Chapter 5: Risk and Return Flashcards
The dollar-weighted return measures:
The performance of your investment in a fund, including the timing of your purchases and redemptions.
The holding period return on a stock is equal to:
The capital gain yield over the period plus the dividend yield
The difference between an investor and a gambler is:
That an investors requires a risk premium to take on that risk.
The capital allocation line connects:
The risk-free rate and the optimal risky portfolio
Historically, the best asset for the long-term investor to fend off threats of inflation and taxes is:
Common stocks
Published data on past returns earned by mutual funds are required to be:
Geometric returns
The dollar-weighted return is the:
Internal rate of return
The market risk premium is defined as:
The difference between the return on an index fund and the return on Treasury bills.
The excess return is the:
Rate of return in excess of the Treasury bill rate
The reward-to-volatility ratio is given by:
The slope of the capital allocation line
During the 1926-2010 period, this asset class provided the lowest real return:
Long-term U.S. treasury bonds
The Sharpe ratio calculation is:
E(rp)-rf / standard deviation
Total return definition:
The same of the current income and the capital gain (or loss) earned on an investment over a specified period of time
Historical performance…
Provides a basis for future expectations and does not guarantee future performances
Expected return…
The return an investor thinks an investment will earn in the future and determines what an investor is willing to pay for an investment
Internal forces of return:
(Unsystematic risk)
Type of investment
Risks of investment
External forces of return:
(Systematic risk)
Political environment Business environment Economic environment Inflation Deflation
Holding-Period return equation:
(sales price - buy price + cash flow during holding period) / buy price
Geometric Average equation:
[(1 + ror) x (1 + ror) …]^(1/n) – 1 = HPR
Risk Premium equation:
ß(rx – rf)
Required Return
The rate of return an investor must earn on an investment to be fully compensated for its risk.
= risk-free rate + risk premium for inv
Real rate of return
The rate of return that could be earned in a perfect world where all outcomes are known and certain — no risk
Risk-free rate
The rate of return that can be earned on a risk-free inv
The sum of the real rate of return and the expected inflation premium
Scenario Analysis
Possible economic scenarios; specific likelihood and HPR
Probability distribution
Possible outcomes with probabilities
