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# Risk%20%26%20 Retirn%204

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FINANCE,CFM

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### Risk%20%26%20 Retirn%204

1. 1. Risk & Return <ul><li>Risk is like pornography. It is hard to define but you know it when you see it. </li></ul><ul><li>John Wachowicz </li></ul>
2. 2. Return <ul><li>Dividend/ Coupon </li></ul><ul><li>Current yield </li></ul><ul><li>Capital gains </li></ul><ul><li>Return = (Div t + ( P t – P t-1 ))/ P t-1 </li></ul>
3. 3. Risk <ul><li>Actual return is different from expected return </li></ul><ul><li>A random variable subject to a probability distribution </li></ul><ul><li>Possible scenarios </li></ul><ul><li>Returns in each of those scenarios </li></ul><ul><li>Mean and standard deviation </li></ul><ul><li>Attitude towards risk – Risk averse investors </li></ul><ul><li>Return and risk in a portfolio context </li></ul><ul><li>Systematic and unsystematic risk </li></ul><ul><li>Concept of risk premium </li></ul>
4. 4. Return Variability A B C Investment A: no return variation, no risk Investment B: some return variation, some risk Investment C: wide return variation, much risk 4.0% 2.5% 6.00% 15% -8%
5. 5. <ul><li>..Copy of Risk_in_FM. xls </li></ul>
6. 7. <ul><li> 1926-2000 Average Annual Std Rate of Return Dev </li></ul><ul><li>Treasury Bills 3.9 3.2 Government Bonds 5.7 9.4 Corporate Bonds 6.0 8.6 Common Stocks 13.0 20.2 Small-firm stocks 17.3 33.2 </li></ul>
7. 8. Capital Asset Pricing Model <ul><li>The expected risk premium varies in direct proportion to beta. </li></ul><ul><li>The security market line </li></ul><ul><li>r = r f +  (r m – r f ) </li></ul><ul><li>Expected risk premium = beta * expected risk premium on the market </li></ul>