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Multifactor Model

The document contains two assignment questions. The first asks to evaluate the performance of four mutual funds between 2000-2004 using various models and determine which showed evidence of stock picking skill. The second asks to estimate the cost of capital for Yahoo and Altria in 2004 given information about their profiles, bond yields, and potential new investments expected to yield 10% annually. Brief profiles of the four funds and two companies are also provided.

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Basra Ajmal
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158 views2 pages

Multifactor Model

The document contains two assignment questions. The first asks to evaluate the performance of four mutual funds between 2000-2004 using various models and determine which showed evidence of stock picking skill. The second asks to estimate the cost of capital for Yahoo and Altria in 2004 given information about their profiles, bond yields, and potential new investments expected to yield 10% annually. Brief profiles of the four funds and two companies are also provided.

Uploaded by

Basra Ajmal
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Assignment Questions:

1. Performance Evaluation: Evaluate the performance of T Rowe Price Blue Chip


Growth (Ticker: TRBCX), Goldman Sachs CORE Large Cap Growth (Ticker:
GLCGX), Diversified Special Equity Inv (Ticker: DVPEX), and DFA Tax-Managed
U.S. Small Cap Value (Ticker: DTMVX) over the period from January 2000 through
December 2004. Use the CAPM, a multifactor model, and any other approaches you
deem appropriate. (Exhibit 4 profiles the four funds in December 2004 and Exhibit 5
shows monthly total returns for the period from January 2000 through December
2004.) Which funds show evidence of stock picking skill? Would you recommend
buying one of these funds?

S&P 500 = Market returns


Treasury bills = Risk free returns
Excess Goldman Sach = ?
MKT-RF = ?
HML
SMB
Excess TRP = ?
2. Cost of Capital Estimation: Estimate the cost of capital for Yahoo (Ticker: YHOO)
and Altria (Ticker: MO), in December 2004. At the time, the yield on the 10 year and
30 year U.S. government bonds was 4.2% and 4.9%, respectively6 (Exhibit 6 profiles
the two firms and Exhibit 7 shows monthly total returns for the period from January
2000 through December 2004.) Both firms have opportunities to make new
investments that are broadly similar to their existing assets and are expected to
produce an equity return of 10% per year. The investments would be financed with
the same historical mix of debt and equity. In other words, focusing directly on the
cost of equity is sufficient. No unlevering or relevering is necessary. Would you give
these projects the green light? Do they create value for shareholders?

Funds’ Profiles: (For Question 1)

T Rowe Price Blue Chip Growth Fund (TRBCX)

This fund aimed to achieve “long-term capital growth through high-quality U.S. growth
companies” (income was a secondary objective). To this end, it invested approximately 80%
of its net assets in large or medium blue-chip growth firms, emphasizing leading market
position, seasoned management, and strong financial fundamentals—such as earnings per
share (EPS) and operating cash flow—above all other evaluation metrics.

Goldman Sachs Structured Large Cap Growth Fund, Class A (GLCGX)

Started in 1990, the Large Cap Growth fund invested primarily in large-cap domestic
equities. Selection criteria was based on characteristics which included: dominant market
share, established brand name, pricing power, recurring revenue stream, free cash flow, high
returns on invested capital, predictable growth, sustainable growth, enduring competitive
advantage and excellent management. Income from dividends was considered a secondary
objective.

Diversified Special Equity Investments (DVPEX)

According to its Prospectus, this fund’s goal was “to provide a high level of capital
appreciation through investment in a diversified portfolio of common stocks of small to
medium-sized companies.” Founded in 1986, its managers’ selection criteria involved
applying a “bottom up” approach, or looking at equities in the context of larger market
factors and focusing on those that provided potential for dynamic growth. Current income
(i.e. dividends) was not given consideration. The fund’s multiple managers focused on
companies with a market capitalization of less than $2 billion, and their consistently active
trading resulted in annual turnover that could exceed 100%, as well as increased fees
associated with such an active approach.

DFA Tax-Managed U.S. Small Cap Value (DTMVX)

This fund, offered by Index Funds Advisors, aimed for long-term capital appreciation via the
purchase of equity in companies within the lowest 8% of total market capitalization (in
general, companies with approximately $1 billion worth of market capitalization or less).
Within this group, the fund targeted securities using traditional value metrics (such as those
with a high book value in relation to their market value). Other metrics, such as price to
earnings ratios and price to cash flows, as well as the conditions of the company’s industry
overall, were also considered. In addition, the fund sought to mitigate the impact of federal
taxes by postponing the realization of net capital gains and minimizing dividend income.

Company’s Profiles: (For Question 2)

Yahoo (YHOO)

Stanford University graduates Jerry Yang and David Filo founded Yahoo in 1994, seeking to
develop an easier way to navigate the nascent World Wide Web. The company’s IPO,
delivered two years later, marked the beginning of a rapid expansion process that included
forays into online auctions, games, shopping and other services. Yahoo relied on an ad-based
revenue stream, and was one of the few dot.coms to generate consistent profits during the
tech bubble of the late 1990’s.

Altria (MO)

The Altria Group, formerly Phillip Morris, began as a tobacco shop in London in 1847 and
went public in 1881. The cigarette-maker continued to expand and in the 1950’s introduced
its Marlboro brand, pitched by the iconic “Marlboro Man,” which went on to become the
best-selling product in the world. In response to the flood of anti-tobacco litigation that
targeted the company in the 1990s, the company changed its name to Altria (Philip Morris
remained as a subsidiary).

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