IM Assignment 2
FIN3043 Investment Management Assignment 2 Due Date: 1pm, 4th December, 2015 Questions from Chapter 8: 1.“If all securities are fairly priced, all must offer equal expected rates of return.” Comment. 2. Which of the following phenomena would be either consistent with or a violation of the efficient market hypothesis? Explain briefly. a. Nearly half of all professionally managed mutual funds are able to outperform the S&P 500 in a typical year. b. Money managers that outperform the market (on a risk-adjusted basis) in one year are likely to outperform in the following year. c. Stock prices tend to be predictably more volatile in January than in other months. d. Stock prices of companies that announce increased earnings in January tend to outperform the market in February. e. Stocks that perform well in one week perform poorly in the following week. Questions from Chapter 9: 3. What are some possible investment implications of the behavioral critique? 4. Table 9.3 presents price data for Computers, Inc., and a computer industry index. Does Computers, Inc., show relative strength over this period?
5. Use the data in Table 9.3 to compute a five-day moving average for Computers, Inc. Can you identify any buy or sell signals? Questions from Chapter 12: 6. How do each of the following affect the sensitivity of profits to the business cycle? a. Financial leverage b. Operating leverage 7. Consider two firms producing smart phones. One uses a highly automated robotics process, while the other uses human workers on an assembly line and pays overtime when there is heavy production demand. a. Which firm will have higher profits in a recession? In a boom? b. Which firm's stock will have a higher beta? 8. Here are four industries and four forecasts for the macroeconomy. Choose the industry that you would expect to perform best in each scenario. Industries: housing construction, health care, gold mining, steel production. Economic Forecasts: a. Deep recession: falling inflation, falling interest rates, falling GDP. b. Superheated economy: rapidly rising GDP, increasing inflation and interest rates. c. Healthy expansion: rising GDP, mild inflation, low unemployment. d. Stagflation: falling GDP, high inflation. Questions from Chapter 13 9. Even Better Products has come out with a new and improved product. As a result, the firm projects an ROE of 20%, and it will maintain a plowback ratio of .30. Its earnings this year will be $2 per share. Investors expect a 12% rate of return on the stock. a. At what price and P/E ratio would you expect the firm to sell? b. What is the present value of growth opportunities? c. What would be the P/E ratio and the present value of growth opportunities if the firm planned to reinvest only 20% of its earnings? 10. The stock of Nogro Corporation is currently selling for $10 per share. Earnings per share in the coming year are expected to be $2. The company has a policy of
paying out 50% of its earnings each year in dividends. The rest is retained and invested in projects that earn a 20% rate of return per year. This situation is expected to continue indefinitely. a. Assuming the current market price of the stock reflects its intrinsic value as computed using the constant-growth DDM, what rate of return do Nogro's investors require? b. By how much does its value exceed what it would be if all earnings were paid as dividends and nothing were reinvested? c. If Nogro were to cut its dividend payout ratio to 25%, what would happen to its stock price? What if Nogro eliminated the dividend? Questions from Chapter 18 11. Kelli Blakely is a portfolio manager for the Miranda Fund (Miranda), a core large-cap equity fund. The market proxy and benchmark for performance measurement purposes is the S&P 500. Although the Miranda portfolio generally mirrors the asset class and sector weightings of the S&P, Blakely is allowed a significant amount of leeway in managing the fund. Her portfolio holds only stocks found in the S&P 500 and cash. Blakely was able to produce exceptional returns last year (as outlined in the table below) through her market-timing and security selection skills. At the outset of the year, she became extremely concerned that the combination of a weak economy and geopolitical uncertainties would negatively impact the market. Taking a bold step, she changed her market allocation. For the entire year her asset class exposures averaged 50% in stocks and 50% in cash. The S&P's allocation between stocks and cash during the period was a constant 97% and 3%, respectively. The risk-free rate of return was 2%.
a. What are the Sharpe ratios for the Miranda Fund and the S&P 500? b. What are the M2 measures for Miranda and the S&P 500? c. What is the Treynor measure for the Miranda Fund and the S&P 500? d. What is the Jensen measure for the Miranda Fund?
12. Bill Smith is evaluating the performance of four large-cap equity portfolios: funds A, B, C, and D. As part of his analysis, Smith computed the Sharpe ratio and the Treynor measure for all four funds. Based on his finding, the ranks assigned to the four funds are as follows:
a. Explain the difference in rankings for funds A and D b. Which fund is the best choice under the following circumstances? (i). This is the only risky asset to be held by the investor. (ii). This is one of many risky assets that the investor is analyzing to form an actively managed stock portfolio.