CHAPTER 2 RISK AND RETURN: PART I (Difficulty: E = Easy, M = Medium, and T = Tough) True-False Easy: (2.2) Payoff matrix Answer: a Diff: E [i]. If we develop a weighted average of the possible return outcomes, multiplying each outcome or "state" by its respective probability of occurrence for a particular stock, we can construct a payoff matrix of expected returns. a. True b. False (2.2) Standard deviation Answer: a Diff: E [ii]. The tighter the probability
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All of the models to be discussed, i.e. Markowitz, Single Index, CAPM, and APT, have one single goal that is accomplished by using them. This goal is to make a portfolio, or individual securities, as efficient and well performing as possible by finding the optimal weights, highest return, and lowest risk. The Harry Markowitz model of 1952, or the mean-variance model, was one of the earliest models created to compare and contrast securities outcomes. This model uses the weights, standard deviation
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Modern portfolio theory From Wikipedia, the free encyclopedia "Portfolio analysis" redirects here. For theorems about the mean-variance efficient frontier, see Mutual fund separation theorem. For non-mean-variance portfolio analysis, see Marginal conditional stochastic dominance. Modern portfolio theory (MPT) is a theory of finance which attempts to maximize portfolio expected return for a given amount of portfolio risk, or equivalently minimize risk for a given level of expected return, by carefully
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INVESTMENT STRATEGY AND SELECTION: The strategy employed for Stock-Trak was to diversify our portfolio among the sectors and various stocks. The goal was to earn at minimum 3% on the principal, and this was to be obtained by doing technical analysis and looking for stocks that showed future potential for a price increase, or a price decrease in the case of a short sell. We also looked for news from the companies that would positively or negatively impact them. We were more inclined towards trading
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return are strongly correlated. A higher risk usually yields a higher return. Our team observed that within Alex Sharpe’s portfolio, the Reynolds’ fund holds the highest risk (highest standard deviation of 32.45%), as well as the highest return (16.27% in comparison to Hasbro’s return of 11.31%). Although a lower standard deviation (lower risk) is ideal for an investment portfolio, the Reynolds’ fund yields a higher return for the higher associated risk. Furthermore, our team’s data illustrated that
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Markowitz Mantra * Required Basic Concepts! As randomly selected securities are combined to create a portfolio, the __________ risk of the portfolio decreases until 10 to 20 securities are included. The portion of the risk eliminated is __________ risk, while that remaining is __________ risk * o diversifiable; nondiversifiable; total o relevant; irrelevant; total o total; diversifiable; nondiversifiable o total; nondiversifiable; diversifiable The higher an asset's beta, * o the more
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risk aversion for investors Textbook Example: Basic Food’s Price up to $150 from $100 Sale.com Price down to $75 from 100. Difference in return, 20%-10%= Risk Premium Risk in Portfolio Context Expected return on portfolio=Weighted expected return=rp=i=1nwiri Portfolio Risk Stocks can be combined into portfolios which then become less risky to riskless depending on the correlation of the assets. Stocks with a ρ=-1 are perfectly negatively correlated. The inverse is positively correlated.
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deviations because the coefficient of variation considers the relative size of the expected returns of each investment. E8-4. Computing the expected return of a portfolio Answer: rp (0.45 0.038) (0.4 0.123) (0.15 0.174) (0.0171) (0.0492) (0.0261 0.0924 9.24% The portfolio is expected to have a return of approximately 9.2%. E8-5. Calculating a portfolio beta Answer: Beta (0.20 1.15) (0.10 0.85) (0.15 1.60) (0.20 1.35) (0.35 1.85) 0.2300 0.0850 0.2400 0.2700 0.6475 1.4725 E8-6. Calculating the required rate
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been proven that owing a group of financial securities can assist the investor to improve the return/risk tradeoff; that is owing eight stocks will produce an improved return/risk product over time versus owing one stock. Therefore, in evaluating a portfolio it is critically important to compare returns and risks involved; but in order to compare and evaluate returns and risks the investor has to know how to calculate these two important criteria (Markowitz, 1970). The return of a stock is based on
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W14232 INVESTMENTS: DELINEATING AN EFFICIENT PORTFOLIO Upasana Mitra and M. Kannadhasan wrote this case solely to provide material for class discussion. The authors do not intend to illustrate either effective or ineffective handling of a managerial situation. The authors may have disguised certain names and other identifying information to protect confidentiality. This publication may not be transmitted, photocopied, digitized or otherwise reproduced in any form or by any means without the
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