Ch 15 Portfolio Mgmt And Investment Risk

Question 1

Efficient frontier

Answer 1

Modern portfolio theory

Best return possible for that degree of risk

Question 2

CAPM

Answer 2

Built off of modern portfolio theory

Divided risk into systematic and unsystematic

Question 3

Systematic and unsystematic risks

Answer 3

Systematic:
Measure by beta.
market, interest rate, event, inflation

Unsystematic:
Measured by alpha
business, regulatory, political, opportunity, liquidity

Question 4

CAPM formula

Answer 4

Ri = Rf + B(Rm - Rf)

Ri: portfolio or stock return
Rf: risk free rate
B: beta
Rm: return on the market

Question 5

Efficient market hypothesis

Answer 5

If you believe in it, you will agree passive investing is the best approach.

Weak: cannot predict future stock prices based on past trends (technical analysis). Only fundamental analysis can be used aka analyze company financial reports. Fundamental analysts look at the company, not the market.

Semi-strong: all public info is reflected in the share price and no analysis will help. Only access to non public info will help.

Strong: all public and non public info is reflected in the price

Question 6

Sector rotation

Answer 6

Method of active management

Move into sectors you think will do well given the business cycle phase and continue rotating around as the cycle progresses

Question 7

Time horizon rule of thumb

Answer 7

100 - clients current age = % of portfolio that should be in equities

Question 8

PV of a perpetuity

Answer 8

Payment / return investor thinks they can earn aka discount rate

Question 9

Rule of 72

Answer 9

Number of years needed for an investment to double given a specific date of return

72 / rate of return = number of years

Eg PV $20k, I 8%, FV $40K, N??
72 / 8 = 9

Question 10

NPV

Answer 10

> 0 return will be greater than expected
= 0 return will be what is expected
<0 return will be less than expected

Question 11

Dollar weighted return vs time weighted return

Answer 11

Dollar:
Same concept and calculation as IRR and YTM on a bond
Considers additional depositions and withdrawals when calculating a return
Useful for measuring a single investors rate of return

Time:
Geometric mean of returns
Considers compounding
Useful for comparing money managers

Question 12

Current yield

Answer 12

For stock = annual dividend / stock price

For bond = annual interest / price

Question 13

Dividend payout ratio

Answer 13

How generous a company is

Dividend / EPS

Question 14

HPR or total return

Answer 14

Ending value - beginning value + investment income
/
Beginning value

Question 15

Risk adjusted election

Answer 15

Return - risk free return

Question 16

Expected return

Answer 16

Modern portfolio theory

Sum of all possible returns weighted by likelihood that each return will occur

Question 17

Sharpe ratio

Answer 17

Determine how much additional return is received for willingness to hold an asset over one that is risk free m

= portfolio return - risk free return
/
Standard deviation

All data must be for the same time period

Question 18

Indexes

Answer 18

Dow - 30 larges cap
S&P 400 - 400 mid size
Wilshire 5000 - all
MSCI EAFE - non- US or Canada Developed markets (Europe australasia far east)

Question 19

Conservationism

Answer 19

Investors who cling to their beliefs even in the face of new information

Question 20

Anchoring

Answer 20

Anchor to a belief that has no logical relevance to the decisions