Risk+and+Return

Risk+and+Return - Risk and Return Reading: Chapter 5...

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Risk and Return Reading: Chapter 5

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2 Holding Period Return Payment Cash D Price Ending P Price Beginning P P D P P HPR 1 1 0 0 1 0 1 = = = + =
3 Average Return over Time An average of the period-by-period holding-period returns on an investment Two ways of averaging Arithmetic Geometric

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4 Example: What are the average period-by-period returns? t=0 t=1 t=2 | | | (\$50) \$2 \$54+2 (\$53) \$54+2 Time-weighted Returns: An Example
5 Time Weighting: Arithmetic Average Arithmetic Average: Note: Arithmetic average ignores compounding. It is appropriate to use as an expectation over one period. n r r r r n 2 1 A + + + =

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6 Time Weighting: Geometric Average Geometric Average Note: Geometric average takes into account compounding. It is appropriate to use over time. ( )( ) [ ] 1 r 1 r 1 r 2 1 2 1 G + + =
7 Example Year Beginning Value Ending Value HPR 1 50 100 1.00 2 100 50 -0.50

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8 Arithmetic Average vs. Geometric Average always r r G A How much the difference is depends on the variance of the return! The more volatile the return, the larger the difference.
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This note was uploaded on 01/17/2012 for the course MGMT 141 taught by Professor Chernyshoff,n during the Fall '08 term at UC Irvine.

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Risk+and+Return - Risk and Return Reading: Chapter 5...

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