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    Risk and Return

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    zuennamarie

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    Risk and Return

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    zuennamarie
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    risk and return

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    Risk and Return

    Uploaded by

    zuennamarie

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    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    of 15

    RISK AND RETURN

    Presented by:
    Barbara Aguilar
    Gerard Keith Igot
    LEARNING
    OBJECTIVES

    Risk and Return Concept and Relationship


    Define investment and portfolio return
    Understand the concept of expected and realized returns
    Define and identify the types of risks
    Identify different types of risk measurement
    Risk
    and
    Return

    CONCEPT RELATIONSHIP

    The amount of risk that individuals accept Among the most significant components
    is measured by the amount of money of the risk-return relationship is how it
    they can potentially lose on their initial determines investment pricing. An asset's
    investment. price represents the harmony between its
    risk of failure and its prospective return in
    a productive market.
    Investment
    Return

    Financial Performance of an investment

    Selling Price + Dividends Received (if any) - Amount Invested


    ___________________________________
    Return =
    Amount Invested

    OR
    Selling Price + Dividends Received (if any)
    Return = _________________________
    Amount Invested
    Investment
    Return

    EXAMPLE

    What is the rate of return 1-year stock investment, when P1,100 is received after one year, is 10%?

    Dividends Received
    100
    Rate of Return = _____________ = ______ = 10%
    Amount Invested 1000

    In this example, the return of 0.10, or 10 percent, indicates that each peso invested will earn
    0.10 = P0.10
    Probability
    Distribution

    An event’s probability is defined as the


    chance that the event will occur

    Outcome (1) Probability (2)

    Rain 0.4 40%

    No Rain 0.6 60%

    1.0 100%
    Expected
    and
    Realized Returns
    The amount of profit or loss an investor anticipates on an
    investment that has various known or expected rates of return

    Demand
    Possible Probability
    for
    Return Distribution
    Product
    ANSWER
    Strong 20% 0.3
    Expected Rate of Return
    =
    Normal 15% 0.4
    (20% x 0.3) + (15% x 0.4) + (10% x 0.3) = 0.15 or 15%

    Weak 10% 0.3


    Portfolio
    Return

    The expected return doesn’t just apply to single investments

    EXAMPLE With a total portfolio value of 1,000,000 the


    weights of Stock A, B and C are 50%, 20% and
    30%. Thus, the expected return of the total
    Stock A: 500,000 invested and an expected return of 15%
    portfolio is:

    Stock B: 200,000 invested and an expected return of 6% Rate of Return =


    = (50% x 15%) + (20% x 6%) + (30% x 9%)
    Stock C: 300,000 invested and an expected return of 9%
    = 7.5% + 1.2% + 2.7%
    = 11.4%
    RISK Type of Risk

    The total of risk of a security can be viewed as consisting of two parts:

    Investment risk can be defined as the


    Total security risk = Diversifiable risk + Nondiversifiable risk
    probability or likelihood of occurrence of
    losses relative to the expected return on
    any particular investment. Risk is an
    Diversifiable risk Nondiversifiable risk
    important component in assessment of
    the prospects of an investment.
    Also called Unsystematic Risk -
    represents the portion of an
    Also called Systematic Risk - is
    asset’s risk that is associated
    attributable to market factors
    with random causes that can be
    that affect all firms; it cannot be
    eliminated through
    eliminated through
    diversification.
    diversification. Factors such as
    war, inflation, international
    It is attributable to firm-specific
    incidents and political events
    events such as strikes, lawsuits,
    account for nondiversifiable risk.
    regulatory actions and loss of a
    key account
    Systematic Risk
    or
    Nondiversifiable Risk

    Interest Rate Risk Purchasing Power

    Country Risk Equity Risk

    Currency Risk Event Risk

    Inflation Risk
    Unsystematic Risk
    or
    Diversifiable Risk

    Principal Risk Credit Risk

    Liquidity Risk Call Risk

    Business Risk
    Risk
    Measurement
    In addition to considering its range, the
    risk of an asset can be measured
    quantitatively by using statistics. Here
    Standard
    Deviation
    we consider two statistics - the standard
    deviation and the coefficient variation -
    that can be used to measure the
    variability of an asset.

    σ= -2
    P(R - ∑R)

    Where:

    σ= Standard Deviation
    P= Probability
    R= Expected individual Return
    -
    R= Expected average Return
    EXAMPLE
    Standard
    ABC Ltd. shares are Deviation Compute for the Standard Deviation
    presently qouted at Rs.
    100 per share

    Economic Returns of Economic - - - 2 - 2


    Probability P R R=RXP (R - ∑R) (R - ∑R) P(R - ∑R)
    Conditions ABC Ltd. Conditions

    High Growth 0.3 100 High Growth 0.3 100 30 -12 144 43.2

    Low Growth 0.4 110 Low Growth 0.4 110 44 -2 4 1.6

    Stagnation 0.2 120 Stagnation 0.2 120 24 8 64 12.8

    Recession 0.1 140 Recession 0.1 140 14 28 784 78.4

    Expected Return = 112% 112 Variance 136

    Standard Deviation = V
    136 = 11.66%
    Coefficient
    of
    Variation
    Expected Return = 112%
    The coefficient of variation, CV, is a
    measure of relative dispersion that is
    Standard Deviation = V
    useful in comparing the risks of assets 136 = 11.66%
    with differing expected returns

    σ CV =
    11.66%
    x 100%
    CV =
    -R 112%

    Where: = 10.41%
    σ = Standard Deviation
    -R = Expected average return
    Risk of a Portfolio

    Portfolio Risk Porfolio Return

    Portfolio risk is a term used to Portfolio return refers to the gain or


    describe the potential loss of value or loss realized by an investment
    decline in the performance of an portfolio containing several types of
    investment portfolio due to various investments.
    factors, including market volatility,
    credit defaults, interest rate changes, Portfolios aim to deliver returns
    and currency fluctuations. based on the stated objectives of the
    investment strategy, as well as the
    risk tolerance of the type of investors
    targeted by the portfolio.

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