, executed upon thin vellum, and consisting of 320 leaves
about 11 by 7 inches, opens with a series of 228 pen and ink drawings. In most
cases there are two designs on each page, illustrating Bible history from the
Creation down to the death of Solomon (page 134). With the drawings is a
running description in French, sometimes in prose, sometimes in rhyme,
which in itself is interesting, as the story does not always confine itself strictly
to the Biblical records but occasionally embodies apocryphal details.
The drawings themselves are exquisite, and in the skill of execution mark
another tremendous advance in the art of illumination. They are delicately
tinted with violet, green, red, and brown. The frame is a plain band of
vermilion, from each corner of which is extended a stem with three leaves
tinted with green or violet.
Following the series of drawings comes a full page showing the Tree of
Jesse, and three other full pages depicting the Saints,—one page of four
compartments and two of six. The text, from this point, represents the usual
form of the liturgical Psalter, the Psalms being preceded by a Calendar, two
pages to a month, and followed by the Canticles, including the Athanasian
Creed, and then by the Litany. In the Psalter, the miniatures show incidents
from the life of Christ; the Canticles depict scenes from the Passion; while in
the Litany are miniatures of the Saints and Martyrs. The initials themselves are
elaborate, many containing small miniatures, and all lighted up with brilliant
colors and burnished gold. In the Litany, in addition to the religious subjects,
there are splendid little scenes of every-day life painted in the lower margins
which make the manuscript unique,—illustrations of the Bestiary, tilting and
hunting scenes, sports and pastimes, grotesque figures and combats, dancers
and musicians. The manuscript ends with the Miracles of the Virgin and the
Lives and Passions of the Saints.
In Queen Mary’s Psalter, and in manuscripts from this period to those of the
sixteenth century, we find ourselves reveling in sheer beauty. “Why not have
started here?” asks my reader. Perhaps we should have done so; but this is a
record not of what I ought to do, but of what I’ve done! To see one beautiful
manuscript after another, without being able to recognize what makes each
one different and significant, would take away my pleasure, for the riotous
colors and gold would merge one into another. Is it not true that there comes
greater enjoyment in better understanding? We admire what we may not
understand, but without understanding there can be no complete appreciation.
In this case, familiarity breeds content!
QUEEN MARY’S PSALTER. English, 14th Century

From the Life of Joseph
(Brit. Mus. Royal MS. 2B vii. 11 × 7 inches)
After studying the best of fourteenth-century English illumination in Queen

