week 6: Risk & Return Flashcards
what is the Holding Period Return (HPR) ?
Holding Period Return (HPR) measures the rate at which investor’s funds have grown during the investment period.
what are T-bills?
T-bills are safe as an investment
Government short-term fixed-income securities.
4, 8, 13, 17, 26, or 52 weeks long.
Usually held till maturity.
Backed by the government so No default risk.
Short maturity; prices are relatively stable.
what are Long-term government bonds?
Long-term government bonds
Government long-term fixed-income securities.
More than 10 years.
Price fluctuates with interest rates (P falls when r rises)
i.e., higher interest rate risk due to a longer mat
what are stocks?
Stocks are a Share ownership of corporations.
Its value depends on the ups and downs of the company and the stock market performance.
Capital gain or loss.
Receives dividends if the company decides to distribute.
A risky investment.
What is investment risk?
Investment risk pertains to the probability of earning a return less than the expected.
Investment returns are not known with certainty.
The risk is greater if there is a high probability of a return to be below the expected return.
what are the Problems with Scenarios Returns?
The “true” means (expected returns) and variances are unobservable.
In reality, it is not so easy to calculate the probabilities of possible scenarios.
Example
‘Tesco share prices expected to move sharply depending on sales performance at Christmas’.
We do not know definitely what will happen, or the probabilities of the outcome.
If sales grow but less than expected, the price may actually fall even though their sales increased.
Analysts use past variability
Assumption that past performances is a good clue to future performance.
what is the The expected return of a portfolio?
The expected return of a portfolio (E(Rp)) is the anticipated return of a portfolio based on the weighted expected returns of the portfolio’s holdings (assets: bonds, stocks, currencies, real estate, etc.):
what is beta?
Beta coefficient (β) measures the sensitivity of a stock’s returns to the return on the market portfolio.
It measures the systematic risk of the stock (or portfolio)
i.e., the sensitivity of the stock’s returns to those of the market portfolio.
The beta of the market portfolio is always 1.
if 𝛽𝑖=1 what is the risk?
If 𝛽_𝑖=1, stock is supposed to be average risk
f 𝛽𝑖 > 1 what is the risk?
If 𝛽_𝑖>1, stock is supposed to be riskier than the average therefore higher return
If 𝛽_𝑖<1, stock what si its risk profile?
If 𝛽_𝑖<1, stock is supposed to be less risky than the average therefore lower return
hwo cna you estimate the beta?
Beta can be estimated by a regression of the stock’s monthly returns on the market’s monthly returns (say, over a 5-year or 3-year period).
A regression is a statistical method to estimate the association between a dependent variable (usually denoted by Y) and independent variable(s) (denoted as X).
The slope of the regression line is defined as the stock’s beta coefficient (β).
what is the Market risk premium (MRP)?
Market risk premium (MRP)=𝐸(𝑟𝑀 )−𝑟𝑓
i.e., the difference between a security or the market’s expected return (𝐸(𝑟)) and the return of a risk-free asset (𝑟_𝑓).
