CORPORATE

FINANCE:

ASSIGNMENT: 2

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NUMERICAL QUESTIONS:

STUDENTS OF MBA:
 NAME: FIZA AKHTER
 CLASS ID: 105629
 STUDENT ID: 10311
 DATE: 11 -10-2020

SUBMITTED TO:
 SIR FAISAL SERWAR
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QUESTION: 1
DATA:
TWO STOCKS A & B

DAYS PRICE (A) PRICE (B)

1 25 55
2 29 60
3 33 61
4 29 63
5 26 61
6 29 60

TO FIND:
a) Average return of both stocks =??
b) Standard deviation of both stocks =??
c) Coefficient of variation =??
d) Which stock is less risky based on standard deviation =??
e) Which stock you will select based on coefficient of variation =??

FORMULA:

a. Ŕ=
∑ RETURN
T
b. SD ¿ √ VAR=√ ¿ ¿¿
S .D
c. CV¿
MEAN

SOLUTION:
a) AVERAGE RETURN: (STOCK A)

Ŕ=
∑ RETURN
T

Now; first we find returns than we find out the value of average return.

P 1−¿ P
0
R¿ ¿
P0

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DAYS PRICE (A) P 1−¿ P

RETURN (¿ 0
¿)
P0
1 25 -
2 29 16%
3 33 13.7%
4 29 -12.1%
5 26 -10.34%
6 29 11.5%

Now; we apply the formula of average return.

Ŕ=
∑ RETURN
T

Ŕ=
∑ 0.16 +0.137−0.121−0.1034+ 0.115
5

Ŕ=
∑ 0.1876
5
Ŕ=¿ 0.0375 Or 3.75%

AVERAGE RETURN: (STOCK B)

Ŕ=
∑ RETURN
T

Now; first we find returns than we find out the value of average return.

P 1−¿ P
0
R¿ ¿
P0

DAYS PRICE (B) P 1−¿ P

RETURN (¿ 0
¿)
P0
1 55 -
2 60 9.09%
3 61 1.66%
4 63 3.27%
5 61 -3.17%
6 60 -1.63%

Now; we apply the formula of average return.

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Ŕ=
∑ RETURN
T

Ŕ=
∑ 0.0909+ 0.0166+0.0327−0.0317−0.0163
5

Ŕ=
∑ 0.0922
5
Ŕ=¿ 0.0184 Or 1.84%

b) STANDARD DEVIATION: (STOCK A)

SD ¿ √ VAR

Now; first we find the variance than we find out the value of S.D.

Variance=¿ ¿

Variance=¿ ¿

0.0150062+ 0.00990025+0.02512225+0.01985281+0.00600625
Variance=¿
5−1

0.07588776
Variance=¿
4

Variance=0.01897

Now; we apply the formula of S.D.

SD ¿ √ VAR

SD ¿ √ 0.01897

SD ¿ 0.1377 OR 13.8%

STANDARD DEVIATION: (STOCK B)

SD ¿ √ VAR

Now; first we find the variance than we find out the value of S.D.

Variance=¿ ¿

Variance=¿ ¿

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0.00525625+0.00000324+0.00020449+ 0.00251001+ 0.00120409

Variance=¿
5−1

0.00917808
Variance=¿
4

Variance=0.00229

Now; we apply the formula of S.D.

SD ¿ √ VAR

SD ¿ √ 0.00229

SD ¿ 0.0478 OR 4.8%

c) C0EFFICIENT OF VARIATION: (STOCK A)

S .D
CV¿
MEAN

0.1377
CV¿
0.0375

CV¿3.672×100

CV¿367.2%

C0EFFICIENT OF VARIATION: (STOCK A)

S .D
CV¿
MEAN

0.0478
CV¿
0.0184

CV¿2.5678×100

CV¿259.78%

d) Which stock is less risky based on standard deviation:

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Stock B is less risky based on standard deviation because stock B is less S.D & very few risk involve it
as compare to stock A.

e) Which stock you will select based on coefficient of variation:

I will select stock B based on coefficient of variation because stock B having lower CV as
compare to stock A.

QUESTION: 2
A. DATA:
β=¿ 0.80

P0=$ 45

D ¿ $1.80

R fr =0.045

¿) = 0.07

TO FIND:
1. E (r s) =??
2. P1 =??

FORMULA:
1. E (r s) = R fr + β ¿)
2. P1 = P0 ( 1+ r )−D

SOLUTION:
1. EXPECTED RETURN:
E (r s) = R fr + β ¿)
E (r s) =0.045+0.80 ¿)
E (r s) =0.045+0.056
E (r s) = 0.101 or 10.1%
Now; we find out the current price of the stock.
P1 = P0 ( 1+ r )−D

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P1 = 45 ( 1+0.101 ) −1.80
P1 = 49.545−1.80
P1 = $47.75

B. DATA:
R fr =0.09
¿) =0.06

COMPANY BETA
Cisco 2.03
Giti Group 1.63
Merck 0.50
Walt Disney 0.74

TO FIND:
E (r s) =??

