CORPORATE FINANCE HW

Corporate Finance

Introduction

The focus of this assignment is on risk, return and equity analysis. The expectation is that students will develop skills in measuring returns, risk assessment and analysis. Students are required to use the data provided in the case problem and exhibits to answer a series of questions.

Assignment Components

The exhibits contain historical share price information for three publicly listed companies and historical data for the share market index.

Requirements for the Assignment

· Excel Statistical functions can and should be used to complete statistical calculations.

· Your answers should be clearly labeled on an answer sheet(s) by reference to the question number, with any further supporting calculations referenced to an appendix.

· The standard of your presentation will be assessed and marked.

· Evidence of your team’s breadth and depth of research will be assessed.

· We expect that you will provide explanations as to how you established each answer. All detail relating to your answers needs to be shown within the assignment. This may include explanation of procedures undertaken, assumptions made and the choice of a formula to solve a problem. We require detailed explanations.

· You need to reference (Harvard). Marks will be deducted from assignments that fail to reference.

Background Information

Dr. N requires your team to develop a written presentation based on information that he has collected for this assignment. The information is considered rather rudimentary, but the difficulty of the task is in the analysis and clarity of your explanations of the results.

Each team is required to review the information provided and break it down into its simplest components and figure out a way to show how risk is treated in the financial markets and when making investment decisions. The presentation should be as complex as the team feels is necessary.

There are two ways to understand risk: risk could be measured in conjunction with an investor’s portfolio, or risk could be measured as the potential for variation of returns from a single investment. It is stressed that each team should work out these two different meanings of risk in the presentation and make sense of each. In addition, Dr. Ntalianis is concerned that the techniques used in finance are complicated and tedious, and wants this presentation to discuss and demonstrate how these techniques can actually make sense when considered carefully.

The Numbers

Dr. N had provided several sets of numbers for the team to use in the presentation (Exhibit 1). The first set is 25 observations of historical monthly share prices for three different stocks and the historical monthly share market index over the same period. Dr. N extracted these representative numbers from the Internet. He also indicates to each team that the proper measure of risk for a portfolio would have to be calculated using this kind of data series.

Exhibit 1: Monthly Share prices for Three Traded Stocks and the monthly Share Price Index.

Month	Market index	Excalibur Ltd ($)	Wizard Ltd ($)	Knight Ltd ($)
1	5600	16.12	10.00	24.00
2	5720	16.87	9.60	26.70
3	5810	17.87	9.00	20.95
4	5940	17.12	8.70	15.75
5	5865	17.37	9.10	18.10
6	5768	18.12	9.60	21.70
7	6015	19.00	9.30	23.10
8	6135	17.50	8.90	28.05
9	6070	18.12	9.70	36.15
10	6200	18.87	10.20	37.85
11	6345	19.25	9.65	23.90
12	6140	17.50	10.45	22.85
13	6245	18.12	10.05	24.80
14	6440	19.00	9.55	27.05
15	6560	19.25	9.05	26.25
16	6390	19.50	9.75	24.00
17	6210	20.00	10.55	30.65
18	6375	21.05	10.10	35.15
19	6490	22.00	9.70	40.80
20	6600	22.50	9.45	42.70
21	6490	21.90	9.95	39.55
22	6385	20.30	10.45	36.30
23	6500	21.70	11.00	39.90
24	6655	22.90	11.35	44.50
25	6770	24.10	11.75	46.85

Questions

Dr N has instructed each team to specifically address all of the following questions:

1. Using the information given in Exhibit 1, calculate the historical returns for each company and the market index. With the use of the excel functions calculate the average monthly return and standard deviation of returns for each company and the market index.

2. Using your answers to Question 1, above, and assuming that investors can only invest in one of the three alternatives in Exhibit 1, use the average return and standard deviation to determine which share would be the most appropriate for a risk-averse investor. Provide numerical justification for your selection.

3. Calculate the covariance of returns and correlation coefficients between all shares. Provide an explanation of your results and the implications for diversification.

4. Determine the expected return and standard deviation of a two-asset portfolios comprised of Excalibur and Wizard; Excalibur and Knight; and Wizard and Knight. Assume equal weightings of each share within each portfolio. Interpret your results and comment and illustrate the impact on risk when combining shares into a portfolio.

5. Determine the expected return and standard deviation of a three-asset portfolio comprising all three shares. Assume equal weightings of each share within the portfolio. Why is the computation more complex than a portfolio comprising of only two shares? Is this portfolio more efficient than the portfolios constructed in question 5? Provide numerical evidence to support your answer.

6. Determine the systematic risk (Beta) of all three shares. Interpret your answers. The use of excel functions is acceptable to calculate Beta.

7. Which measure, beta or standard deviation, is more useful when analyzing shares that are placed in a diversified efficient portfolio?