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### Ch07

Course: 15 15.407, Fall 2003
School: MIT
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Word Count: 501

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7 Chapter Historical Asset Returns Road Map Part A Introduction to Finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historical asset returns. Time value of money. Risk. Portfolio theory. Capital Asset Pricing Model (CAPM). Arbitrage Pricing Theory (APT). Part D Introduction to corporate. Main Issues Asset Returns Historic Asset Returns in U.S. 7-2...

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7 Chapter Historical Asset Returns Road Map Part A Introduction to Finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historical asset returns. Time value of money. Risk. Portfolio theory. Capital Asset Pricing Model (CAPM). Arbitrage Pricing Theory (APT). Part D Introduction to corporate. Main Issues Asset Returns Historic Asset Returns in U.S. 7-2 Historical Asset Returns Chapter 7 1 Asset Returns Dt + Pt Dt + Pt - Pt-1 = -1 Pt-1 Pt-1 Asset returns over a given period are often uncertain: rt = where Pt-1 is the price at the beginning of period Pt is the price at the end of period Dt is the dividend at the end of period. Return on an asset is often uncertain ex ante (a random variable). It can be characterized by all possible outcomes, and probability of each outcome (state). We can write Expected rate of return on an investment is the discount rate for its cash flows: E[rt] rF + where rF is the risk-free interest rate (time value of money) is the risk premium (price of risk). 15.407 Lecture Notes Fall 2003 c Jiang Wang Chapter 7 Historical Asset Returns 7-3 2 Historical U.S. Asset Returns Four facts from history of U.S. finanical markets: 1. Real interest rate has been slightly positive on average. 2. Return on more risky assets has been higher on average than return on less risky assets: Average Annual Total Returns from 1926 to 2000 (Real) Asset Mean (%) StD (%) T-bills 3.9 3.2 Long term T-bonds 5.7 9.4 Long term corp. bonds 6.0 8.7 Large stocks 13.0 20.2 Small stocks 17.3 33.4 Inflation 3.2 4.4 Average Annual Total Returns from 1926 to 2000 (Real) Asset Mean (%) StD (%) T-bills 0.8 4.1 Long term T-bonds 2.7 10.6 Long term corp. bonds 3.0 9.9 Large stocks 9.7 20.3 Small stocks 13.8 32.8 c Jiang Wang Fall 2003 15.407 Lecture Notes 7-4 Historical Returns Chapter Asset 7 Return Indices of Investments in the U.S. Capital Markets Real returns from 1926 to 2000 Security T-Bills Long Term T-Bonds Corporate Bonds Large Stocks Small Stocks Initial Total Return \$1.00 1.53 \$1.00 3.81 \$1.00 5.54 \$1.00 154.95 \$1.00 508.17 15.407 Lecture Notes Fall 2003 c Jiang Wang Chapter 7 Historical Asset Returns 7-5 3. Returns on risky assets can be highly correlated to each other: Cross Correlations of Annual Nominal Returns (1926 2000) Bills T-bonds C-bonds L. stocks S. stocks Inflation T-bills 1.00 0.24 0.22 -0.03 -0.10 0.41 L.T. T-bonds 1.00 0.91 0.16 0.00 -0.14 L.t. C-bonds 1.00 0.24 0.09 -0.15 Large stocks 1.00 0.79 -0.03 Small stocks 1.00 0.08 Inflation 1.00 Cross Correlations of Annual Real Returns (1926 2000) Bills T-bonds C-bonds L. stocks S. stocks T-bills 1.00 0.58 0.59 0.12 -0.06 L.T. T-bonds 1.00 0.95 0.24 0.04 L.t. C-bonds 1.00 0.30 0.12 Large stocks 1.00 0.79 Small stocks 1.00 c Jiang Wang Fall 2003 15.407 Lecture Notes 7-6 Historical Asset Returns Chapter 7 4. Returns on risky assets are serially uncorrelated. Serial Correlations of Annual Asset Returns (1926 2000) Serial Correlation Asset Nominal return Real return T-bills ("risk-free") 0.92 0.67 Long term T-bonds -0.06 0.03 Long term corp. bonds 0.07 0.18 Large stocks 0.00 -0.00 Small stocks 0.08 0.05 (Note: The main source for the data in this subsection is Stocks, bonds, bills and inflation, 2000 Year Book, Ibbotson Associates, Chicago, 2000.) 15.407 Lecture Notes Fall 2003 c Jiang Wang Chapter 7 Historical Asset Returns 7-7 3 Homework Readings: BKM Chapter 5.3-5.4. BM Chapter 7.1. BKM Chapter 5. Readings package: "Risk and return in the 20th and 21st centuries" (E. Dimson, P. Marsh, and M. Staunton). c Jiang Wang Fall 2003 15.407 Lecture Notes
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MIT - 15 - 15.407
Part CTime and RiskIntroduction to Part C Time Value and Price of RiskI. Premise in Previous DiscussionsSo far in the course, we have said that: 1. Prices of cash flows with different timing and risk are determined in financial markets. 2. Prices of a
MIT - 15 - 15.407
Chapter 8 Time Value of MoneyRoad Map Part A Introduction to Finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historical asset returns. Time value of money. Risk. Portfolio theory. Capital Asset Pricin
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Chapter 9 RiskRoad Map Part A Introduction to Finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historic asset returns. Time value of money. Risk. Portfolio theory. Capital Asset Pricing Model (CAPM). A
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Chapter 10 Portfolio TheoryRoad Map Part A Introduction to finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historic asset returns. Time value of money. Risk. Portfolio theory. Capital Asset Pricing Mo
