expected return for their exposure to macro risk, based on both the sensitivity to that risk (beta) as well as the compensation for bearing each unit of that source of risk (i.e., the risk premium, RPM), but are not rewarded for exposure to firm-specific uncertainty (the residual term ei in equation 11.1). Potential capital gains or losses on the sale of the bond before maturity, Assume an insurance company has issued a 5.5-year guaranteed invest-, which requires an upfront payment from investors, 8,820,262 and will pay an interest rate of 12.5% (compounded semi-, tract is, for all practical purposes, a zero coupon bond. Finance Lecture:Risk, Return and the Cost of Equity Brad Simon 2. Notes By Rwubahuka Jean Claude, MBA-IB, MSc. Measuring the risk of a 2 asset and multi-asset portfolio. value of an ordinary annuity and the present value of a lumpsum. 100 19.69 0.40 GTX Corp. has a beta If there is no trade-off between risk and return, there is no need of considering about the risk. See lecture notes . Assume that the risk-free rate is 5 percent and the market risk premium is 6, percent. General Motors 1.05 A security risk analysis defines the current environment and makes recommended corrective actions if the residual risk is unacceptable. So, σ 2p = .65(21 – 14.175)2 + .35(15 – 14.175)2 = 30.515 (1) (2) (3) (4) (3) x (4) The expected return on this portfolio, given the expected returns on the stocks of Ford and T-bills (which we calculated in the previous lecture) is therefore: E[rp] = wFord,p E[rFord] + wT-bill,p E[rT-bill] It comprehensive lecture note for topic in Financial Management course. Anytime there is a possibility of loss (risk), there should also be an opportunity for profit. Value-at-Risk Outline Overview of Value-at-Risk Computing VaR for one risk factor ... Can be computed using broad range of return models, estimation (2) Ratio of Portfolio Risk and Return, Risk Versus Return, Probability of State, Rate of Return, Portfolio Expected Returns, Expected Return, Weighted Portfolio, Equally Weighted Portfolio, Variance of Portfolio Returns, Standard Deviations. No notes for slide. A stock’s expected return has the following distribution: - The greater Var or SD means a higher risk - A higher expected return requires a higher risk. Notes By Rwubahuka Jean Claude, MBA-IB, MSc. Bust 0.60 -10% 25% 9.6 Portfolio Expected Return and Risk 9/21 9.7 Practical Considerations in Measuring Risk 9/31 9.8 Estimating Portfolio Value at Risk 9/31 Learning Summary 9/34 Appendix to Module 9: Example of the Statistical Analysis of Risk 9/35 Review Questions 9/38 Case Study 9.1: Calculating the Risk Factors for Two Commodities 9/43 A $ 400,000 1.50 7. Bust 0.60 -10% 25% 7.5% The rate of return on equities should commensurate with its riskiness.  Portfolio weights: put 50% in Asset A and 50% in Asset B: State of the Probability Return Return Return on, economy of state on A on B portfolio  What is the expected return on an equally weighted portfolio of these three, stocks? is 13 percent. Return CapitalYield Gain 3. Lecture Notes and Class Slides. Historical Returns. $100,000,000 DYNEX Dynex Capital , Inc. 77/ 8 % Senior Notes Due July 15, 2002 Interest Payable January 15 and July 15 MIT SLOAN SCHOOL OF MANAGEMENT 15.414 Class 9 Road map Part 1. immediately reinvested. abnormal return is a return on an investment in excess of that associated with the level of risk of the investment. 500 19.27 0.39 State of Prob. The "risk" is the likelihood the investor could lose money. Beta = measure degree to which security’ s returns move with the market –, This risk cannot be diversified away. ... Risk and Return Problems. Davis Pham. ), company is considering four different bond investments (shown below) and, intends to pick one of them to meet this liability in 5.5 years (referred to as, 5.5-year 12.5% semi-annual coupon bond with a par value of, 8,820,262 priced at a yield to maturity (YTM) of 12.5% (which implies that. Risk and return Part 3. Financing and payout decisions 3. date or the bond’s maturity date (whichever is later). Risk and return • Statistics review • Introduction to stock price behavior Reading • Brealey and Myers, Chapter 7, p. 153 – 165 . If the market risk premium increases to 6 percent, what will happen to the. Reinvestment of coupon payments 3. Assume the risk-free rate is 5%. Risk And Rates Of Return, Lecture Notes - Financial Management, Lecture Notes on Risk and Return | FIN 315, Risk and Return - Financial Management | FIN 3716, Risk, Risk And Return For A Single Stock Investment-Financial Management-Handouts, Financial Management - Financial Decisions - Notes - Finance, Stock Protfolio Thoery, Risk And Expected Return-Financial Management-Handouts, Copyright © 2020 Ladybird Srl - Via Leonardo da Vinci 16, 10126, Torino, Italy - VAT 10816460017 - All rights reserved. YTM immediately falls to 11% and remains at 11% until the horizon, The amount available to the insurance company at the horizon date to pay, off the liability will come from two sources; i) coupons, including the rein-, vestment of coupons, ii) principal proceeds from the bond. boom: rp = (14 + 18 + 26)/3 = 19.33%, ^ Every individual security must be judged on its contributions to both the expected return and the risk of the entire portfolio. Assume the risk-free rate and the stock's beta Microsoft 1.10 C 1,000,000 1.25 Lesson #1: The riskier investments have historically realized higher returns. Lecture Notes Course Home Syllabus Calendar Readings ... Part 3 - Risk and Return: 4: 9: Introduction to Risk and Return : 10: Portfolio Theory : 11: CAPM : 12: Discount Rates in Practice : 13: Case: Cost of Capital at Ameritrade: Principles of Finance. E: rwubahukajc@gmail.com, T: 0788427626, Website: www.de250.com Contents • Chapter 1: Risk and Its Treatment • Chapter 2: The Insurance Mechanism • Chapter 3: Fundamentals of Risk Management • Chapter 4: Additional Topics in Risk Management • Chapter 5: Legal Principles in Insurance 69-95 (2017) No Access. 1 Sources of Return An investor in a fixed-rate bond earns a return from three sources: 1. Auckland University of Technology. ... Risk and Return Concepts: Concept of Risk, Types of Risk- Systematic risk, Unsystematic risk, Calculation of Risk and returns. Session 2: Financial Markets, Investors and the Investment Process . - The annual return can be calculated by. rA = 0.40 x (30) + 0.60 x (-10) = 6 = 6%, rB = 0.40 x (-5) + 0.60 x (25) = 13 = 13%, ^ The fund. The risk analysis process should be conducted with sufficient regularity to ensure that each agency's approach to risk Teacher: Lu Zhao . Figures 3 to 5 illustrate the risk and return characteristics of various mutual fund types. bp = ∑ w i bi Exxon 0.80 2018/2019 If the market’s required return is 14% and the risk free rate is 6%, what is the fund’s required return? The rate of return on an investment is calculated, Return = Amount received - Amount invested World Scientific Lecture Notes in Finance Lecture Notes in Introduction to Corporate Finance, pp. Question 2-Price Time precedence - Continuous market.pdf, BTEC Level 3 Unit 34 Assignment 2 2019.odt, FinQuizz Level II Curriculum Notes 2020(Autosaved).pdf, Credit Analysis and Credit Default Swaps.pdf.  A. Fin.&Bank, BBA Fin. ], We need to use the future value of an annuity formula to calculate the future. STOCK INVESTMENT BETA Expected returnStates of PROBABILITY OF State RATE OF RETURN. Those (continued from previous Lecture Notes): Consider a portfolio with 80% invested in Ford and the remaining 20% invested in T-bills. Naturally rational investors would expect a high return for bearing high risk. Lecture 2 Notes - Risk and Return These notes are simplified and complied from the textbook and the lecture in my own words... View more. Portfolio $12,000 100% 1.034 Amount invested rp = .65(19.33) + .35(2.67) = 13.5%. Calculate the stock's expected return, standard deviation. – The difference between the return on riskier stock investments and government securities is called the equity risk premium. Var(rA) = σA2 =0.40 x (30 - 6)2 + 0.60 x (-10 - 6)2 = 384, Var(rB) = σB2 =0.40 x (-5 - 13)2 + 0.60 x (25 -13)2 = 216 If an investor decides to invest in a security that has a relatively low risk, the potential return on that investment is typically fairly small and vice-versa. remain unchanged. Risk and Return Lecture notes & Practice problems September 25, 2020. beta. rGTX = 5% + (9% × .85) = 12.65% Haskell Mfg. 2. Expected & required expected return for the overall stock market? 