Principles of Managerial Finance

LG4

LG1 LG4

254 PART 2 Important Financial Concepts

Using these assets, you have isolated the three investment alternatives shown in

the following table:

a. Calculate the expected return over the 4-year period for each of the three

alternatives.

b. Calculate the standard deviation of returns over the 4-year period for each of

the three alternatives.

c. Use your findings in parts aand bto calculate the coefficient of variation for

each of the three alternatives.

d. On the basis of your findings, which of the three investment alternatives do

you recommend? Why?

5–14 Correlation, risk, and return Matt Peters wishes to evaluate the risk and return

behaviors associated with various combinations of assets V and W under three

assumed degrees of correlation: perfect positive, uncorrelated, and perfect nega-

tive. The expected return and risk values calculated for each of the assets are

shown in the following table.

a. If the returns of assets V and W are perfectly positively correlated(correla-

tion coefficient1), describe the rangeof (1) expected return and (2) risk

associated with all possible portfolio combinations.

b. If the returns of assets V and W are uncorrelated(correlation coefficient0),

describe the approximate rangeof (1) expected return and (2) risk associated

with all possible portfolio combinations.

c. If the returns of assets V and W are perfectly negatively correlated(correla-

tion coefficient1), describe the rangeof (1) expected return and (2) risk

associated with all possible portfolio combinations.

5–15 International investment returns Joe Martinez, a U.S. citizen living in

Brownsville, Texas, invested in the common stock of Telmex, a Mexican corpo-

ration. He purchased 1,000 shares at 20.50 pesos per share. Twelve months

later, he sold them at 24.75 pesos per share. He received no dividends during

that time.

a. What was Joe’s investment return (in percentage terms) for the year, on the

basis of the peso value of the shares?

b. The exchange rate for pesos was 9.21 pesos per $US1.00 at the time of the

purchase. At the time of the sale, the exchange rate was 9.85 pesos per

$US1.00. Translate the purchase and sale prices into $US.

c. Calculate Joe’s investment return on the basis of the $US value of the shares.

Expected Risk (standard

Asset return, k deviation), k

V8% 5%

W13 10

Alternative Investment

1 100% of asset F

2 50% of asset F and 50% of asset G

3 50% of asset F and 50% of asset H