Page 287 - DCOM504_SECURITY_ANALYSIS_AND_PORTFOLIO_MANAGEMENT

Security Analysis and Portfolio Management

Notes
Example: Wipro provides you the following informations. Calculate the expected rate
of return of a portfolio:
Expected market return 15%
Risk-free rate of return 9%
Standard deviation of an asset 2.4%

Market Standard deviation 2.0%
Correlation co-efficient of portfolio with market 0.9
Solution:
Calculation Market Sensitivity Index ( )
i
Since, market sensitivity index is not given in the problem, it is calculated by applying the
following formula:

i
= = r
i m
m
Where, = Market sensitivity index or Beta factor
i
= Standard deviation of an asset i.e., 0.024
i
= Market Standard deviation i.e., 0.02
m
r = Correlation coefficient of portfolio with market i.e., 0.90
im
0.024
= × 0.90 = 1.08
i 0.02
We can calculate the expected rate of return of a portfolio by applying capital asset pricing
model: E(R ) = R + i (R – R )
i f m f
Where,

Correlation
E(R) = Expected rate of return of portfolio
j
R = Risk free rate of return i.e., 9%
f
R = Expected return of market portfolio i.e. 15%
m
= Beta coefficient of investment i.e. 1.08
i
By substituting, we get
E(R.) = 9 + 1.08 (15 – 9) = 9 + 1.08(6) = 15.48 or 15.48%

Example: SCM Portfolio Ltd. has three investments in its portfolio. Its details are given
below:

Investment E(R) Proportion of invested funds
i
Wipro 14% 1.6 50%
SBI 16% 1.2 20%
DCM 12% 0.8 30%

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