week 04 Case Study & CAPM_6

week 04 Case Study & CAPM_6 - Sarah Wolfe Risk and...

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Risk and Return Case Study & the CAPM ± Key messages ² Diversification ² Portfolio optimization ² Single index model Last Lecture ± Mechanics of the efficient frontier ± Economics of the efficient frontier ± Portfolio formation in practice ² Is the Markowitz model useless? 8/3/2010 2 Case Background ± What is Beta Management Company? ² An investment management company in a Boston suburb. ² Years in business? Week 4 FINS5513 3 ² $value under management? ² Stated goals? ² Main strategy? ² Range of market exposure? ² Current exposure to S&P500? ² Current concern? Sarah Wolfe ± Why market timing? ² How can she “add value”? ± What is she trying to accomplish with her gradual addition of stock-picking? ² How would this change the risk-return characteristics of her current portfolio? ± Is she a momentum or a contrarian investor? ² Is it easier to predict price continuation or reversal? Week 4 FINS5513 4 Stock Selection ± Why small stocks? ± California R.E.I.T. ± Brown Group, Inc. ± How much to invest? How much to invest? ± Which one? ² Impact on portfolio return ² Impact on portfolio risk Week 4 FINS5513 5 Total Risk ± What are the sample standard deviations of CALREIT, Brown, and SP500? ² Which investment is the riskiest? ² Which investment needs to provide the highest return in order to attract investors? ² Why are the stocks so much riskier than the market? Week 4 FINS5513 6
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Portfolio Risk ± Construct a portfolio with 99% in SP500 and 1% in either CALREIT or Brown. What are the standard deviations of these portfolios? ² Which investment is riskier? ± What are the estimated betas of CALREIT and Brown? ± For Sarah Wolfe, what returns are required from CALREIT and Brown in order to hold these stocks? Week 4 FINS5513 7 Expected Return and Risk ± Currently 99% of the $20 million is in SP500 ² Standard deviation = 0.99×4.59% = 4.55% ± Change in portfolio risk 100%SP 99%SP+1%CalREIT 99%SP+1%Brown ± Which one should Sarah choose? ² Selection criteria: return per unit of additional risk ² The highest among Week 4 FINS5513 8 St Dev 4.59% 4.55% 4.60% Increment 0.046% 0.0057% 0.054% . 054 . 0 r - r and , 0057 . 0 r - r , 046 . 0 r - r f B f C f M Expected Return and Risk ± Ex ante, the required return satisfies ± Required returns for holding CALREIT . 054 . 0 r r ( E = 0057 . 0 r r ( E = 046 . 0 r r ( E f B f C f M - ) - ) - ) ± Required returns for holding Brown ± Note that 0.12 ≈β C and 1.18 β B Week 4 FINS5513 9 ] r r ( E [ × 12 . 0 = ] r r ( E [ × 046 . 0
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This note was uploaded on 01/24/2011 for the course FINS 5513 taught by Professor Wangjianxin during the Three '10 term at University of New South Wales.

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week 04 Case Study & CAPM_6 - Sarah Wolfe Risk and...

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