Obiectives At the end of today' s lecture you should be able to discuss the terms risk and 'expected return distinguish between 'ex ante and 'ex post data calculate expected return and risk for a single asset and a portfolio explain risk-return relationships discuss the concepts of utility theory and portfolio theory and their application to investment decision making; calculate covariance and the correlation coefficient and calculate the coefficient of variation
Objectives At the end of today’s lecture you should be able to: ◼ discuss the terms ‘risk’ and ‘expected return’; ◼ distinguish between ‘ex ante’ and ‘ex post’ data; ◼ calculate expected return and risk for a single asset and a portfolio; ◼ explain risk-return relationships; ◼ discuss the concepts of utility theory and portfolio theory and their application to investment decision making; ◼ calculate covariance and the correlation coefficient; and ◼ calculate the coefficient of variation
Return The financial outcome of an investment Represents the increase in investment value over a given period of time P-P,+C t-1
Return ◼ The financial outcome of an investment. ◼ Represents the increase in investment value over a given period of time. t-1 t t-1 t t P P - P C k + =
Return Expected return and required rate of return are ex ante values Actual return is an ex post value In an efficient market, expected return required rate of return Actual return may be >, =or the expected or required return
Return ◼ Expected return and required rate of return are ex ante values. ◼ Actual return is an ex post value. ◼ In an efficient market, expected return = required rate of return. ◼ Actual return may be >, = or < the expected or required return
Risk Risk is the chance that the actual outcome will differ from the expected outcome An investment is considered to be risKy when its return could be any number of possibilities
Risk Risk is the chance that the actual outcome will differ from the expected outcome. An investment is considered to be RISKY when its return could be any number of possibilities
Sources of risk Interest rate risk Financial risk Market risk Liquidity risk Inflation risk ■ Exchange rate risk Business risk Country risk
Sources of Risk ◼ Interest rate risk ◼ Market risk ◼ Inflation risk ◼ Business risk ◼ Financial risk ◼ Liquidity risk ◼ Exchange rate risk ◼ Country risk