Financial Management
Financial Management
Question 1
Explain, with examples, how you would measure risk of a single asset
Definition
The general definition of the risk is as volatility, measured by standard deviation. However, it is not easy to define the concept of risk. It exists the future is uncertain, the investment result have probability to loss or have any changing. The estimated return will not be achieved.
Volatility which is equal to risk seems to be the common approach from trading. The smaller standard deviation, the tighter is probability distribution of the rate return. Therefore, the lower is the risk of the investment. The two parameters of the distribution are the expected return and the standard deviation.
Advantage & Disadvantage
The two aspects of risk is there a reward for bearing risk and the greater the potential reward, the greater is the risk.
However, all the past performance only a guide for future performance, thus, the risk & rewards is not guarantee.
Expected return
Definition
"Risk must be exists in an expected return, and the different from investment decision forecast must exists risk." (Eugene F. Brigham & Louis C. Gapenski, 1994) The expected value of an investment is simply the average of a set of values weighted according to the familiar of occurrence. The method of calculates may be used to find expected sales or the expected cost of breakdowns for a machine or even the expected net present value of a whole project. It is able to get all the outcomes or cash flows to be considered and incorporated into a final expected value.
Formula
The formula of expected return:
Expected Return = P1 x R1 + P2 x R2 + Pn x Rn
Where
P1= Probability of investment 1
R1=Expect return from investment 1
Example
There are 3 states of the economy: State Probability A&B C&D
RecessionNormalBoom 0.30.40.5 -10%15%30% -30%13%20%
A&B Expected return is =(0.3*-10%)+(0.4*15%)+(0.5*30%)= 18%
C&D Expected return is =(0.2*-30%)+(0.35x*13%)+(0.45*20%)=7.55%
Question 1
Explain, with examples, how you would measure risk of a single asset
Definition
The general definition of the risk is as volatility, measured by standard deviation. However, it is not easy to define the concept of risk. It exists the future is uncertain, the investment result have probability to loss or have any changing. The estimated return will not be achieved.
Volatility which is equal to risk seems to be the common approach from trading. The smaller standard deviation, the tighter is probability distribution of the rate return. Therefore, the lower is the risk of the investment. The two parameters of the distribution are the expected return and the standard deviation.
Advantage & Disadvantage
The two aspects of risk is there a reward for bearing risk and the greater the potential reward, the greater is the risk.
However, all the past performance only a guide for future performance, thus, the risk & rewards is not guarantee.
Expected return
Definition
"Risk must be exists in an expected return, and the different from investment decision forecast must exists risk." (Eugene F. Brigham & Louis C. Gapenski, 1994) The expected value of an investment is simply the average of a set of values weighted according to the familiar of occurrence. The method of calculates may be used to find expected sales or the expected cost of breakdowns for a machine or even the expected net present value of a whole project. It is able to get all the outcomes or cash flows to be considered and incorporated into a final expected value.
Formula
The formula of expected return:
Expected Return = P1 x R1 + P2 x R2 + Pn x Rn
Where
P1= Probability of investment 1
R1=Expect return from investment 1
Example
There are 3 states of the economy: State Probability A&B C&D
RecessionNormalBoom 0.30.40.5 -10%15%30% -30%13%20%
A&B Expected return is =(0.3*-10%)+(0.4*15%)+(0.5*30%)= 18%
C&D Expected return is =(0.2*-30%)+(0.35x*13%)+(0.45*20%)=7.55%