Risk & Rates of Return Presentation.pptx

This will enable everyone to know the risk that should be avoided by the company and the idea of how they will meet their goal to increase and maintain profits in the company

1. Risk & rates of return Presented by: conelene a. herrera

2. objectives Understand the relationship between risk and return. Understanding the sources of risk and return Discuss the different types of investor attitudes toward risk. Define risk and return and show how to measure them by calculating expected risk and return on investment. 2

3. definitions risk PROBABILITY OF LOSING ‘X’ AMOUNT OF AN INVESTMENT OVER A GIVEN TIME PERIOD OR AS THE RETURN VOLATILITY OF AN INVESTMENT OVER A GIVEN TIME PERIOD. returns IS USUALLY PRESENTED AS A PERCENTAGE RELATIVE TO THE ORIGINAL INVESTMENT OVER A GIVEN TIME PERIOD. 3

4. RISK AND RETURNS FUNDAMENTALS Portfolio – group of assets. Risk – likelihood of financial loss, also referred to as uncertainty. Return – total gain or loss on an investment over period of time (cash distributions plus change in value . 4

5. SOURCES OF RISK Firm-Specific Risks Business risk Financial Risk Shareholder-Specific Risks Interest rate risk Liquidity risk Market risk 5

6. SOURCES OF RISK Firm and Shareholder Risk Event risk – possibility of an unforeseen event affecting the value of the firm or an investment. Exchange rate risk – chance of change in currency exchange rate, unfavorably affecting the value of an investment. Purchasing power risk - chance that the cash flow from an investment or firms value will be adversely affected due inflation or deflation. Tax risk – possibility of changes in tax laws that could adversely affect the value of the firm or an investment. 6

7. Risk Preference RISK PREFERENCE – attitude of people towards risks. Risk-averse Someone who avoids risk and requires more return for increased risk . Risk-indifferent Someone who’s attitude (required or expected return) towards risk does not change as risk increases . Risk-seeking Someone who’s required return decreases as risk increases. 7

8. 8 Risk of an Asset Probability – chance that a given outcome will occur. Probability distribution – model that assigns probability to each possible outcome. Continuous probability distribution – all the possible outcomes and their associated probabilities. Continuous Probability Distribution of three assets:

9. Rate of returns

10. returned explained 10 A return (also referred to as a financial return or investment return) is usually presented as a percentage relative to the original investment over a given time period.

11. commonly use rate of return ( ror ) 11 Nominal rates of return that include inflation Formula for Nominal rate of Return:

12. practical example: 12 You’ve purchased 100 shares that cost Php.15 each. After exactly one year, the share price of each stock is Php 22. Assuming there are no dividends and no trading costs, what is the nominal rate of return?

13. solving equation: Original Investment Price = Php 15 * 100 shares = Php 1,500 Current Investment Value = Php 22 * 100 shares = Php 2,200 13

14. process: 14 (2,200 1,500) / -1 = ? = 1.467 -1 =0.4667 Or 46.67%

15. 2. Real rates of return that exclude inflation 15

16. practical example: 16 For this example of the real rate of return formula, the money market yield is 5%, inflation is 3%, and the starting balance is Php.1,000.

17. process: 17 (1+.05) (1+.03) / -1 = 1.942%

18. difference of nominal to real rate return: 18 A real interest rate is an interest rate that has been adjusted to remove the effects of inflation to reflect the real cost of funds to the borrower and the real yield to the lender or to an investor . A nominal interest rate refers to the interest rate before taking inflation into account.

19. Thank you !