Risk & Returns

MBA(FinTech) Trimester-II

GITAM FinTech Academy

GITAM University

30th November2018

Risk & Return

Leben Johnson
- What is a Stock Market

Risk & Return All pictures are courtesy CartoonStock.com

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- Who is a Trader

Risk & Return

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- What do you learn

Risk & Return

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- What are the risks

Risk & Return

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Risk & Return
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Risk & Return
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Risk & Return
Is defined as a chance that an unfavorable event will occur
-Stand-alone risk
- Portfolio Risk

Probability Distribution
Standard Deviation (σ)= Weighted average of the deviations from the expected value
Variance = σ2
Coefficient of Variance (CV) = σ / ȓ, shows the risk per unit of return

Microsoft Office
Excel Worksheet

Risk & Return

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Return
Historical Return: (Cash Gains + Price Change)
Initial Investment Cost

Average Return (Arithmetic Mean): Sum of Yearly Returns

No. of Years

Geometric Mean: [(1+R1) (1+R2) (1+R3)…]1/n - 1

(Compounded Rate of Growth)

(1 + Geometric Mean)2 = (1 + Arithmetic Mean)2 - (Standard Deviation)2

Expected Rate of Return E(Ri):

(Possible Outcomes)

Variance: =Ri – E(Ri))2

Standard Deviation: σ
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Return
Standard Deviation

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Risk
Diversification of Portfolio:
Expected Rate of Return E(Ri): W1 E(R1) + (1- W1)E(R2)
(Possible Outcomes)

Total Risk = Unique Risk + Market Risk

Measurement of Market Risk:

Beta : Sensitivity of a security to market movements.

β = Cov(Ri, Rm) / Var(Rm) , (excel it is covar and var functions)

Cov(Ri, Rm) = 𝛒im σi σm

β = 𝛒im σi σm / σ2m = 𝛒im σi / σm

Where Cov is the covariance and 𝛒 is the correlation coefficient

Risk & Return

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Risk
Portfolio Risk:
Non-Systematic Risk (Portfolio, Unique)
Systematic Risk (Market)

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Beta

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Risk
Beta from Security Market Line

As per CAPM

Expected Return on Equity = Risk-Free Return + Market Premium

E(Ri) = Rf + β[E(Rm) – Rf]

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Beta
Security Market Line: As per CAPM
E(Ri) = Rf + β[E(Rm) – Rf]

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Stock Indices
Market Capitalization Weighted
a.k.a Value Weighted
a.k.a Cap Weighted

Index = Pi * Qi
Divisor

Index Divisor is the most important factor, that is adjusted to ensure the
Index has continuity after any corp action, or change in stock.

DivisorOld = Market Value

Index Level
DivisorNew = Market Value + ChangeMarketValue
Index Level
DivisorNew = DivisorOld + ChangeMarketValue
Index Level

Nifty50 Index Details: http://nseindia.com/products/content/equities/indices/cnx_nifty.htm

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Stock Indices
Corporate Action Comments Divisor Adjustment

Company added/deleted Net change in market value determines the divisor adjustment. Yes

Change in shares outstanding Any combination of secondary issuance, share repurchase or Yes
buy back – share counts revised to reflect change.

Stock split Share count revised to reflect new count. Divisor adjustment is No
not required since the share count and price changes are
offsetting.
Spin-off If the spun-off company is not being added to the index, the Yes
divisor adjustment reflects the decline in index market value
(i.e., the value of the spun-off unit).

Spin-off Spun-off company added to the index, no company removed No

from the index.
Spin-off Spun-off company added to the index, another company Yes
removed to keep number of names fixed. Divisor adjustment
reflects deletion.
Change in Investable Weighing Increasing (decreasing) the IWF increases (decreases) the total Yes
Factor (IWF) market value of the index. The divisor change reflects the
change in market value caused by the change to an IWF.

Special Dividend When a company pays a special dividend the share price is Yes
assumed to drop by the amount of the dividend; the divisor
adjustment reflects this drop in index market value.

Rights offering Each shareholder receives the right to buy a proportional Yes
number of additional shares at a set (often discounted) price.
The calculation assumes that the offering is fully subscribed.
Divisor adjustment reflects increase in market cap measured as
the shares issued multiplied by the price paid.

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Stock Indices
Equal Weighted Index
An equally weighted index weights each stock equally regardless of its
market capitalization or economic size (sales, earnings, book value). Due
to daily price movements of the stocks within the index, the portfolio
must be constantly re-balanced to keep the positions in each stock equal
to each other.

Rydex S&P Equal Weighted ETF

Risk & Return

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