...to determine the risk-adjusted return of an investment portfolio. Sharpe Ratio The Sharpe Ratio introduced a method of assessing manager performance relative to risk taken. Sharpe Ratio centres on the use of a RFR, this places all mangers on a level playing field regardless of style. (Expected Portfolio Return – RFR) / Portfolio Standard Deviation Hypothetically, investors should always be able to invest government bonds and obtain the RFR. The sharpe ratio determines the expected realized return over that minimum. Within the risk-reward framework of portfolio theory, higher risk investment should produce high returns. As a result, a high Sharpe ratio indicates superior risk adjusted performance. Sharpe ratio measures a portfolio’s added value relative to its total risk. (A portfolio of risk free assets or one with an excess return of zero would have a Sharpe ratio of zero.) Sharpe ratio was based on portfolio theory, it is designed to be applied to investment strategies that have normal expected return distributions, it is not suitable for measuring investments that are expected to have asymmetric returns. Information Ratio (Portfolio Return – Benchmark Return) / Tracking Error or Active Return/Active Risk (Portfolio Return – Benchmark Return) referred to as the active return. The IR uses the SD of active returns as a measure of risk instead of the SD of the portfolio. It measures the manager’s excess return over an appropriate benchmark relative...
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...from the balance sheet and income statement. These ratios can be classified into five different subgroups: profit ratios, liquidity ratios, activity ratios, leverage ratios, and shareholder-return ratios. These ratios should be compared with the industry average or the company's prior years of performance. It should be noted, however, that deviation from the average is not necessarily bad; it simply warrants further investigation. For example, young companies will have purchased assets at a different price and will likely have a different capital structure than older companies. In addition to ratio analysis, a company's cash flow position is of critical importance and should be assessed. Cash flow shows how much actual cash a company possesses. Profit Ratios Profit ratios measure the efficiency with which the company uses its resources. The more efficient the company, the greater is its profitability. It is useful to compare a company's profitability against that of its major competitors in its industry. Such a comparison tells whether the company is operating more or less efficiently than its rivals. In addition, the change in a company's profit ratios over time tells whether its performance is improving or declining. A number of different profit ratios can be used, and each of them measures a different aspect of...
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...Performance Measures Introduction Performance measurement is a system and vital process to evaluate and record results and the success of goals. Historically, performance measures have been indicator that is used in measuring an organizations performance. Identifying the research of performance evaluations, employee turnover, profit/loss, return on investment, market share, size of company in comparison to competitors, product rate of failure and customer satisfaction survey in the critique of a company or organizations. The organizations innovation, total quality management, and controlling operation within a company. This section covers why measuring performance for the selected measures are useful and important to improve the awareness of the effect in an organization. It is important to know where the strengths and weakness are in an organization and the balance of key essential performance measurement system. Performance Evaluations The primary purpose of performance evaluations is to provide feedback to employees on their current productivity, and identify areas in which an employee can improve on their future productivity. (Albright, 2009) Individual performance evaluations allow Human Resources the ability to measure an employee’s performance. Evaluations not only help develop individuals, but can also improve organizational performance and feed into business planning. Performance evaluations are usually conducted on an annual basis. Normally, employee evaluations...
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...Importance of Return on Investment: ROI A fter reading this chapter, you will be able to • Understand how owners view profitability • Compare the profitability of two companies • Calculate a return on investment using information about profit and investment he owners of a company and the company’s creditors share a similar goal: to increase wealth. They are thus very concerned about profitability in all phases of operations. Creditors are specifically concerned that the company use its resources profitably so that it can pay interest and principal on its debt. Owners are concerned that the company be profitable so that stock values will increase. Company managers must show they can manage the owners’ investment and produce the profits that owners and creditors demand. Because top management must meet the profit expectations of company owners, it passes down to the lower levels of management those profitability goals, which are then spread throughout the company. All managers, therefore, are expected to meet profitability goals, which are often increased and tightened as each level of management seeks a margin of safety. T 1 72056_CH01I 3/13/02 11:02 AM Page 2 ESSENTIALS of Corporate Per formance Measurement TIPS & TECHNIQUES The Accounting Equation Here are two ways to view what accountants refer to as the accounting equation that relates assets and claims to assets by creditors and owners: Investment in assets Assets Investment by...
