Page 88 - DMGT207_MANAGEMENT_OF_FINANCES

Unit 4: Risk and Return Analysis

 Every investment involves uncertainties that make future investment returns risk-prone. Notes
 Uncertainties could be due to the political, economic and industry factors.
 Systematic risk is for the market as a whole, while unsystematic risk is specific to an
industry or the company individually.

 Beta is a measure of the systematic risk of a security that cannot be avoided through
diversification.
 Beta is a relative measure of risk - the risk of an individual stock relative to the market
portfolio of all stocks.
 If the security's returns move more (less) than the market's returns as the latter changes,
the security's returns have more (less) volatility (fluctuations in price) than those of the
market.
 It is important to note that beta measures a security's volatility, or fluctuations in price,
relative to a benchmark, the market portfolio of all stocks.

 The risk/return trade-off could easily be called the "ability-to-sleep-at-night test."
 The investor can minimise his risk on the portfolio.
 Risk avoidance and risk minimisation are the important objectives of portfolio
management.

 A portfolio contains different securities; by combining their weighted returns we can
obtain the expected return of the portfolio.

4.10 Keywords

Beta Coefficient: It is a relative measure of the sensitivity of an assets return to changes in the
return on the market portfolio.
Beta: It is a measure of the systematic risk of a security that cannot be avoided through
diversification.

Correlation: It is a statistical measure that indicates the relationship between series of number
representing anything from cash flows to test data.
Covariance: It is the measure of their co-movement, expressing the degree to which the securities
vary together.
Non-systematic Risk: The variability in a security is total returns not related to overall market
variability.
Portfolio: It is a collection of securities.
Risk: Probability that the expected return from the security will not materialize.
Systematic Risk: Variability in a security is total returns that are directly associated with overall
movements in the general market or economy is called systematic risk.

4.11 Review Questions

1. SCM provides the following data, compute beta of Security J:
 = 12%,  = 9%
j m
Cor = + 0.72
jm

LOVELY PROFESSIONAL UNIVERSITY 83