FORMULA:
E (r s) = R fr + β ¿)

SOLUTION:
1. EXPECTED RETURN:
Cisco Company:
E (r s) = R fr + β ¿)
E (r s) =0.09+2.03 ¿)
E (r s) =0.09+0.1218
E (r s) = 0.2118 or 21.2%
Giti Company:
E (r s) = R fr + β ¿)
E (r s) =0.09+1.63 ¿)
E (r s) =0.09+0.0978
E (r s) = 0.1878 or 18.8%

Merck Company:

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E (r s) = R fr + β ¿)
E (r s) =0.09+0.50 ¿)
E (r s) =0.09+0.03
E (r s) = 0.12 or 12%
Walt Disney Company:
E (r s) = R fr + β ¿)
E (r s) =0.09+0.74 ¿)
E (r s) =0.09+0.0444
E (r s) = 0.1344 or 13.44%

C. DATA:
R fr =0.06
R M ¿0.14
E (r s)¿ 0.1

TO FIND:
β=¿??

FORMULA:
E (r s) = R fr + β ¿)

SOLUTION:
1. BETA:
E (r s) = R fr + β ¿)
0.1 =0.06+ β ¿)
0.1 =0.06+ β ¿)
0.1−0.06=β ¿)
β=¿ 0.04 /0.08
β=¿ 0.5

D. DATA:

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COMPANY BETA
Cisco 2.03
Giti Group 1.63
Merck 0.50
Walt Disney 0.74
Equal investment on all 4 stocks = 25%

TO FIND:
P β=¿ ??

FORMULA:
P β=¿ investment 1 × β 1 +investment 2 × β 2+investment 3 × β3 +investment 4 × β 4

SOLUTION:
Cisco Company Giti Company Merck Company Walt Disney Company

P β=¿ investment 1 × β 1 +investment 2 × β 2+investment 3 × β3 +investment 4 × β 4

P β=¿ 0.25 ×2.03+ 0.25× 1.63+0.25 ×0.50+0.25 × 0.74

P β=¿ 0.5075+0.4075+ 0.125+0.185

P β=¿ 1.225

E. DATA:
COMPANY BETA INVESTMENTS
Cisco 2.03 20%
Giti Group 1.63 20%
Merck 0.50 30%
Walt Disney 0.74 30%
TO FIND:
P β=¿ ??

FORMULA:
P β=¿ investment 1 × β 1 +investment 2 × β 2+investment 3 × β3 +investment 4 × β 4

SOLUTION:
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Cisco Company Giti Company Merck Company Walt Disney Company

P β=¿ investment 1 × β 1 +investment 2 × β 2+investment 3 × β3 +investment 4 × β 4

P β=¿ 0.2 ×2.03+0.2 ×1.63+ 0.3× 0.50+0.3 ×0.74

P β=¿ 0.406+ 0.326+0.15+0.222

P β=¿ 1.104

QUESTION: 3
DATA:
SCENARIO PROBABILITY STOCKS BONDS
Recession 0.30 -6% 15%
Normal Economy 0.30 14% 7%
Boom 0.40 26% 5%
TO FIND:
a. Expected return & S.D for each investment =??
b. Which investment would you prefer=??

FORMULA:
I. E (r s) = P × R
II. SD ¿ √ P1 ¿ ¿
S .D
III. CV¿
MEAN

SOLUTION:
1. EXPECTED RETURN:

STOCKS:
E (r s) = P1 × R1 + P2 × R 2+ P 3 × R 3

E (r s) = 0.30 ×−0.06+ 0.30× 0.14+ 0.40× 0.26

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E (r s) = −0.018+ 0.042+ 0.104

E (r s) =0.128 or 12.8%

BONDS:
E (r s) = P1 × R1 + P2 × R 2+ P 3 × R 3

E (r s) = 0.30 ×0.15+ 0.30× 0.07+ 0.40× 0.05

E (r s) = 0.045+0.021+0.02

E (r s) = 0.086 or 8.6%

2. STANDARD DEVIATION:

STOCKS:

SD ¿ √ P1 ¿ ¿

SD ¿ √ 0.30 ¿ ¿

SD ¿ √ 0.0106032+ 0.0000432+ 0.00696696

SD ¿ √ 0.0176133

SD ¿ 13.27%

BONDS:

SD ¿ √ P1 ¿ ¿

SD ¿ √ 0.30 ¿ ¿

SD ¿ √ 0.0012288+0.0000768+0.0005184

SD ¿ √ 0.001824

SD ¿ 0.0427 or 4.27%

Now; we find CV because S.D & mean of bond & stocks ranking wise different so we don’t
decide which investment we would prefer that’s why we calculate CV.

