# FIN2601 - SU4 - Risk and Return

### Description

FIN2601 - Financial Management Flashcards on FIN2601 - LU4 - Risk and Return, created by Marinda Steenkamp on 10/09/2016.
Flashcards by Marinda Steenkamp, updated more than 1 year ago
 Created by Marinda Steenkamp about 8 years ago
37
0

## Resource summary

 Question Answer Define 'Risk' Risk relates to the chance of loss; to the variability of returns associated with a given asset. The more certain the return, the less variability and the less risk. Give an example of a risk-free asset Government Bonds Define 'Return' It is the total gain or loss experienced on an investment over a given period of time. How is 'return' calculated? the asset's cash distributions during the period + change in value / its beginning-of-period investment value Provide the formula for calculating the rate of return earned on any assets over a period of time rt = Ct + Pt - Pt-1 / Pt-1 rt -actual, expected or required rate of return Ct - cash flows received from the investment Pt - price (value) of asset at time t Pt-1 - price (value) of asset at time t-1 Explain the difference between a realised and unrealised return. Realised return - asset is purchased and sold during the time measured. Unrealised return - return that could have been realised if an asset had been purchased and sold during the period measured. What does CAPM stand for? Capital Asset Pricing Model Explain the a 'risk-averse' financial manager, which most managers are. The increase in possible return does not justify the higher risk because these managers shy away from risk and seek stability. Explain the a 'risk-indifferent' financial manager. They require no change in return for an increase in risk. Explain the 'rational investor' type of financial manager The required return increases for an increase in risk. These mangers require higher expected returns to compensate them for taking greater risk. How do we assess risks? By looking at expected-returns, as well as scenario analysis and probability distribution How do we measure risk quantitatively? Using statistical formulas such as the standard deviation the coefficient of variation it measures the variability of assets return. Explain scenario analysis it throws several scenarios at the risk to determine its worst, expected and best outcomes and returns. How is an asset's risk measured through the use of 'the range'? You would take the optimistic outcome and subtract the pessimistic outcome. The higher the range, he riskier the investment Explain probability distributions It indicate the probability/chance that an outcome could occur. It gives a more quantitative insight into an asset's risk. Explain the statistical indicator, Standard Deviation (σr) Formula included it measures the dispersion around the expected value the higher the standard deviation, the greater the risk Explain the expected value of return. Formula included It is the most likely return on an asset. Explain Coefficient of variation. Formula included It is a measure of relative dispersion that is useful in comparing the risks of assets with differing expected returns the higher the CV, the greater the risk, the greater the expected return. Explain the financial manager's goal with regards to creating an efficient portfolio. He needs to create a portfolio that maximises return for a given level of risk or minimises risk for a given level of return. Explain the return on a portfolio. formula included It is a weighted average of the returns on the individual assets from which it is formed. Explain Standard Deviation of a portfolio's returns. Formula included You apply the normal formula for a single asset when probabilities are known. The following formula is used when the outcomes are known and their related probabilities are assumed to be equal. Provide the definition of correlation it is a statistical measure of the relationship between any two series of numbers representing data of any kind. Explain positive correlation It describes two series that move in the same direction. Explain negative correlation Describes two series that move in the opposite directions. Explain Correlation Coefficient. A measure of the degree of correlation between two series. +1 = perfectly positively correlated -1 = perfectly negatively correlated What is the purpose of Diversification? It assist in reducing the risk in the portfolio. "Not having all your eggs in one basket scenario" Explain Capital Asset Pricing Model (CAPM) It is the basic theory that links risk and return for all assets. Explain the difference between 'diversifiable risk' and 'non-diversifiable risk' Diversifiable risk - Strikes, litigation, loss of key contracts, etc Non-diversifiable risk - Ware, inflation, political events, etc Explain Beta or Beta Coefficient (b) It measures non-diversifiable risk. It is and index of the degree of movement of an asset's return in response to a change in the market return. The equation for the CAPM is

### Similar

'The Merchant of Venice' - William Shakespeare
All the Countries of the World and their Capital Cities
Geography - Unit 1A
Korean Grammar Basics
GCSE Biology 4 OCR - The Processes of Life
HRCI Glossary of Terms O-Z
Edexcel Additional Science Chemistry Topics 1+2
Maths GCSE - What to revise!
GCSE Maths: Statistics & Probability
Using GoConqr to study Maths
Study tips/hacks