Chapter10

Chapter10 - Financial Management FINE 301-01/-02 Spring...

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Financial Management FINE 301-01/-02 Spring 2008 C HAPTER 10: Introduction to Risk, Return, and the Opportunity Cost of Capital Chapter Outline Rates of Return Capital Markets Measuring Risk Risk and Diversification Risk Summary Rates of Return Capital gain or loss represents the change in value For stocks the return from cash payments is the dividend yield, for bonds it is the current yield Capital Markets Market Index Tracks investment performance of specific markets or categories of investments Dow Jones Industrial Average o Price weighted average of 30 large firms o Value weighted average of 500 large companies 1 Investment Gain Capital Payment Cash Return Total + = 0 0 1 P P P Gain Capital from Return - = Price Initial Payment Cash Payment from Return =
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Consider 3 types of investment securities and the risk and return characteristics of each: US Treasury Bills Short-term government securities Short maturity leads to stable prices Considered risk-free because they are US government securities Return on T-bills used as the ‘risk-free rate’ US Treasury Bonds Long-term government securities Considered default risk-free because they are US government securities Maturity premium Issued by corporations not the government ‘risky’ investments No maturity on stocks, so, no maturity premium Risk premium Average Average Portfolio Annual ROR Premium T-bills 4.0% T-bonds 5.3% 1.2% Stocks 11.7% 7.6% th ed. p.275 Opportunity Cost of Capital Expected return from investments with the same level of risk
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This note was uploaded on 04/30/2008 for the course FINE 301 taught by Professor 2 during the Spring '08 term at Tulane.

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Chapter10 - Financial Management FINE 301-01/-02 Spring...

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