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Chapter 11 Capital Asset Pricing Model (CAPM)Road Map Part A Introduction to finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historic asset returns. Time value of money. Risk. Portfolio theory. Capital
MIT - 15 - 15.407
Chapter 12 Arbitrage Pricing Theory (APT)Road Map Part A Introduction to finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Historical asset returns. Time value of money. Risk. Portfolio theory. Capital As
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Chapter 13 Efficient Market HypothesisRoad Map Part A Introduction to Finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Part D Introduction to corporate finance.Efficient Market Hypothesis (EMH). Capital
MIT - 15 - 15.407
Part DCorporate FinanceIntroduction to Part D Corporate FinanceI. Review of ValuationWe have learned at the outset of the course that: Corporate financial decisions often reduce to valuing CFs. Values of CFs are determined in financial markets.We ha
MIT - 15 - 15.407
Chapter 14 Capital BudgetingRoad Map Part A Introduction to finance. Part B Valuation of financial assets, given discount rates. Part C Determination of discount rates. Part D Introduction to corporate finance. Efficient Market Hypothesis (EMH). Capita
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Chapter 15 Real OptionsRoad Map Part A Introduction to finance. Part B Valuation of financial assets, given discount rates. Part C Determination of discount rates. Part D Introduction to corporate finance. Efficient Market Hypothesis (EMH). Capital budg
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Chapter 16 Financing DecisionsRoad Map Part A Introduction to finance. Part B Valuation of assets, given discount rates. Part C Determination of discount rates. Part D Introduction to corporate finance. Efficient Market Hypothesis (EMH). Capital investm
MIT - 15 - 15.407
15.407 Finance TheoryJiang Wang Due: 4 p.m., Friday, October 17, 2003Bemus Investment Management (BIM)Bemus Investment Management (BIM) manages portfolios for institutional investors (primarily corporate pension plans) and wealthy individuals. BIM is l
MIT - 15 - 15.407
Q3 Stock Price 152.09 132.25 115 100 95 90.25 85.74 109.25 103.79 125.64European Put 0 0 0 1.54 3.23 6.79 14.26 American Put 0 0 2.38 5 9.75 0 0 100 14.26 0 100 0 0 0 0Q3 Stock Price 112.25 115 100 95 70.25 89.25Stock price path 129.09 up up up 106.64
MIT - 15 - 15.407
Inputs sigma r S0 K T Call - European Put - Europeann 40% dt 5% PV (1 step) 45 u 50 d 1p Binomial Price 6.2170 Call - American 2.5615 Put - American5 d1 0.0616 0.2000 d2 -0.3384 0.9900 N(d1) 0.5246 1.1959 N(d2) 0.3675 0.8362 N(-d1) 0.4754 0.4833 N(-d2)
MIT - 15 - 15.407
Date amzn bpt c ca cvx ed emn f 1-Nov-03 56.74 21.24 21.24 23.93 73.93 41.1 32.38 1-Oct-03 54.43 20.8 20.8 23.52 74.3 40.47 32.46 2-Sep-03 48.43 19.15 19.15 26.11 71.45 40.76 33.5 1-Aug-03 46.32 19.36 19.36 25.63 72.87 39.53 35.37 1-Jul-03 41.64 17.91 17.
MIT - 15 - 15.407
Mat Feb Aug Feb Aug Feb Aug Feb Aug Feb Aug2004 2004 2005 2005 2006 2006 2007 2007 2008 2008Mths to mat. Coupon Coupon pay price Days Acc.Acc. Int Dirty Price Ask 5 4.75 2.38 101.53 30 0.4 101.93 11 2.13 1.06 100.97 30 0.18 101.15 17 7.5 3.75 108.72 30
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aa 3-Nov-03 1-Oct-03 2-Sep-03 1-Aug-03 1-Jul-03 2-Jun-03 1-May-03 1-Apr-03 3-Mar-03 3-Feb-03 2-Jan-03 2-Dec-02 1-Nov-02 1-Oct-02 3-Sep-02 1-Aug-02 1-Jul-02 3-Jun-02 1-May-02 1-Apr-02 1-Mar-02 4-Feb-02 2-Jan-02 3-Dec-01 1-Nov-01 1-Oct-01 4-Sep-01 1-Aug-01
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aa 3-Nov-03 1-Oct-03 2-Sep-03 1-Aug-03 1-Jul-03 2-Jun-03 1-May-03 1-Apr-03 3-Mar-03 3-Feb-03 2-Jan-03 2-Dec-02 1-Nov-02 1-Oct-02 3-Sep-02 1-Aug-02 1-Jul-02 3-Jun-02 1-May-02 1-Apr-02 1-Mar-02 4-Feb-02 2-Jan-02 3-Dec-01 1-Nov-01 1-Oct-01 4-Sep-01 1-Aug-01
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MIT Sloan School of ManagementJ. Wang E52-456 15.407 Fall 2003Trading Game Instructions and TipsThis is a step by step instruction sheet for how you should enter trades for the 15.407 Trading Game: 1. Login to your account with you pre-specified user i
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Extra Recitation Trading Game StrategyJiro E. KondoPreview of Recitation Brief Overview of the Case. First Step: Analyzing your Assets and Liabilities. Ways to assess the value of your liabilities. Nature of your investment problem. Hazard #1: Don't
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I'd also like to state that I'm not trying to spark any arguments with my response, this is just simply my opinion on the topic given, please respect it. If I had a good memory while christ was alive, I'd write down accurate records of what he did and how
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1.The bureaucracy is supposed to:make policies that civil servants think are necessary. operate only on partisan standards of action. execute policies made by Congress and the President. spend a lot of money doing jobs it decides to do.Score: 1 of 12.