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Risk of Historical Rates of Return

Risk of Historical Rates of Return - Risk of Historical...

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1-1 Risk of Historical Rates of Return where, σ 2 = the variance of the series HPY i = the holding period yield during period i E(HPY) = the expected value of the HPY equal to the arithmetic mean of the series (AM) n = the number of observations Given a series of historical returns measured by HPY, the risk of returns is measured as: n / HPY)] ( E HPY [ 2 n 1 i i 2 - = = σ
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1-2 Determinants of Required Returns Three Components of Required Return: The time value of money during the time period The expected rate of inflation during the period The risk involved See Exhibit 1.5 Complications of Estimating Required Return A wide range of rates is available for alternative investments at any time.
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1-3 Determinants of Required Returns The Real Risk Free Rate (RRFR) Assumes no inflation. Assumes no uncertainty about future cash flows. Influenced by time preference for consumption of income and investment opportunities in the economy Nominal Risk-Free Rate (NRFR) Conditions in the capital market Expected rate of inflation
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