B) Which investment would you prefer:

C0EFFICIENT OF VARIATION: (STOCKS)

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S .D
CV¿
MEAN

0.1327
CV¿
0.128

CV¿ 1.04

C0EFFICIENT OF VARIATION: (BONDS)

S .D
CV¿
MEAN

0.0427
CV¿
0.086

CV¿ 0.49∨0.50

Investment in bonds will be preferable based on CV because bonds having lower CV.

QUESTION: 4
DATA:
SCENARIO PROBABILITY STOCKS BONDS
Recession 0.30 -6% 15%
Normal Economy 0.30 14% 7%
Boom 0.40 26% 5%
Weights 0.70 0.30
TO FIND:
a. Rate of return on the portfolio =??
b. Expected return & S.D of the portfolio =??
c. Which investment would you prefer to invest in the portfolio =??

FORMULA:
a. r p =w s tock ×r s+ wbond ×r b
b. E (r p ) = w stock × E(rs) +w bond × E(rb)
c. σ p ¿ √ w2stock σ 2s +w 2bond σ 2b+ 2 ws × wb ×c o v s ,b

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SOLUTION:
A. RATE OF RETURN:
Recession
r p =w stock ×r s+ wbond ×r b
r p =0.70 ×−0.06+0.30 × 0.15
r p =−0.042+0.045
r p =0.003∨0.3 %
Normal Economy
r p =w stock ×r s+ wbond ×r b
r p =0.70 ×0.14+ 0.30× 0.07
r p =0.098+0.021
r p =0.119∨11.9 %
Boom
r p =w stock ×r s+ wbond ×r b
r p =0.70 ×0.26+ 0.30× 0.05
r p =0.182+ 0.015
r p =0.197∨19.7 %
B. EXPECTED RETURN & STANDARD DEVIATION:
EXPECTED RETURN
E (r p ) = w stock × E(rs) +w bond × E(rb)
First we find the value of expected return both stocks & bonds.
STOCKS:
E (r s) = P1 × R1 + P2 × R 2+ P 3 × R 3
E (r s) = 0.30 ×−0.06+ 0.30× 0.14+ 0.40× 0.26
E (r s) = −0.018+ 0.042+ 0.104
E (r s) =0.128 or 12.8%
BONDS:
E (r s) = P1 × R1 + P2 × R 2+ P 3 × R 3
E (r s) = 0.30 ×0.15+ 0.30× 0.07+ 0.40× 0.05
E (r s) = 0.045+0.021+0.02
E (r s) = 0.086 or 8.6%

Now; we apply the value of expected return on the above equation.

E (r p ) = w stock × E(rs) +w bond × E(rb)

E (r p ) = 0.70 ×0.128+ 0.30 ×0.086

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E (r p ) = 0.0896+ 0.0258
E (r p ) = 0.1154 or 11.54%
STANDARD DEVIATION:
σ p ¿ √ w2stock σ 2s +w 2bond σ 2b+ 2 ws × wb ×c o v s ,b
First; we find the value of COV.

Recession Normal Economy Boom

COV ¿ ps ( R s− Ŕ s)×( Rb− Ŕ b)+ p s(R s− Ŕ s )×(Rb −Ŕ b)+ p s ( Rs − Ŕs )×(Rb − Ŕb )

COV
¿ 0.30(−0.06−0.128)×(0.15−0.086)+ 0.30(0.14−0.128)×(0.07−0.086)+0.40(0.26−0.128) ×(0.05−0.086)

COV ¿ 0.30 ×−0.188 ×0.064 +0.30 ×0.012 ×−0.016+ 0.40× 0.132×−0.036

COV ¿−0.0036096−0.0000576−0.0019008

COV ¿ −0.005568

Now; putting the value of S.D from the previous question 3 & COV value from the current
question 4 & all this values put the equation of S.D of portfolio.

σ p ¿ √ 0.702 × 0.13272 +0.302 ×0.0427 2+2 × 0.70× 0.30 ×−0.00568

σ p ¿ √ 0.49 ×0.01760+0.09 × 0.00182329+ 2× 0.70× 0.30 ×−0.00568
σ p ¿ √ 0.008624+0.0001640961−0.0023856
σ p ¿ √ 0.0064024961
σ p ¿ 0.08012∨8.01 %
C. Which investment would you prefer to invest in the portfolio =??
I will be prefer bonds because bonds having less CV as compare to stocks CV so
therefore bond is better & good for investment because its less risky as compare to
stocks.

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