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UsefulNotes_RiskandReturn

UsefulNotes_RiskandReturn - Sessions 8 9 10 Introduction to...

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6049 Corporate Finance Lecture Slides, Academic Year 2010/2011 Sessions 8 9 and 10: Introduction to Risk Sessions 8, 9 and 10: Introduction to Risk, Return, and the Opportunity Cost of Capital Hannes Wagner
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital Chapter 8 Topics Co ered Chapter 8: Topics Covered 100 years of market data Risk and return of individual securities Risk and return of portfolios Expectations: Thi i d d h If hi i fi This is a more advanced chapter. If this is your first exposure to the material, it will be challenging. So roll up your sleeves your sleeves… Literature: BMA Chapter 8 - 2 - 6049 Corporate Finance
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital The Value of an Investment of $1 in 1900 Nominal Returns - 3 - 6049 Corporate Finance
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital The Value of an Investment of $1 in 1900 Real Returns - 4 - 6049 Corporate Finance
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital A erage Market Risk Premia (b countr ) Average Market Risk Premia (by country) Risk premium % Risk premium, % - 5 - 6049 Corporate Finance
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital Di id d Yi ld (1900 2006) Dividend Yield (1900-2006) - 6 - 6049 Corporate Finance
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital Rates of Return 1900 2006 Rates of Return 1900-2006 Stock Market Index Returns rn ge Retur rcentag Pe Year - 7 - 6049 Corporate Finance Source: Ibbotson Associates
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital Calculating returns Recall: A return is profit divided by amount invested. Formally, we have the return R as Where P 1 is the end-of-period price of the asset/investment, P 0 is the beginning-of-period price of the asset/investment, i h h di ib d h i d (di id d) D 1 is the cash distributed over the period (dividend) Throughout the chapter, the assets under consideration will be stocks But the discussion also applies to other assets such as - 8 - 6049 Corporate Finance stocks. But the discussion also applies to other assets such as investment projects!
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital Measuring Risk Coin Toss Game-calculating variance and standard deviation Coin Toss Game calculating Head: return +20% Tail: return -10% Two coin tosses (1) (2) (3) Percent Rate of Return Deviation from Mean Squared Deviation +40 +30 900 +10 0 0 +10 0 0 -20 -30 900 Variance=average of squared deviations=1800/4=450 S d d d i i f i 4 0 21 2% - 9 - 6049 Corporate Finance Standard deviation=square root of variance= 450 =21.2%
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Sessions 8, 9 & 10 Introduction to risk, return and the opportunity cost of capital A note on calculating ariance A note on calculating variance When variance (or std dev) is estimated from a sample of observed returns, the squared deviations are usually divided by N-1, where N is the number of observations.
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