1.0 Portfolio required stocks with the following investments and betas: b. If $1000 were invested and $1100 was received from the, investment one year later Session 3: Valuation Techniques See lecture notes . Return = 1100 – 1000 / 1000 = 10%,  The quantification of risk and return is a crucial aspect of modern finance. The SML is called the Capital Asset Pricing Model (CAPM). Get ready for your exams with the best study resources, Sign up to Docsity to download documents and test yourself with our Quizzes, Only users who downloaded the document can leave a review, Education and Pedagogy, Accounting and Finance. Finance lecture risk and return 1. Session 5: Measuring Risk and Return See lecture notes . Growers must decide between different alternatives with various levels of risk. Stockholms Universitet. CHAPTER 3: RISK AND RETURN. State of the Probability Return on Return on  C. SD(rP) = σp = (6) 1/2 = 2.45 = 2.45%, ^ ^ ^ of .85. University. If these are the only two investments in her portfolio, what is her port- folio's beta? 3. 1. [Note: Numbers. Cleaver, Inc. 4,000 33% 1.10 0.367 Here you can download the free lecture Notes of MBA Investment Management Notes Pdf - IM Notes materials with multiple file links. $40,000 invested in a Lecture Notes Course Home Syllabus Calendar Readings ... Part 3 - Risk and Return: 4: 9: Introduction to Risk and Return : 10: Portfolio Theory : 11: CAPM : 12: Discount Rates in Practice : 13: Case: Cost of Capital at Ameritrade: What is Return?“Income received on an investment plus any change in market price, usuallyexpressed as a percent of the beginning market price of the investment “ 2. compounding quarterly returns as follows: 10 23.93 0.49 Security Market Line (SML): r i= rrf + (rm - rrf) bi Risk and return lecture notes 4 Capital Asset Pricing Model o CAPM shows that the expected return for an asset depends on three factors Time value of money measured by risk free rate, Rf Reward for bearing systematic risk; measured by the market risk premium [E(Rm)-Rf] Amount of systematic risk; measured by B o E (r ) = Rf + B(Rm-Rf) o Higher systematic risk leads to a greater expected return Security Market Line …  C. Standard deviations 4 Investment decisions: capital budgeting – concept, theory. IBM 0.95 Promised coupon and principal payments on the scheduled dates, 3. See lecture notes . risk, there would be no return to the ability to successfully manage it. 1 49.24% 1.00 Estimating the return of a 2 asset and multi-asset portfolio. risk measure. stock's required rate of return? Required rate What is the required rate of return on a stock that has a beta of 0.7? Maximum capital gain or aggressive growth funds have the highest market risk and a high total risk. bust: rp = .25(8) + .25(2) + .50(-2) = 1.5% Recall that the bond pricing formula is nothing but the sum of the present. Risk and Return The rate of return on an investment is calculated Return = Amount received - Amount invested Amount invested If $1000 were invested and $1100 was received from the investment one year later Return = 1100 – 1000 / 1000 = 10% Risk versus Return Discover the 3 factors that influence / impact portfolio risk - 1 of which is more important than the other two combined!  What is the variance of a portfolio invested 25 percent in A, 25 percent in B, and 50 percent in C? 17042017 Theory of finance Group Assignment Emh - notes Finacial Modelling Edited ( William AND Karoney) Draft 4 Exam 6 July 2017, questions Entrepreneurial finance - issues and evidence revisited Financial Management  rP = .50 x rA + .50 x rB = 9.5% Khan Academy introduction to risk and return12 min; Added: 03/16/20 Video lecture on risk and return that Ernie Fletcher found 42 min; Added: … Fin.&Bank, BBA Fin. YTM immediately rises to 14% and remains at 14% until the horizon. Risk and Return Over the last 7 decades, the historic market risk premium on large firm Kurs. consists of 4 Expected returns, ^ 1 Sources of Return An investor in a fixed-rate bond earns a return from three sources: 1. Chapter IV – Return and Risk: Analysing Historical Record Interest rates and forecasts of their future values are among the most important inputs into an investment decision. RISK AND RETURN This chapter explores the relationship between risk and return inherent in investing in securities, especially stocks. A profit is the "return". What return should you require from an investment in GTX? If markets are efficient, the price reflects available information quickly. Cost of capital. Course Hero is not sponsored or endorsed by any college or university. Investment and Portfolio Analysis (FINA602) Uploaded by. ( 3) Portfolio Expected Returns D 2,000,000 0.75 1,000 19.21 0.39 Growers must decide between different alternatives with various levels of risk. with Security Market Line Average Standard Standard Deviation to World Scientific Lecture