An investment firm uses the Carhart-Fama-French Model to track the performance of the portfolio managers in the firm. In 2019, the risk-free rate of return was 2.2% and the return on the S&P 500 (a proxy for the total market) was 28.9%. An actively managed large cap portfolio earned 32.8%, while the benchmark portfolio it was compared to earned 31.2%. The betas for the benchmark portfolio and the actively managed portfolio are: Betas Risk Factor benchmark portfolio managed portfolio factor return Market risk (RMRF) 1.00 1.05 ? Small cap stocks (SMB) -0.50 -0.70 -5.90% Value stocks (HML) 0.20 0.40 -6.35% Momentum stocks (WML) 0.10 0.20 6.44% What is the active return on the managed portfolio? What is the factor return for market risk (RMRF)? What proportion of the active return is due to the market risk tilt? What proportion of the active return is due to the large cap stocks tilt (the tilt away from small cap stocks)? What proportion of the active return is due to the value stocks tilt? What proportion of the active return is due to the momentum stocks tilt? What proportion of the active return is due to the manager’s selection of individual stocks?
An investment firm uses the Carhart-Fama-French Model to track the performance of the portfolio managers in the firm. In 2019, the risk-free rate of return was 2.2% and the return on the S&P 500 (a proxy for the total market) was 28.9%. An actively managed large cap portfolio earned 32.8%, while the benchmark portfolio it was compared to earned 31.2%. The betas for the benchmark portfolio and the actively managed portfolio are: Betas Risk Factor benchmark portfolio managed portfolio factor return Market risk (RMRF) 1.00 1.05 ? Small cap stocks (SMB) -0.50 -0.70 -5.90% Value stocks (HML) 0.20 0.40 -6.35% Momentum stocks (WML) 0.10 0.20 6.44% What is the active return on the managed portfolio? What is the factor return for market risk (RMRF)? What proportion of the active return is due to the market risk tilt? What proportion of the active return is due to the large cap stocks tilt (the tilt away from small cap stocks)? What proportion of the active return is due to the value stocks tilt? What proportion of the active return is due to the momentum stocks tilt? What proportion of the active return is due to the manager’s selection of individual stocks?
Chapter8: Analysis Of Risk And Return
Section: Chapter Questions
Problem 12P
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Concept explainers
Risk and return
Before understanding the concept of Risk and Return in Financial Management, understanding the two-concept Risk and return individually is necessary.
Capital Asset Pricing Model
Capital asset pricing model, also known as CAPM, shows the relationship between the expected return of the investment and the market at risk. This concept is basically used particularly in the case of stocks or shares. It is also used across finance for pricing assets that have higher risk identity and for evaluating the expected returns for the assets given the risk of those assets and also the cost of capital.
Question
- An investment firm uses the Carhart-Fama-French Model to track the performance of the portfolio managers in the firm. In 2019, the risk-free
rate of return was 2.2% and the return on the S&P 500 (a proxy for the total market) was 28.9%. An actively managed large cap portfolio earned 32.8%, while the benchmark portfolio it was compared to earned 31.2%. The betas for the benchmark portfolio and the activelymanaged portfolio are:
|
Betas |
|||
|
Risk Factor |
benchmark portfolio |
managed portfolio |
factor return |
|
Market risk (RMRF) |
1.00 |
1.05 |
? |
|
Small cap stocks (SMB) |
-0.50 |
-0.70 |
-5.90% |
|
Value stocks (HML) |
0.20 |
0.40 |
-6.35% |
|
Momentum stocks (WML) |
0.10 |
0.20 |
6.44% |
- What is the active return on the managed portfolio?
- What is the factor return for market risk (RMRF)?
- What proportion of the active return is due to the market risk tilt?
- What proportion of the active return is due to the large cap stocks tilt (the tilt away from small cap stocks)?
- What proportion of the active return is due to the value stocks tilt?
- What proportion of the active return is due to the momentum stocks tilt?
- What proportion of the active return is due to the manager’s selection of individual stocks?
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