Mary’s Psalter, I like to turn to the Bedford Book of Hours, to make comparison
with one of the most beautiful French manuscripts of a century later. This is
also at the British Museum, so in the brief space of time required by the
attendant to change the volumes on the rack in front of me, I am face to face
with the romance and the beauty of another famous volume, which stands as a
memorial of English domination in France.
Fashions change in illuminated manuscripts, as in all else, and books of
hours were now beginning to be the vogue in place of psalters. This one was
written and decorated for John, Duke of Bedford, son of Henry IV, and was
probably a wedding gift to Anne, his wife. This marriage, it will be
remembered, was intended to strengthen the English alliance with Anne’s
brother, Philip of Burgundy. On the blank page on the back of the Duke’s
portrait is a record in Latin, made by John Somerset, the King’s physician, to
the effect that on Christmas Eve, 1430, the Duchess, with her husband’s
consent, presented the manuscript to the young King Henry VI, who was then
at Rouen, on his way to be crowned at Paris. Such notes, made in these later
illuminated volumes, are interesting as far as they go, but there is so much left
unsaid! In the present instance, how came the manuscript, a hundred years
later, in the possession of Henri II and Catherine de’ Medici, of France? After
being thus located, where was it for the next hundred years, before it was
purchased by Edward Harley, 2d Earl of Oxford, from Sir Robert Worsley’s
widow, to be presented to his daughter, the Duchess of Portland? These are
questions that naturally arise in one’s mind as he turns the gorgeous pages, for
it seems incredible that such beauty could remain hidden for such long
periods. Now, happily, through purchase in 1852, the manuscript has reached
its final resting place.
BEDFORD BOOK OF HOURS. French, 15th Century
Showing one of the superb Miniature Pages
(Brit. Mus. Add. MS. 18850. 10¼ × 7¼ inches)
Like other books of hours, the Bedford opens with the Calendar pages,
combining the signs of the Zodiac with beautifully executed scenes typical of
each month. Then follow four full-page designs showing the Creation and Fall,
the Building of the Ark, the Exit from the Ark, and the Tower of Babel. The
Sequences of the Gospels come next; then the Hours of the Virgin, with
Penitential Psalms and Litany; the Shorter Hours; the Vigils of the Dead; the
Fifteen Joys; the Hours of the Passion; the Memorials of the Saints; and
various Prayers. Throughout the 289 leaves, a little larger than 10 by 7 inches,
are thirty-eight full-page miniatures that are masterpieces,—particularly the
Annunciation, with which the Hours of the Virgin begin. Every page of text is
surrounded by a magnificent border, rich in colors and gold, with foliage and
birds, and with the daintiest little miniatures imaginable. While these borders
are based upon the ivy-leaf pattern, it resembles the style that carries the
illumination through the leaf, bud, and flower up to the fruit itself, which one
associates more with the Flemish than the French School. The work is really a
combination of the French and Flemish Schools, but is essentially French in its
conception and execution.
It was the custom, in these specially created manuscripts, to immortalize
the heads of the family by including them with other, and, perhaps in some
cases, more religious subjects. In this Book of Hours, the Duke of Bedford is
depicted, clad in a long, fur-lined gown of cloth-of-gold, kneeling before Saint
George, and the portrait is so fine that it has been frequently copied. The page
which perpetuates the Duchess is reproduced here (at page 136). Clad in a
sumptuous gown of cloth-of-gold, lined with ermine, she kneels before Saint
Anne; her elaborate head-dress supports an artificial coiffure, rich in jewels; on
her long train, her two favorite dogs are playing. The Saint is clad in a grey
gown, with blue mantle and white veil, with an open book in front of her. At
her left stands the Virgin in white, with jeweled crown, and the infant Christ,
in grey robe. His mother has thrown her arm affectionately about Him, while
He, in turn, beams on the kneeling Duchess. In His hand He carries an orb
surmounted by a cross. Saint Joseph stands at the right of the background, and
four angels may be seen with musical instruments, appearing above the arras,
on which is stamped the device and motto of the Duchess.
Surrounding the miniature, worked into the border, in addition to the
Duke’s shield and arms, are exquisite smaller pictures, in architectural
backgrounds, showing Saint Anne’s three husbands and her sons-in-law. The
pages must be seen in their full color, and in their original setting, to be
appreciated.
The manuscript is bound in red velvet, with silver-gilt clasps, bearing the
Harley and the Cavendish arms, and dates back to the time of the Earl of
Oxford.
ANTIQUITIES OF THE JEWS. French Renaissance, 15th Century
Cyrus permits the Jews to return to their own Country, and to rebuild the Temple of Jerusalem
(Bibl. Nat. MS. Français 247. 16¼ × 11½ inches)
In the Antiquities of the Jews, Jean Foucquet’s masterpiece at the Bibliothèque

