ECON 136: Financial Economics
Section 1 (Aug 28th)
Xing Huang
1
Economics Department, UC Berkeley
1 General Information
GSI: Xing Huang
Email: [email protected] (Please write "Econ 136" in the subject)
Section Times and Locations:
Fri 1pm  2pm, 106 Wheeler
Fri 4pm  5pm, 101 Wheeler
O¢ ce Hours:
Fri 2pm  4pm, 6081 Evans
2 Return
Notation
Gross simple return
1 +
R
t
+1
P
t
+1
+
D
t
+1
P
t
Net simple return
R
t
+1
P
t
+1
+
D
t
+1
P
t
±
1 =
P
t
+1
P
t
P
t
(capital gain)
+
D
t
+1
P
t
(dividend yield)
Gross compound return
1 +
R
t;t
+
s
(1 +
R
t
+1
)(1 +
R
t
+2
)
: : :
(1 +
R
t
+
s
)
Arithmetic average return
R
A
t;t
+
s
1
s
²
s
X
i
=1
R
t
+
i
Geometric average return
R
G
t;t
+
s
s
v
u
u
t
s
Y
i
=1
(1 +
R
t
+
i
)
±
1
Log simple return
r
t
+1
log(1 +
R
t
+1
)
Log compound return
r
t;t
+
s
r
t
+1
+
r
t
+2
+
: : :
+
r
t
+
s
Arithmetic average log return
r
t;t
+
s
1
s
²
s
X
i
=1
r
t
+
i
= log(
R
G
t;t
+
s
+ 1)
1
Thank you all very much !!
1
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View Full Document2.2 Nominal Return and Real Return
Nominal Return:
P
t
+1
+
D
t
+1
P
t
Real Return:
(
P
t
+1
+
D
t
+1
)
=CPI
t
+1
P
t
=CPI
t
=
1+
R
t
+1
t
+1
±
e
R
t
+1
t
+1
±
1 +
R
t
+1
²
t
+1
Log Real Return:
Log
(
P
t
+1
+
D
t
+1
)
=CPI
t
+1
P
t
=CPI
t
=
r
t
+1
²
t
+1
3 Probability and Statistics Review
3.1 Random Variables
In ±nance we typically model the return of a ±nancial asset as a random variable. A random vari
able can be thought of as a listing of possible numerical values as well as the probability that those
values will occur.
Formally, a random variable is a function that maps possible states of the world into real
numbers. The probabilities express the likelihood that each of those states will occur. For example,
imagine that over the next year four possible things can happen with the following probabilities:
there is a 40% chance that both oil prices and GDP increase, there is a 20% chance that oil prices
decrease while GDP increases, there is a 30% chance that oil prices increase while GDP decreases,
and ±nally there is a 10% chance that both oil prices and GDP decrease. The following table labels
each possible state (
s
1

s
4
) and shows its probability.
s
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 Fall '08
 SZEIDL
 Economics, Probability distribution, Probability theory, probability density function, Oil prices, net simple return

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