Chapter 3 Risk & Return

Question 1

Total investment return formula

Answer 1

Yield + capital gain = Total investment return

Question 2

Holding period return (HPR)

Answer 2

(ending value - beginning value +/- cash flows) / beginning value

Question 3

Annualized holding period return

Answer 3

ex
6 month return is 5.2%
(1.052)2 -1 = .1067
21 years
(ending balance/beginning balance)1/21 -1 = HPR

Question 4

Arithmetic return

Answer 4

Add up the returns for each period and divide by the number of periods

Question 5

Geometric return

Answer 5

Equivalent to IRR
Always less than arithmetic return
Add 1 to each periods return
Multiply the periods
Multiply by 1/number of periods
subtract 1

Multiply returns
enter answer in calculator
[Shift]
X
enter the number of periods
[Shift}
/
=

Question 6

Internal rate of return

Answer 6

Dollar weighted return - takes into account cash inflows and outflows

• Initial investment
  CFj
  enter cash flows
  CFj after each
  [shift]
  CST

Use Nj and number of years for same cash flow

Question 7

Time weighted return

Answer 7

ignores timing of investor’s cash flows
calculate geometric mean for each holding period
Use CFj and enter price of 1 share and dividend

Question 8

Bond equivalent yield (BEY)

Answer 8

(Par value-price)/price x 365/days until maturity

Question 9

After tax return

Answer 9

Realized taxable return x (1-marginal income tax rate)

Question 10

Real rate of return (inflation adjusted return)

Answer 10

(1 + rate of return)/(1 + inflation) - 1

Question 11

Unsystematic risk

Answer 11

Accounting
Business
Country/Political
Default/Credit
Executive
Financial
Government
low correlation

Question 12

Systematic

Answer 12

Market
Interest Rate
Purchasing Power
Exchange rate
Reinvestment
non-diversifiable -measured by beta

Question 13

Real rate of return

Answer 13

1+nominal rate of return/1+inflation -1 * 100

Question 14

Standard deviation

Answer 14

Total risk- greater the standard deviation the greater the risk

each return followed by E+
[shift]
8

Question 15

Capital asset pricing model

Answer 15

expected return on an investment is a function of the amount of systematic risk it contains

Question 16

Normal distribution

Answer 16

68% of time returns fall within +/- 1 standard deviation of the mean
95% of the time returns fall within +/- 2 standard deviations of the mean
99% of the time returns fall within +/- 3 standard deviations of the mean

Question 17

Kurtosis

Answer 17

measures how frequently returns cluster around the mean or if extreme returns occur more frequently

Question 18

Skewness

Answer 18

measures the lack of symmetry in a bell curve

Question 19

Calculate Beta

Answer 19

(Standard deviation x correlation)/standard deviation of market = beta