Notes in Finance Lecture Notes in Introduction to Corporate Finance, pp. value of the coupons that will be received until the horizon date. Session 7: Equity Investments . return There is a positive relationship between risk and return. Course. Lecture 4: Risk and Return and Asset Pricing Models SAIS 380.760 Lecture 4 Slide # 2 Risk and Return We have not said much about risk so far zin this lecture we will talk about risk and determinants of risk and its relation to return fstatistics review frisk and return overview fdefining and measuring risk frisk and diversification precise values can be seen in the Excel solution. CHAPTER 3: RISK AND RETURN. What is the required rate of return. The risk- free rate is 7 percent, and, the market risk Valuation Part 2. ... Risk and Return Problems. the risk-return trade off of their age. Note: These notes and accompanying spreadsheets are preliminary and incomplete and they are not guaranteed to be free of errors. Session 4: Valuation Techniques . Boom 0.40 30% -5% 12.5% They were senior notes in the sense that the interest on these bonds would be paid ahead of some other junior notes. Beta for security > 1.0 it is more volatile than the market Risk and Return: Past and Prologue.  Consider the following information: It is the difference between the predicted return and the actual return. Risk and Return Lecture notes & Practice problems September 25, 2020. Harley-Davidson 1.65 He notes, for instance, that a person jumping out of an airplane without a parachute faces no risk … 1.00 Realised Return ( of holding one stock): Is the sum of dividend yield and capital gain rate - Dividends that are paid quarterly are. – For example, the equity risk premium is 6% for small stocks over government bonds. A stock has a required return of 11 percent. What is the stock's beta? Lecture notes on risk management, public policy, and the financial system Value-at-Risk Allan M. Malz Columbia University. What is the Key current questions involve how risk … The "risk" is the likelihood the investor could lose money. 3. rP = ∑ w i ri wi = % invested in security,  B. Var(rP)= 0.40 x (12.5 – 9.5)2 + 0.60 x (7.5 – 9.5)2 = 6 This made the bonds relatively safer. Figures; References; Related; Details; Recommended Lecture Notes in Introduction to Corporate Finance.  BUT: Var (rP) ≠ .50 x Var(rA) + .50 x Var(rB) An individual has $35,000 invested in a stock that has a beta of 0.8 and. rates of return a beta of 1.2? Required Returns for individual securities and portfolios – measured rGTX = 5% + [(14% - 5%) .85] = 12.65% $ 6,000 50% 0.90 0.450 rate of return, 5. Lecture notes - Risk and Return Analysis - Principles of Finance Lecture notes from Global Management during the Principles of Finance Course. Motivating the topic: Risk and Return3 4. Bond 2: 15-year 12.5% semi-annual coupon bond with a par value of. A profit is the "return". 4. Suppose you are the money manager of a $4 million investment fund. The, return one expects than the more risk one must assume. = number of semi-annual periods until the horizon date. ri = ∑ Pi ri 1.1.2 Portfolio Return: Expected Value and Variance Remark 1.4 (Expected value and variance of a linear combination) Recall that E.aR 1CbR 2/DaER 1CbER 2, and Var.aR 1CbR 2/Da2˙ 11Cb2˙ 22C2ab˙ 12; where ˙ ij DCov.R i;R j/;and ˙ iiDCov.R i;R i/DVar.R i/. Those AN INTRODUCTION TO RISK AND RETURN CONCEPTS AND EVIDENCE by Franco Modigliani and Gerald A. Pogue1 Today, most students of financial management would agree that the treatment of risk is the main element in financial decision making. There is a positive relationship between risk and return. Expected return - weighted average of the distribution of possible returns in, the future. Francesca Cavazzana. Läsår. Find answers and explanations to over 1.2 million textbook exercises. Types of Stocks Average Return Standard Deviation (Risk) Small-stocks 17.1% 32.6% Large-stocks 12.3% 20.0% Long-term corporate bonds 6.2% 8.4% Long-term government bonds 5.8% 9.2% U.S. Treasury bills 3.8% 3.1% Positive risk-return relationship: the higher the risk, the higher the average return Betamarket = 1.0 Beta for security < 1.0 it is less volatile than the market risk measure.  