Financial Investing
In this assignment, assume that you are nearing graduation and applying for a job with a financial services firm. As part of the evaluation process, you are asked to provide answers to a series of questions on risk return and the capital asset pricing model. Your responses will be based on the data for Company A and Company B below.
|
Year |
Company A’s Return |
Company B’s Return |
Average Market Return |
|
1995 |
5.0% |
4.0% |
2.0% |
|
1996 |
4.0% |
-8.0% |
6.0% |
|
1997 |
3.0% |
2.0% |
7.0% |
|
1998 |
4.0% |
5.0% |
8.0% |
|
1999 |
8.0% |
3.0% |
9.0% |
|
2000 |
5.0% |
4.0% |
10.0% |
|
2001 |
4.0% |
1.0% |
11.0% |
|
2002 |
4.0% |
8.0% |
10.0% |
|
2003 |
4.0% |
9.0% |
9.0% |
|
2004 |
7.0% |
10.0% |
8.0% |
|
2005 |
8.0% |
-2.0% |
7.0% |
|
2006 |
9.0% |
7.0% |
6.0% |
|
2007 |
10.0% |
5.0% |
5.0% |
|
2008 |
7.0% |
4.0% |
6.0% |
|
2009 |
-4.0% |
2.0% |
7.0% |
|
2010 |
-5.0% |
11.0% |
8.0% |
Procedure
- For each company,
- Determine the mean and standard deviation of the returns.
- Calculate the coefficient of variation.
- Determine which company appears to be more volatile with respect to its risk.
- Identify the company with which you would choose to invest.
- Using the CAPM, compute the expected return rate of return for Companies A and B. Assume a Market Risk Premium of 3%, a Risk-Free Rate of 4%, a Beta for company A of .90 and a Beta for company B of 1.3.
- Using the CAPM, compute the expected rate of return for a portfolio with 25% stake in company A and a 75% stake in company B. Assume a Market Risk Premium of 3% and a Risk-Free Rate of 4%.