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...United State public listed company named by Adobe System INC, Alaska Air Group INC, Apple INC, The Aes Corporation and The NewYork Mellon Corporation. For stock prices of 5 United Kingdom public listed company named by Barclay, Bg Group, Big Yellow Group, Black Mount and Bovis Homes and lastly for the stock prices of 5 Indonesia public listed company named by Astra International, Bank Central Asia, Bank Danamon Indonesia, Kimia Farma and Unilever Indonesia. We also are required to demonstrate and explain the computations of annual return, risk, Sharpe ratio, return, covariance, beta, Treynor Ratio, portfolio standard deviation, and build a graph. THEORETICAL CONCEPTS In this assignment, we used the formula of Variances, Annual, Standard Deviation, Covariance, Correlation Coefficient, Beta, Variance Of Portfolio, Risk, Sharpe Ratio, Treynor Risk 1) Variance Variance measures how far a set of numbers is spread out. The variance measures how far each number in the set is from the mean. Variance is calculated by taking the differences between each number in the set and the mean, squaring the differences (to make them positive) and dividing the sum of the squares by the number of values in the set. 2) Annual...
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...differences. 1. Current Ration= Current Assets/Current Liabilities o Because current assets and liabilities are, in principle, converted to cash within twelve months, the current ratio is a measure of short-term liquidity; the unit measure is either in dollars or times. For a creditor, the higher the current ratio, the better. For firms, the higher the current ratio indicates liquidity and also an inefficient use of cash and other short-term assets. He ratio should generally be at least one. 2. The Quick of Acid-Test Ration= (Current Assets-Inventory)/Current Liabilities o Inventory is often the least liquid current asset, it’s the one for which the book value is the least reliable as measures do market value and the quality of the inventory isn’t considered. Relatively large inventories are often a sign of short-term trouble. The firm may have overbought /over produced because of overestimated sales. Using cash to buy an asset reduces the quick ration, not the current. 3. Cash Ratio=Cash/Liabilities o Short term creditors would be interested in this ration 4. Networking capital to total assets=Net Working Capital/Total Assets o NWC is frequently viewed as the firms amount of short term liquidity 5. Interval Measure= Current Assets/Average Daily Operations Costs o...
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....CHAPTER 10 Coolbrook Company has the following information available for the past year: | | River Division | Stream Division | Sales revenue | $ | 1,200,000 | $ | 1,800,000 | Cost of goods sold and operating expenses | | 900,000 | | 1,300,000 | | | | | | Net operating income | $ | 300,000 | $ | 500,000 | | | | | | Average invested assets | $ | 1,200,000 | $ | 1,800,000 | | The company’s hurdle rate is 6 percent. | | Required: | 1. | Calculate return on investment (ROI) and residual income for each division for last year. (Do not round your intermediate calculations. Round "ROI" answers to 1 decimal place.) | River Division | Stream Division | ROI | +/-1%25.0 | % | +/-1%27.8 | % | Residual Income | $228,000 | | $392,000 | | | | | | | 2. | Recalculate ROI and residual income for each division for each independent situation that follows: | a. | Operating income increases by 10 percent. (Do not round your intermediate calculations. Round "ROI" answers to 2 decimal places.) | | | | | River Division | Stream Division | ROI | +/-1%27.50 | % | +/-1%30.56 | % | Residual Income | $258,000 | | $442,000 | | | b. | Operating income decreases by 10 percent. (Do not round your intermediate calculations. Round "ROI" answers to 1 decimal place.) | | River Division | Stream Division | ROI | +/-1%22.5 | % | +/-1%25...
