The Rules of Finance
The goal of finance is to find the optimal enterprise solutions that balance expected return and expected risk. We can find and implement the optimal solutions by using financial information, tools, and models. In finance we want to reduce expected risk and increase expected return, but since getting rid of risk entirely is impossible we look for the best combination of the two. Even though a riskless venture is not possible, Harry Markowitz, a talented economist, brought forth (to our delight) the efficient frontier theory. The purpose of Markowitz theory is simply to find the obtainable enterprises that have the highest expected return for any given risk. This set of enterprises creates an optimal portfolio.
What does return mean? It is the expected future cash flow from an investment. Why? Because the sole reason we invest is because we want that cash! If we really want cash, then why can’t we just focus on that? You might ask. Well, that is when risk comes into the equation. Risk, is the always present deviation that we expect from those good-looking future cash flows.
The Tools of Finance In order to determine the appropriate amount of expected return, given any level of risk, we must use the most important and widely used tool of finance: Discounted Cash Flows. The projected cash flows are our measure of value, and the discount rate that we use on these cash flows takes care of the expected risk. The result is a number that tells us everything
The strategies which are used by this company are not advantageous in the sense that most of the corporate debts in the organization usually carry considerable amounts of higher yields. Producing above average returns in the organization, with risk set a lower level than the normal risks would be an appropriate strategy which has to be used.
Macbeth is a complex story and encapsulates several themes. Every theme plays a big role and has a very significant meaning to the plot and character development included in the play. The figurative language present in each of the themes forces you to think about what each theme means and how it effects the story. The most relevant and prominent themes in this play consist of ambition, guilt, things are not what they seem, and fate verses free will.
Fathi, S, Zarei, F & Esfahani, SS 2012, ‘Studying the Role of Financial Risk Management on Return on Equity’, International Journal of Business and Management, vol. 7, no. 9, pp. 215- 221.
level of return for a certain level of risk, investors compare several risk measures such as
Capital asset pricing model is a model, which was introduced in order to understand the relationship between the risk and the investment that is made. What businesspersons or investors tends to do is make return of their investment fairly equally with return of the risk that has been taken on their part. They want to be compensated for the risk they have taken with their investment. At this point, the time value of money is of great importance since it describes what the investment's value will be after the prescribed years from now (Korajczyk, 1999). This model explains how much of the return will be received by taking the risk and what are the chances that the return on investment compensates. Though its tests are difficult to be employed, results may differ or sometimes may come out as wrong assumptions and calculations. Every investment induces risk when it takes place and if the resulting conclusions propose that the return on investment and risk will not be made as desired then the investment
According to Brealey et al. (2001) the capital asset pricing model (CAPM) is the theory based on correlation among risk and return which indicates that asset 's beta multiplied by risk premium of market will show the expected risk premium on the market portfolio. Similarly, Megginson et al. (2007) confirm that the major idea of the capital asset pricing model (CAPM) is to point out that required return of the security is risk free rate plus risk premium. Thus, investors demand expected return on their investments based on the risk and return relationship of assets (Brealey et al., 2001). Moreover, according to Megginson et al. (2007) the mathematical formula for determining the expected rate of return on long-term asset is as follows:
This project evaluates the discounted Net Present Value which shows the estimated cash flow. The cash flow forecast is for 10 year which incorporates International complexities as well as the cost of capital.
Profit maximization : The main objective of financial management is profit maximization. The finance manager tries to earn maximum profits for the company in the short-term and the long-term. He cannot guarantee profits in the long term because of business uncertainties. However, a company can earn maximum profits even in the long-term, if:-
The key goal for any financial manager is to manage risk, by finding the appropriate balance between the levels of risk so that both risk premium and return can be maximised with as little risk as possible. By understanding risk and return any financial manager can implement formulas such as the one shown above to better understand the investments potential and harness the best outcome for the individual or firm.
Generally higher risk investments offer the highest return and vice versa. A long term objective for investing in the share market is capital growth, shares are sold at higher price than the purchase price for a profit, referred to as capital gain.
A realized return is the amount of actual gains that is made on the value of a portfolio over a specific evaluation period. This takes into consideration any earnings generated by each of the assets contained in the portfolio, as well as any losses that were incurred as a result of a shift in the value of the individual assets. It is possible to identify the realized return associated with each asset that is held in the portfolio. Components of realized return are expected return, changes in expectations about future cash flows and changes in expectations about future discount rate. Employing the calculation of realized return helps an investor make decisions about what assets to
Investors always seek for a way that they can get back greatest return while enjoying minimized risk. Instead of investing in a single asset, holding a portfolio is obviously less risky. However, how to select the best portfolio among tens of thousands of assets in today’s financial market? The stringent need of investors promote the raising of modern portfolio theory. In 1952, Harry Markowitz [1] established the fundamental model of modern portfolio theory: the Markowitz model, also called the mean-variance model. This model aimed to achieve a tradeoff between the expected return and the risk of return. As shown in Figure 1, among all efficient portfolios, the efficient frontier consisted of all those with highest return at each given risk level. C_1,C_2,and C_3 were the investors indifference curves which showed that traders prefer portfolios with high return or low risk. The tangent point R of the highest indifference curve and the efficient frontier gave the optimized portfolio.
Collecting, analysing and interpreting financial data has always been the important objectives of the members in the financial markets, ranging from governments, big time billionaire corporations to even the small individual financial analysts. This is because by gaining a keen understanding of the current financial situation in the market, another objective can be pursued, which is forecasting. One of such forecast is regarding investor expectations in the market. Investors often refer to individuals who commits money to investment products with the expectation of financial return. Since most investors become the main pillars of finance for corporations, by gaining an understanding of
Whenever the idea of investment comes, one of the first questions that pop in our mind is whether it would reap good returns or not. Then we proceed on to probe on the risks involved, investment tenure and other prerequisites before actually investing.
Jonathan and Peter use a lot of mathematical inference to analysis the stock return from one year to many years, which is called the dividend-discount model. Besides, the dividend growth is also considered in which forms the constant dividend growth model finally. From these formulas, it can be easily observed that the expect return of a security is a function about the dividend yield ( ).