Nationale in Paris, we find the French Renaissance School. This manuscript
interests me for several and different reasons. In the first place, Foucquet was
one of the founders of the French School of painting, and had his
masterpieces been painted on canvas instead of on vellum, his name would
have been much more familiar to art lovers than it is today. The high degree
attained by the art at Tours, which had become the center of the Renaissance
in France, demanded a setting for the miniatures different from the Flemish
type of decoration that had so dominated illumination in general. This it found
in the Italian style, which at that time was first attaining its glory.
The book itself was originally bound in two volumes, being a French
translation by an unknown writer of Flavius Josephus’ Antiquities and War of the
Jews, the subject being the clemency of Cyrus toward the captive Jews in
Babylon. It is in folio (a little larger than 16 by 11 inches), written in double
column, and contains superb initials, vignettes, and miniatures (page 138). The
work was begun for the Duc de Berry, but was left unfinished at his death in
1416. Later it came into the possession of the Duc de Nemours. Can one
imagine a more aristocratic treasure for a cultured gentleman to own! It was
probably begun very early in the fifteenth century, and completed between the
years 1455 and 1477. A note at the end of the first volume (which contains
311 leaves) by François Robertet, secretary of Pierre II, Duc de Bourbon,
states that nine of the miniatures are “by the hand of that good painter of
King Louis XI, Jean Foucquet, native of Tours.”
For over two hundred years this first volume, containing Books I to XIV
of the Antiquities of the Jews, has been in the Bibliothèque Nationale. It is bound
in yellow morocco, and bears the arms of Louis XV. The second volume was
considered lost. In 1903 the English collector, Mr. Henry Yates Thompson,
purchased the missing copy in London, at a sale at Sotheby’s. This contained
Books XV to XX of the Antiquities of the Jews and Books I to VII of the War of
the Jews; but it was imperfect in that a dozen pages of miniatures had been cut
out. Two years later, Sir George Warner discovered ten of these filched leaves
in an album of miniatures that at some time had been presented to Queen
Victoria, and were in her collection at Windsor Castle.
As soon as Mr. Thompson heard of this discovery, he begged King
Edward VII to accept his volume, in order that the leaves might be combined.
The English monarch received the gift with the understanding that he, in turn,
might present the restored manuscript to the President of the French
Republic. This gracious act was accomplished on March 4, 1906, and now the
two volumes rest side by side in the Bibliothèque Nationale, reunited for all
time after their long separation. If books possess personalities, surely no
international romance ever offered greater material for the novelist’s
imagination!
Now our pilgrimage takes us from Paris to Venice, to study that priceless
treasure of the Library of San Marco, the Grimani Breviary, the gem of the
Flemish School (which should properly be called “Netherlandish”). This style
overlapped, distinctly, into Germany and France, and further complicated any
certainty of identification by the fact that the number of Netherlandish

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part 1 The Investment Process and Financial Concepts 1

part 2 Investment Companies 193

part 3 Investing in Common Stock 263

part 4 Investing in Fixed-Income Securities 435

part 5 Derivatives 607

part 6 An Overview 743

part 1 The Investment Process and Financial Concepts 1

chapter 1 An Introduction to Investments 3

chapter 2 Securities Markets 17

chapter 3 The Time Value of Money 58

chapter 4 Financial Planning, Taxation, and the

chapter 5 Risk and Portfolio Management 128

part 2 Investment Companies 193

chapter 6 Investment Companies: Mutual Funds 195

chapter 7 Closed-end Investment Companies,

part 3 Investing in Common Stock 263

chapter 8 Stock 265

chapter 9 The Valuation of Common Stock 315

c h a p t e r 10 Investment Returns and Aggregate Measures

c h a p t e r 11 The Macroeconomic Environment for Investment

c h a p t e r 12 Behavioral Finance and Technical Analysis 411

part 4 Investing in Fixed-Income Securities 435

c h a p t e r 13 The Bond Market 437

c h a p t e r 14 The Valuation of Fixed-Income Securities 472

Appendix 14A: Bond Discounts/Premiums and Duration

c h a p t e r 15 Government Securities 525

c h a p t e r 16 Convertible Bonds and Convertible

part 5 Derivatives 607

c h a p t e r 17 An Introduction to Options 609

Stock Index Options 636

c h a p t e r 18 Option Valuation and Strategies 653

c h a p t e r 19 Commodity and Financial Futures 701

part 6 An Overview 743

c h a p t e r 20 Financial Planning and Investing in an Efficient

THE STRUCTURE OF INVESTMENTS: AN iNTRODUCTION

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Instructor’s Manual and Test Bank (found on the IRCD-ROM

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Portfolio Construction and Planning

There are comparatively few of these extravagant relics now in existence.

The four miniatures of the Evangelists show Byzantine influence, but in

PSALTER OF SAINT LOUIS. Gothic, 13th Century

QUEEN MARY’S PSALTER. English, 14th Century

After studying the best of fourteenth-century English illumination in Queen

In the Antiquities of the Jews, Jean Foucquet’s masterpiece at the Bibliothèque

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