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...The return from holding an investment over some period of time is simply any cash payments received due to ownership, plus the change in market price usually expressed as a percent of the beginning market price of the investment. Return comes to you mainly from two sources – income or dividend plus any price appreciation (capital gain or loss) Dt + ( Pt – Pt-1) R = Pt-1 Suppose, you buy for Tk. 100 a security that would pay Tk. 7 in cash to you and be worth Tk. 106 one year later. This return would be (7 +6)/ 100 = 13%. Risk can be defined as the variability of return from those that are expected. In financial decisions it is often helpful to have an objective measure of risk. The main reason for having measuring of risk is to enable us to make better decisions. To be useful, a risk measure should enable us to rank alternative risky ventures. If there are two possibilities being analyzed, A and B, it is often important to know whether A is riskier than B or not. A good measure of risk should also tell us how much more risky A is than B. Is A twice as risky or ten times as risky as B? Is risky at all? Risk measurement procedures are usually based on a particular method of organizing financial problem -through probability distribution. (A set of possible values that a random variable can assume and their associated probabilities of occurrence.) Suppose you are thinking about purchasing stock A, which has a current...
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...1 Return on Capital (ROC), Return on Invested Capital (ROIC) and Return on Equity (ROE): Measurement and Implications Aswath Damodaran Stern School of Business July 2007 2 ROC, ROIC and ROE: Measurement and Implications If there has been a shift in corporate finance and valuation in recent years, it has been towards giving “excess returns” a more central role in determining the value of a business. While early valuation models emphasized the relationship between growth and value – higher growth firms were assigned higher values – more recent iterations of these models have noted that growth unaccompanied by excess returns creates no value. With this shift towards excess returns has come an increased focus on measuring and forecasting returns earned by businesses on both investments made in the past and expected future investments. In this paper, we examine accounting and cash flow measures of these returns and how best to forecast these numbers for any given business for the future. 3 The notion that the value of a business is a function of its expected cash flows is deeply engrained in finance. To generate these cashflows, though, firms have to raise and invest capital in assets and this capital is not costless. In fact, it is only to the extent that the cash flows exceed the costs of raising capital from both debt and equity that they create value for a business. In effect, the value of a business can be simply stated as a function of the “excess...
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...present value,(which is the value today of a stream of payments and/or receipts over time in the future and/or past, converted to the present using an interest rate), of an investment's future net cash flows (a measure of the company’s financial health) minus the initial investment (InvestorWords.com). If positive, the investment should be made (unless an even better investment exists), otherwise it should not. An individual or a company should conduct a project or make an investment if the internal rate of return exceeds the discount rate. So there should only be participation in any investment if the discount value of the cash inflows will exceed cash outflows (InvestorWord.com). If this is the case then the project should be accepted if the internal rate of return is higher that the discount rate and thus rejected it is lower than the discount rate. Profitability index is the ratio of the present value of a project’s cash flow to the initial investment (BusinessDictionary.com). Profitability index (PI) is an investment return measurement which is comparable to net present value (NVP). The difference between the two is NPV is used to find the dollar amount difference between the sum of present values of all the future cash flows and the amount of the initial investment; the...
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...Characterizing Risk and Return * Question 1: * Proficient-level: "How do Cornett, Adair, and Nofsinger define risk in the M: Finance textbook and how is it measured?" (Cornett, Adair, & Nofsinger, 2016). Risk is defined as the volatility of an asset’s returns over time. Specifically, the standard deviation of returns is used to measure risk. This computation measures the deviation from the average return. The idea is to use standard deviation, a measure of volatility of past returns to proxy for how variable returns are expected to be in the future. The text goes on to describe total risk as “the volatility of an investment, which includes current portions of firm-specific risk and market risk. Risk can be measured by looking at historical returns. Given a range of year’s returns, a standard deviation can be calculated as the square root of the variance. Standard deviation = square root of the average deviation of returns. The larger the deviation, the higher the return volatility or higher risk. * Distinguished-level: Describe the risk relationship between stocks, bonds, and T-bills, using the standard deviation of returns as the measure of risk. The risk in the stock market is higher than the bond and cash markets according to the standard deviation measurement. Historically stocks have both the highest level of volatility and the highest average annual return. Treasury bills, generally regarded as the most risk-free investment, combine the lowest volatility...