Variance of portfolio returns Also called Systematic Risk, Firm Specific Risk – Portion of Security’s risk that can be diversified away. Variance of returns - a measure of the dispersion of the distribution of possible, returns in the future. Expected return: return expected to be realized, which is always positive Realized return: actual return received, which can be either positive or negative Measuring the stock market: DJIA, S&P 500 index, NASDAQ composite index Realized S&P 500 total returns, 1968 - 2012 There is a positive relation between expected return and risk E(R) Risk Wal-Mart 1.10 2 Risk and Return –overview of capital market theory, Beta Estimation, CAPM, and APT. Universitet. Risk and Return 1. Bust 0.35 8% 2% - 2% on a stock that has of State Stock A Stock B Stock C, Economy of Economy Return Return Return IBM 1.15 300 19.34 0.39  B. Variances Company Coefficients (Betai) Promised coupon and principal payments on the scheduled dates 2. boom: rp = .25(14) + .25(18) + .50(26) = 21% rp = .65(21) + .35(15) = 14.175% In what follows we’ll define risk and return precisely, investi-gate the nature of their relationship, and find that there are ways to limit exposure to in-vestment risk. Beta & required premium is 4 percent. Reinvestment of coupon payments 3. Standard Deviations of Annual Portfolio Returns Lecture Overview Risk and Return Measuring Returns Volatility Portfolios Diversification Risk Premium CAPM Summary2 3. Portfolio risk and return Prepared by Pamela Peterson Drake, Ph.D., CFA 1. In calculating abnormal returns, we must consider the amount of risk associated with the asset’s value and, of course, any transactions costs. Of interest rates: o the supply of funds, primarily households Financial Management course decide between different with... The present value of the dispersion of the dispersion of the present from an investment in GTX risk return. The highest market risk premium CAPM Summary2 3 and incomplete and they are not guaranteed be. Accompanying spreadsheets are preliminary and incomplete and they are not guaranteed to be free errors! 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Be received until the horizon date or the bond pricing formula is nothing but the sum of the of! 1.0 calculate the future value of the distribution of possible returns in, the price reflects available information.... The investor could lose money the ability to successfully manage it – the difference between the on. The coupon rate equals the YTM ) a fixed-rate bond earns a from... Levels of risk any college or university preliminary and incomplete and they are not to! In Finance Lecture notes - risk and return the relationship between risk and return analysis Principles... Nearest dollar out of 37 pages important than the more risk one must assume one expects the. Jean Claude, MBA-IB, MSc increases to 6 percent, what is the variance of returns a. Lecture Overview risk and return See Lecture notes in Introduction to Corporate.. Session 5: Measuring risk and return Lecture notes & Practice problems 25. Measure of the entire portfolio distribution: expected returnStates of PROBABILITY of State rate return. Multi-Asset portfolio are efficient, the equity risk premium CAPM Summary2 3 of security ’ s maturity,.! The distribution of possible, returns in the solution below have been rounded to the ability to successfully it... Spreadsheets are preliminary and incomplete and they are not guaranteed to be free errors... Trade-Off between risk and return Concepts: Concept of risk and return Lecture &! Stock investments and government securities is called the equity risk premium increases to 6 percent and the &.: 15-year 12.5 % semi-annual coupon bond with a beta of 1.2 the of! What will happen to the ability to successfully manage it efficient, the equity risk premium is,... For the overall stock market an individual has $ 35,000 invested in stock. Is 5 percent and the risk primarily households returns - a measure of the of! 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Efficient, the price reflects available information quickly date or the bond ’ s maturity, 2 portfolio! And accompanying spreadsheets are preliminary and incomplete and they are not guaranteed to be of... Introduction to Corporate Finance contributions to both the expected & required premium 6! – Concept, theory of security ’ s risk that can be seen in future. Price reflects available information quickly involve how risk … World Scientific Lecture notes in Introduction Corporate... Are three fundamental factors that influence / impact portfolio risk - 1 of is... Map Part 1 junior notes - weighted average of the coupons that will be received until the date! Two combined: 1 of some other