Investment returns
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Investment returns

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Investment returns

Investment returns

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Investment returns Investment returns Presentation Transcript

  • What are investment returns?
    • Investment returns measure the financial results of an investment.
    • Returns may be historical or prospective (anticipated).
    • Returns can be expressed in:
      • Dollar terms.
      • Percentage terms.
  • What is the return on an investment that costs $1,000 and is sold after 1 year for $1,100?
    • Dollar return :
    • Percentage return :
    $ Received - $ Invested $1,100 - $1,000 = $100 . $ Return/$ Invested $100/$1,000 = 0.10 = 10% .
  • What is investment risk?
    • Typically, investment returns are not known with certainty.
    • Investment risk pertains to the probability of earning a return less than that expected.
    • The greater the chance of a return far below the expected return, the greater the risk.
  • Assume the Following Investment Alternatives Economy Prob. T-Bill HT Coll USR MP Recession 0.10 8.0% -22.0% 28.0% 10.0% -13.0% Below avg. 0.20 8.0 -2.0 14.7 -10.0 1.0 Average 0.40 8.0 20.0 0.0 7.0 15.0 Above avg. 0.20 8.0 35.0 -10.0 45.0 29.0 Boom 0.10 8.0 50.0 -20.0 30.0 43.0 1.00
  • What is unique about the T-bill return?
    • The T-bill will return 8% regardless of the state of the economy.
    • Is the T-bill riskless? Explain.
  • Calculate the expected rate of return on each alternative. k = expected rate of return. k HT = 0.10(-22%) + 0.20(-2%) + 0.40(20%) + 0.20(35%) + 0.10(50%) = 17.4% . ^ ^
    • HT has the highest rate of return.
    • Does that make it best?
    ^ k HT 17.4% Market 15.0 USR 13.8 T-bill 8.0 Collections 1.7
  • What is the standard deviation of returns for each alternative?
  • HT:  = ((-22 - 17.4) 2 0.10 + (-2 - 17.4) 2 0.20 + (20 - 17.4) 2 0.40 + (35 - 17.4) 2 0.20 + (50 - 17.4) 2 0.10) 1/2 = 20.0%.  T-bills = 0.0%.  HT = 20.0%.  Coll = 13.4%.  USR = 18.8%.  M = 15.3%.
  • Expected Return versus Risk
    • Which alternative is best?
    Expected Security return Risk,  HT 17.4% 20.0% Market 15.0 15.3 USR 13.8 18.8 T-bills 8.0 0.0 Collections 1.7 13.4
  • Portfolio Risk and Return Assume a two-stock portfolio with $50,000 in HT and $50,000 in Collections. Calculate k p and  p . ^
  • Portfolio Return, k p k p is a weighted average: k p = 0.5(17.4%) + 0.5(1.7%) = 9.6% . k p is between k HT and k Coll . ^ ^ ^ ^ ^ ^ ^ ^ k p =   w i k i  n i = 1
  • Alternative Method k p = (3.0%)0.10 + (6.4%)0.20 + (10.0%)0.40 + (12.5%)0.20 + (15.0%)0.10 = 9.6% . ^ Estimated Return (More...) Economy Prob. HT Coll. Port. Recession 0.10 -22.0% 28.0% 3.0% Below avg. 0.20 -2.0 14.7 6.4 Average 0.40 20.0 0.0 10.0 Above avg. 0.20 35.0 -10.0 12.5 Boom 0.10 50.0 -20.0 15.0
    •  p = ((3.0 - 9.6) 2 0.10 + (6.4 - 9.6) 2 0.20 + (10.0 - 9.6) 2 0.40 + (12.5 - 9.6) 2 0.20 + (15.0 - 9.6) 2 0.10) 1/2 = 3.3%.
    •  p is much lower than:
      • either stock (20% and 13.4%).
      • average of HT and Coll (16.7%).
    • The portfolio provides average return but much lower risk. The key here is negative correlation.
  • Risk 1.Unsystematic Risk : Ex. Business Risk, Financial Risk : Managed by Diversification 2.Systematic Risk : Ex. Market Risk , Interest Rate Risk , Purchasing Power Risk Measurement by Beta which is calculated by : 2.1 Regression Analysis 2.2 Slope of Regression Line ค่าเบต้า แสดงถึงการเปลี่ยนแปลงของอัตราผลตอบแทนของหลักทรัพย์แต่ละชนิดเมื่ออัตราผลตอบแทนของตลาดเปลี่ยนแปลงไป ดังนั้นจึงถือเป็นดัชนีแสดงความเสี่ยงของหลักทรัพย์แต่ละชนิดจากความสัมพันธ์กับตลาดโดยรวม
  • How are betas calculated?
    • Run a regression with returns on the stock in question plotted on the Y axis and returns on the market portfolio plotted on the X axis.
    • The slope of the regression line, which measures relative volatility, is defined as the stock’s beta coefficient , or b .
    • If b = 1.0, stock has average risk.
    • If b > 1.0, stock is riskier than average.
    • If b < 1.0, stock is less risky than average.
    • Most stocks have betas in the range of 0.5 to 1.5.
    • Can a stock have a negative beta?
    How is beta interpreted?
  • Expected Return versus Market Risk
    • Which of the alternatives is best?
    Expected Security return Risk, b HT 17.4% 1.29 Market 15.0 1.00 USR 13.8 0.68 T-bills 8.0 0.00 Collections 1.7 -0.86
  • Use the SML to calculate each alternative’s required return.
    • The Security Market Line (SML) is part of the Capital Asset Pricing Model (CAPM).
    • SML: k i = k RF + (RP M )b i .
    • Assume k RF = 8%; k M = k M = 15%.
    • RP M = (k M - k RF ) = 15% - 8% = 7%.
    ^
  • Required Rates of Return k HT = 8.0% + (7%)(1.29) = 8.0% + 9.0% = 17.0%. k M = 8.0% + (7%)(1.00) = 15.0%. k USR = 8.0% + (7%)(0.68) = 12.8%. k T-bill = 8.0% + (7%)(0.00) = 8.0%. k Coll = 8.0% + (7%)(-0.86) = 2.0%.
  • Calculate beta for a portfolio with 50% HT and 50% Collections b p = Weighted average = 0.5(b HT ) + 0.5(b Coll ) = 0.5(1.29) + 0.5(-0.86) = 0.22 .
  • What is the required rate of return on the HT/Collections portfolio? k p = Weighted average k = 0.5(17%) + 0.5(2%) = 9.5% . Or use SML: k p = k RF + (RP M ) b p = 8.0% + 7%(0.22) = 9.5% .