Risk Managemant

In: Business and Management

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Business and Management
Assignment #2: Risk Assessment, Portfolio Management
Dr. Bliss
Strayer University
Corp. Investment Analysis—FIN550
July 27, 2011
Assignment #2: Risk Assessment, Portfolio Management
1. You are given the following long-run annual rates of return for alternative investment instruments:
• US Government T-Bills 3.5%
• Large-cap common stocks 12.1%
• Long-term corporate bonds 6.2%
• Long-term government bonds 5.6%
• Small-capitalization common stock 14.6%
The annual rate of inflation during the period was 2.9%. Compute the real rate of return on these investment alternatives.
Invest. Category Rate of Return Rate of Inflation Real Rate of Return(return - Inflation)
U.S. Gov. T-Bills 3.50% 2.90% 0.60%
Lg.-cap CS 12.10% 2.90% 9.20%
L.T. Corp. Bonds 6.20% 2.90% 3.30%
L.T. Gov. Bonds 5.60% 2.90% 2.70%
Small-Cap. CS 14.60% 2.90% 11.70%
2. The following are the monthly rates of return for Nike and JNJ
Using an excel spreadsheet, compute the following:
a. Average monthly rate of return for each stock
b. Standard deviation of returns for each stock
c. Covariance between the rates of return
d. The correlation coefficient between the rates of return
Month Nike JNJ
1 -5% 8%
2 3% -1%
3 -6% -2%
4 9% 11%
5 -2% -4%
6 3% 6%
Mean 33% 3%
Standard Deviation 5.72% 6.13%
Covariance 0.00146667
Correlation Coefficient 0.50218801
3. Based on five years of monthly data, you derive the following information for the companies listed:
a. Compute the beta coefficient for each stock
b. Assuming a risk free rate of 5 percent and an expected return for the market portfolio of 12 percent, compute the expected (required) return for all the stocks.
c. Plot the following estimated returns for the next year on the SML and indicate which stocks are undervalued or overvalued.
• Johnson and Johnson—15%

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