Fundamentals of Financial Manageme...
Solutions
Fundamentals of Financial Manageme...
REALIZED RATES OF RETURN Stocks A and B have the following historical returns:
| Year | Stock A's Returns, rA | Stock B's Returns, rB |
| 2013 | (18.00%) | (14.50%) |
| 2014 | 33.00 | 21.80 |
| 2015 | 15.00 | 30 5O |
| 2016 | (0.50) | (7.60) |
| 2017 | 27.00 | 26.30 |
- a. Calculate the average rate of return for each stock during the period 2013 through 2017.
- b. Assume that someone held a portfolio consisting of 50% of Stock A and 50% of Stock B. What would the realized rate of return on the portfolio have been each year? What would the average return on the portfolio have been during this period?
- c. Calculate the standard deviation of returns for each stock and for the portfolio.
- d. Calculate the coefficient of variation for each stock and for the portfolio.
- e. Assuming you are a risk-averse investor, would you prefer to hold Stock A, Stock B, or the portfolio? Why?
a)
To determine: The average rate of return for every stock at the given period.
Introduction:
The required rate of return is the minimum cost that must be earned on an investment to keep the investment running in the market. When the required return is earned, only then the users and the companies can invest in that particular investment.
The formula to compute the average rate of return is as follows:
Calculation of the average rate of return for Stock A:
b)
To determine: The realized rate of return on the portfolio for every year and the average return on portfolio for the given assumptions.
Introduction:
Return on investment measures the return that an investor receives over his investment. It is calculated by dividing the return with the value of investment.
c)
To determine: The standard deviation of returns for every stock and for the portfolio.
Introduction:
Standard Deviation expresses the deviation between the participants of a group to the mean value of a group.
d)
To determine: The coefficient of variation for each stock and for the portfolio.
The coefficient of variation is a tool to determine the risk. It determines the risk per unit of return. It is used for the measurement, when the expected returns are the same for two different data.
e)
To determine: The stock or the portfolio to be chosen and the reason for it.
Introduction:
The portfolio refers to a group of financial assets like bonds, stocks, and equivalents of cash. The portfolio is held by investors and financial users. A portfolio is constructed in accordance with the risk tolerance and the objectives of the company.
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