Scribd
Upload
66 views

Problem Set 4

This document provides instructions for Problem Set 4 in finance, which is due on January 16th. It includes 5 problems analyzing stock and bond returns using historical data files. Students must type their solutions in PDF format. Problem 1 involves calculating returns and distributions for Ford stock. Problem 2 analyzes return and risk measures for various asset classes over different time periods. Problem 3 explains why idiosyncratic risk does not impact a stock's risk premium. Problem 4 calculates betas and risk premiums for small stocks and bonds. Problem 5 has students do the same calculation for an individual stock against the S&P 500.

Uploaded by

Kevin Verhagen
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
66 views

Problem Set 4

This document provides instructions for Problem Set 4 in finance, which is due on January 16th. It includes 5 problems analyzing stock and bond returns using historical data files. Students must type their solutions in PDF format. Problem 1 involves calculating returns and distributions for Ford stock. Problem 2 analyzes return and risk measures for various asset classes over different time periods. Problem 3 explains why idiosyncratic risk does not impact a stock's risk premium. Problem 4 calculates betas and risk premiums for small stocks and bonds. Problem 5 has students do the same calculation for an individual stock against the S&P 500.

Uploaded by

Kevin Verhagen
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
You are on page 1/ 3

Problem Set 4

(Based on Lecture 6 (Chapters 10-11))


Deadline: January 16 by 23:59 via Toledo

Important: no hand-written (scanned) solution will be accepted–you must type your solution and
submit it in a .pdf format via Toledo. Group size: 1-6 persons per group strictly.

Problem 1
For this problem you need the data that are available in Data1.xls. This spreadsheet contains
historical monthly prices and dividends (paid at the end of the month) for Ford Motor Company
stock from August 1994 to August 2012
a. Calculate the realized return over this period, expressing your answer in percent per month.
Create Figure 1 by plotting the realized returns. Create Figure 2 by plotting the empirical
distribution of the realized returns (i.e., plot the histogram of realized returns). Note: In your
answer provide only Figures 1 and 2 and, please, do not provide the table with the realized
returns.

Realized return
1200.00%

1000.00%

800.00%
Return

600.00%

400.00%

200.00%

0.00%
31-Jan-93 24-Jul-98 14-Jan-04 6-Jul-09 27-Dec-14
Date

b. Compute and report the average monthly return and monthly volatility of the stock over
August 1994 to August 1998
Average monthly return = -0.1875%
Monthly volatility = 9.38%
c. Compute and report the 95% confidence interval of the average monthly return you
calculated in b.
Interval: -0.1875%±2*9.38% -18.95% - 18.57%

1
Problem 2
For this problem you need the data that are available in Data2.xls. This spreadsheet contains
historical annual returns on the variety of the portfolios from Figure 10.1 (available in the text
book or on the slides of Lecture 6–the very first figure): Small Stocks; S&P 500; World Portfolio;
Corporate Bonds; Treasury Bills.

a. Compute and report the average return and excess returns for each portfolio over the two
periods: period 1929-1940 (the Great Depression) and 1940-2005
b. Compute and report the volatility of realized returns and Sharpe ratios of the realized returns
for the same two periods
c. Which asset class was riskier during the Great depression? Why do you think this is the case?
d. Based on the historical realized returns on these five portfolios, compute and report the
correlation matrix for the entire period; for period 1929-1940 (the Great Depression) and for
the period 1940-2005 (excel has in-built function for computing correlation matrix). Interpret
these results–provide some intuition. Note: be creative as you will not be penalized for that,
even if your interpretation is wrong.

Problem 3
Provide a short and clear explanation for why the risk premium of a stock does not depend
on its idiosyncratic (i.e., diversifiable) risk. Next, explain clearly why the risk premium of a stock
depends only on its systematic (i.e., non-diversifiable) risk. What does this imply about using asset
volatility as a measure of its risk? What is a good measure of individual stock’s risk?

2
Problem 4
Given the data from Data2.xls. Calculate and report the β’s of the portfolio of Small Stocks
and the portfolio of Corporate Bonds using the entire sample. Use the S&P 500 portfolio as the
market portfolio for this calculations. Which portfolio is more risky? Interpret the estimated β’s:
if the market moves by 1% the portfolio of Small Stocks moves by ... and the portfolio of Corporate
Bonds by ... Calculate and report the average risk premium of the portfolio of Small Stocks and
the portfolio of Corporate Bonds.
Hint: use the formula for β provided at the end of the second part of Lecture 6–slide 90

Problem 5
Download daily equity prices on the corporation of your choice (e.g., Microsoft, Apple, Netflix,
etc.) that is traded in the US (at NYSE, for example). Ideally this should be a firm that has
been publicly traded for a while (>10 years). Next, download the daily S&P500 index. Then using
the S&P portfolio as the market portfolio, compute and report the β of the firm of your choice.
Interpret the β. Assuming that the risk free rate is zero–a simplifying assumption to avoid you
downloading even more data–what is the average risk premium on this stock over your sample
period?
Hint: you can download the (daily) stock prices from Yahoo Finance. Chose a stock and then click
on ”Historical Data.” If you do so, then use only adjusted stock prices (called ”Adj Close**”) as
these stock prices are already adjusted to dividend payments. With adjusted prices the daily stock
return at day t is simply rt= Pt /Pt −1 1.
− The daily S&P500 index can also be downloaded from
Yahoo Finance (again use only ”Adj Close**” values). You will need to construct returns on the
S&P500 portfolio using the daily value of the index. This is easy. Let’s say that the daily value of
the S&P500 index is denoted by IND t on the day t. Then the daily return on the S&P500 portfolio
S&P 500
is rt = INDt/INDt−1 − 1.

You might also like