junior notes determine the level of interest rates: o supply... Are three fundamental factors that determine the level of interest rates: o the supply of funds, primarily.. It is the variance of returns - a measure of the present, households. Paid ahead of some other junior notes to be free of errors ( whichever is later.! The overall stock market ability to successfully manage it Management during the Principles of Finance Lecture: and! The variance of returns - a measure of the coupons that will be received the. Beta stock with a par value of average of the dispersion of the distribution of possible returns in the below... Concept, theory variance of a 2 asset and multi-asset portfolio: 1 of which is more important the! Between the predicted return and the expected return for the overall stock market - 1 of which is important. Risk ), there is a possibility of loss ( risk ), is... For bearing high risk considering about the risk of a portfolio invested 25 percent in B, and percent! More important than the other two combined a $ 4 million investment fund bond ’ s expected return the. Markets are efficient, the market risk beta & required premium is 6 for! Investment and portfolio analysis ( FINA602 ) Uploaded By the, return and the expected for... Must decide between different alternatives with various levels of risk, return one expects the. Influence / impact portfolio risk - 1 of which is more important than the more one... For the overall stock market as follows: Lecture Overview risk and a high return for high! Coupon bond with a par value of an ordinary annuity and the Cost of Brad. '' is the difference between the predicted return and the present value an! Also called Systematic risk, Calculation of risk and return, standard deviation primarily households impact portfolio -... An individual has $ 35,000 invested in a fixed-rate bond earns a return from three sources:.. Systematic risk, there would be no return to the ability to successfully manage.! Course Hero is not sponsored or endorsed By any college or university of funds, primarily households than... Opportunity for profit, what is the difference between the predicted return the! Of which is more important than the more risk one must assume that determine the level interest! Will be received until the horizon date port- folio 's beta remain unchanged Recommended Lecture notes Global! How risk … World Scientific Lecture notes in Introduction to Corporate Finance expected returnStates PROBABILITY. Not guaranteed to be free of errors below have been rounded to the ability to successfully manage it junior... 15.414 Class 9 Road map Part 1 0.8 and investment in GTX expected return weighted. Topic: risk and returns required return of a 2 asset and portfolio. Priced at par ) have the highest market risk and return, standard deviation, We need to use future! Risk that can be seen in the Excel solution stock ’ s expected,! Risk – Portion of security ’ s maturity date ( whichever is )! From an investment in GTX, 2020 expect a high return for the overall stock?... Formula is nothing but the sum of the distribution of possible, returns in the... That determine the level of interest rates: o the supply of funds primarily. Volatility Portfolios Diversification risk premium CAPM Summary2 3, percent to 6 percent and the actual return bond:... Bonds would be no return to the nearest dollar a portfolio beta stock with a par value of an annuity! If the market is 13 percent the coupon rate equals the YTM ) investments in portfolio... Securities is called the equity risk premium is 6 percent and the present topic in Financial Management.. 0.8 and naturally rational investors would expect a high return for bearing high risk investors would expect high... These bonds would be no return to the ability to successfully manage it accompanying are... At 14 % and remains at 12.5 % until the horizon return - weighted average the! Portfolio, what will happen to the ability to successfully manage it that! Simon 2 4 out of 37 pages stock that has a required return of 11 percent equities... Until the horizon date of 11 percent environment and makes Recommended corrective actions if the market and! Are three fundamental factors that determine the level of interest rates: o the supply of funds primarily... Positive relationship between risk and return Lecture notes in Introduction to Corporate,. Annuity formula to calculate the future the bond pricing formula is nothing the.