BADM 7090 IIA 2011 - Risk & Return (Cap Mkts, Risk, & Return)

BADM 7090 IIA 2011 - Risk & Return (Cap Mkts, Risk, & Return)

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BADM 7090 Financial Management Unit II.A Text material: GSM, Ch. 5 D. Chance
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 2 of 62 Questions What are the characteristics of the returns on financial assets over time? How do return and risk change as securities are combined into portfolios?
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 3 of 62 A Brief Look at the History of Financial Asset Returns The most visible measure of the stock market is the Dow Jones Industrial Average. Here is the DJIA from 1928 through 2009. The Dow is, however, a very poor measure because it is only 30 stocks and is biased by the highest priced stocks. **This page updated
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 4 of 62 A Brief Look at the History of Financial Asset Returns (cont.) Market value indexes such as the S&P 500 are better measures because they are weighted by the market values of the stocks, which represents the sizes of the companies. Fig 5.1, p. 156 . As we will see later, this type of weighting is more appropriate. It is often called value-weighting , market-value weighting , or cap - (for capitalization) weighting. See MBATN10-01 .
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 5 of 62 A Brief Look at the History of Financial Asset Returns (cont.) Note that $1 invested in the S&P 500 in 1900 was worth $14,276 at the end of 2008 (it was worth over $21,000 at the end of 2007). $1 invested in government bonds was worth $242, $1 invested in treasury bills (short-term government bonds) was worth $71. By comparison, the price of a $1 item in 1900 was $24 at the end of 2008. Note that with the exception of France, the returns on government bonds and treasury bills exceeded the inflation rate. The real value of such investments can be found by dividing the final value by the value of the inflation series. Thus, in the U. S. in 2008, stocks were worth approximately $14,276/$24 = $595, government bonds were worth $242/$24 = $10, and bills were worth $71/$24 = $3. The following table shows the nominal and real values of investments in 2008 of one unit of the currency invested in 1900. (Note: one unit of each currency does not have equivalent value.)
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 6 of 62 A Brief Look at the History of Financial Asset Returns (cont.) Nominal Values Real Values Stocks G-bonds G-bills Stocks G-bonds G-bills U.S. $14,276 $242 $71 $594.83 $10.08 $2.96 U.K. £15,339 £309 £214 £222.30 £4.48 £3.10 Netherlands €3,376 €104 €52 €140.67 €4.33 €2.17 Spain €22,726 €2,275 €766 €43.71 €4.38 €1.47 France €66,484 €1,777 €95 €30.07 €0.80 €0.04 Switzerland CHF990 CHF201 CHF30 CHF=82.50 CHF16.75 CHF2.50
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Version: 1/3/11 D. Chance – BADM 7090 – Unit IIA p. 7 of 62 Characterizing Financial Asset Performance To fully appreciate what financial asset returns are telling us, we need to find ways to meaningfully characterize this data. How we do that depends on how people
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This note was uploaded on 02/28/2012 for the course BADM 7090 taught by Professor Staff during the Fall '08 term at LSU.

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BADM 7090 IIA 2011 - Risk & Return (Cap Mkts, Risk, & Return)

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