Page 77 - DMGT207_MANAGEMENT_OF_FINANCES

Management of Finances

Notes Very few investors do this, and very few investment advisers would counsel such an extreme
policy. Instead, investors should diversify, meaning that their portfolio should include more
than one security. This is because diversification can reduce risk.
Illustration 5: The average market prices and dividend per share of Asian CERC Ltd. for the past
6 years are given below:

Year Average market price ( ) Dividend per share ( )
2007 68 3.0
2006 61 2.6
2005 50 2.0
2004 53 2.5
2003 45 2.0
2002 38 1.8

Solution: Calculate the average rate of return of Asian CERC Ltd.'s shares for past 6 years.
Year Average market price Capital gain Dividend per Dividend Rate of return
per share ( ) (%) share ( ) yield (%) (%)
2002 38 - 1.8 4.74 -
2003 45 18.42 2.0 4.44 22.86
2004 53 17.78 2.5 4.72 22.50
2005 50 -5.66 2.0 4.00 -1.66
2006 61 22.00 2.6 4.26 26.26
2007 68 11.48 3.0 4.41 15.89

R = 1/5 (22.86 + 22.50 – 1.66 + 26.26 + 15.89)
= 1/5(85.85) = 17.17%

Risk

All possible questions which the investor may ask, the most important one is concerned with the
probability of actual yield being less than zero, that is, with the probability of loss. This is the
essence of risk. A useful measure of risk should somehow take into account both the probability
of various possible "bad" outcomes and their associated magnitudes. Instead of measuring the
probability of a number of different possible outcomes, the measure of risk should somehow
estimate the extent to which the actual outcome is likely to diverge from the expected.
Two measures are used for this purpose: the average (or mean) absolute deviation and the
standard deviation.
Illustration 6: The rate of return of equity shares of Wipro Ltd., for past six years are given
below:
Year 01 02 03 04 05 06
Rate of return (%) 12 18 –6 20 22 24

Calculate the average rate of return, standard deviation and variance.
Solution:

Calculation of Average Rate of Return ( R )

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