Department

ManagementCourse Code

MGT338H5Professor

Adam KadarChapter

8This

**preview**shows half of the first page. to view the full**2 pages of the document.**Chapter 8

Risk and Return

Risk free rate – at what return do you get real return + expected inflation rate regardless of what

happens

Ex Ante amount of money have to invest before you even begin game or anything happens: rate

of return expectation before something happens

Ex Post after the fact, stock performance has been x …. What has been rate of return on stock

Risk of earning bond income is less than earning dividend income. Bond holders = secured

creditors whereas dividends = declared, while company doesn’t always have to declare dividends

Yield Gap – look at the incoming yield on bond instead of incoming yield on stock

Income gap of bonds over stock on avg is decreasing over the last 40 years

Holding period return can be unrealistic if time is unrealistic (e.g. if earn 1000 in 3 days doesn’t

mean you will the similarily in 100 days)

Measuring avg returns

Ex post = after the fact

Arithmetic avg simple avg sum returns / # of periods

Geometric mean more accurate assessment, seeing where you started and where you ended up

and what rate you need to get there multiply returns over compound growth

Yr 1 + 10%

Yr 2 – 10%

Start with 100$

Arithmetic : mean + 10% + (-10%) = 0%

Geometric: [(1.1) (0.9)] ^ (1/2) – 1 this difference gets bigger the wider the spread is

Ex ante returns: no guarantee that what you think will happen, will happen

Historical avf rate of return not necessarily will be realized

Risk

Risk for investor = not earning what you expect to earn anything to the left of normal

distribution curve

Range

Way to quantify risk

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