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...from the balance sheet and income statement. These ratios can be classified into five different subgroups: profit ratios, liquidity ratios, activity ratios, leverage ratios, and shareholder-return ratios. These ratios should be compared with the industry average or the company's prior years of performance. It should be noted, however, that deviation from the average is not necessarily bad; it simply warrants further investigation. For example, young companies will have purchased assets at a different price and will likely have a different capital structure than older companies. In addition to ratio analysis, a company's cash flow position is of critical importance and should be assessed. Cash flow shows how much actual cash a company possesses. Profit Ratios Profit ratios measure the efficiency with which the company uses its resources. The more efficient the company, the greater is its profitability. It is useful to compare a company's profitability against that of its major competitors in its industry. Such a comparison tells whether the company is operating more or less efficiently than its rivals. In addition, the change in a company's profit ratios over time tells whether its performance is improving or declining. A number of different profit ratios can be used, and each of them measures a different aspect...
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...for any manager in the mutual-fund industry. By the middle of 2005, Value Trust is worth $11.2-billion. Bill Miller’s approach to investment management was research-intensive and highly concentrated. For instance, nearly 50 percent of Value Trust’s assets were invested in just 10 large-capitalization companies. While most of Bill Miller’s investments were value stocks, he was not averse to taking large positions in the stocks of growth companies. In other words, Bill Miller’s investing style is iconoclastic: “You simply can’t do what he’s done in the supremely competitive, ultra-efficient world of stock picking by following the pack…The fact is that Miller has spent decades studying freethinking overachievers, and along the way he’s become one himself.” Mutual Funds Definition A mutual fund is an investment vehicle that pooled the funds of individual investors to buy a portfolio of securities, stocks, bonds, and money-market instruments to meet specific investment objectives; investors owned a pro rata share of the overall investment portfolio (Bruner, 2007). The various investments included in a fund’s portfolio are handled by professional money managers in line with the stated investment policy of the fund. All mutual funds have a portfolio manager, or investment advisor, who directs the fund’s investments according to explicit investment objectives. Mutual Fund Types Investors have different objectives, so various types of mutual funds are needed to help them achieve...
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...Portfolio Management Financial Investment Management March 28, 2016 Introduction There are many different approaches people can take in order to get started on making preparations for retirement. Some people decide to have their savings stored away in the privacy of their own homes, some may open an interest bearing savings account, and the other type of people start to make investments. According to Gitman, an investment is defined as simply any asset into which funds can be placed with the expectation that it will generate positive income and/ or preserve or increase its value. Investments can come in different forms and depending on whether you chose to invest in, being a company or a government entity, will determine the type of investments you will have access to. (2011). One of the types of investments are securities and they could be issued by firms, a government entity, or other organization. The most common of these are either stocks or bonds, also in some instances stock options are available as well. Property, another investment type, comes in the form of real property or personal tangible personal property like gold, artwork, antiques, and things of that nature. There is a type of an investment know as direct and indirect investments. How to differentiate between the two is direct investment is where the investor directly acquires a claim on a security or property, while with an indirect investment is when a collection of securities or properties are...
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...Risk and Return Concepts Prepared by: JQY Risk and Return Concepts • Measures of risk and returns • Portfolio risk and returns • CAPM Return – what is earned on an investment: the sum of income and capital gains generated by an investment. Risk – possibility of loss; the uncertainty that the anticipated return will not be achieved. Risk and Return? If you have PHP 1,000,000, will you invest in: 5% 20% Risk and Return General Rule of Thumb: More Risk = More Returns Less Risk = Less Returns It depends on the investor: Risk Seeking – prefers high risk investments Risk Neutral – willing to take on moderate risk Risk Averse – conservative, unwilling to take on high risk investments unless the returns justify and compensates for the high risk taken. Relative Risk & Returns of Asset Classes Source: http://www.weblivepro.com/articles/cpp/cppinfo.aspx Measures of Returns • Historical Returns ▫ Holding Period Return ▫ Alternative Measures Arithmetic Mean Geometric Mean Harmonic Mean • Expected Returns Measuring Historical Returns • Holding Period Return ▫ Total return on an asset or portfolio over the period during which it was held ▫ HPR = MV1 – MV0 + D MV0 MV1 = market value, end MV0 = market value, beginning D = cumulative cash distributions (at the end of period) • Annualized HPR ▫ (1 + HPR) ^ 1/n – 1 Measuring Historical Returns • Example: Mr. A bought an asset in 2005 for P100. He kept it...
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