FINS2624 PORTFOLIO MANAGEMENT

A SUMMARY

STAFF CONSULTATION HOURS FOR FINAL EXAMINATION FINS2624

Henry

PORTFOLIO MANAGEMENT
Mon Wed 27 Oct 29 Oct 27 Oct 28 Oct 28 Oct 28 Oct 29 Oct 12:00 14.00 9:00 11.00 10:00 12:00 9:00 11:00 11:00 12:00 12:00 14:00 12:00 14:00 ASB340 ASB340 TBA TBA TBA TBA TBA

Angus Michael Andrew Milos Linda

Mon Tue Tue Tue Wed

INFORMATION FOR FINAL EXAMINATION Date, Venue, Allowed Materials, Exam Rules & Regulations, and Important information regarding final exams at UNSW: https://my.unsw.edu.au/portal/dt https://my.unsw.edu.au/student/academiclife/assessment/examinations/examinations.html

Syllabus: Format:

Lecture topics covered from week 7 and onwards 75 Multiple-Choice questions

Equations: The equations for d1 and d2, and the values of d1, d2, N(d1), and N(d2) will be provided

Preparation: revise all

lectures notes tutorial & revision questions spreadsheet applications prescribed readings - prescribed textbook, journal and newspaper articles

Other Exam Preparation Resources:

EDU Exam Preparation Workshop Bodie, Kane and Marcus and solution manual to the book

Approach to learning and teaching A reflection

1. 2. 3. Life-long learning via understanding and critical thinking A vigorous program to engage student participation and equip students with fundamental knowledge in portfolio management Career-minded via practical knowledge and applications gained from newspapers and practitioners journals, and spreadsheet applications

Student Learning Outcomes

1. 2. course outline and introduction/motivation presented at the beginning of each lecture Why do we study
bond pricing, term structure of interest rates, and duration? the Markowitz portfolio theory? the CAPM? the SIM? performance evaluation? the EMH? option pricing and strategies involving options?

A Summary of FINS2624
Allocation Among Various Asset Classes
EMH Anamolies Asset Pricing Model Expected return Portfolio optimisation Recommended portfolio composition and expected risk return combination Performance evaluation on realised risk return combination Risk Shares Fixed Interests Listed Properties Cash

CAPM The Capital Market Line as the New Frontier of Efficient Portfolios: E (rP ) = r f +
E (rP )
E (rM )

E (rM ) r f

CML EF M

rf

The Security Market Line as the Benchmark of Expected Security Returns: E (rCBA ) = r f + CBA [E (rM ) r f ]
E (ri )

SML +ve stock alpha -ve stock alpha

E (rM )

E (rCBA )
rf

E (rM ) r f = slope of SML

CBA

M =1

SIM - The Components of Stock Return: (rit r f ) = i + i (rmt r f ) + it

observed excess return in a given period

ri rf

positive residual in one period

* excess return suggested by the characteristic line

characteristic line: rit r f = i + i rmt r f obtained by regressing excess stock return on excess market return

negative residual in another period

rm - rf

Performance Evaluation Methods to Compute Returns (i) CCRt = ln

Vt V t 1

(ii) DRt =

Vt Vt 1 Vt = 1. Vt 1 Vt 1
1

Methods to Measure Expected Returns:

1 (i) AAR = n

rt
t =1

n ( (ii) GAR = 1 + rt ) t =1

1, i.e., GAR = n (1 + r1 )(1 + r2 )...(1 + rn ) 1 .

Risk Adjusted Performance Measures - The Sharpe (Reward to Variability) Index

(i) S P =

rP r f

P
rP rf

(ii) TP =

(iii) rP rf = P + P rM rf + P . (iv) AR P =

Bond Pricing
Add CPP on the time line if and only if the bond is cum-interest cash flows beyond the next coupon payment date
P0 PCPD $CPP NCPD $CPP CPD $ CPP CPD $ CPP CPD . . $ CPP CPD $ CPP CPD $ CPP + $FV maturity date

next coupon payment date settlement date previous coupon payment date

P = PV of cash flows beyond the NCPD as at that date: = CPP PVA(r %, t) + 100 PVF(r %, t) If cum interest, otherwise, If cum interest, otherwise, P0 = ($CPP + P ) / (1 + r%)f P0 = P / (1 + r%)f

Padj = P0 CPP (1 f ) Padj = P0 + CPP f

Term Structure
HPR
P0 (1 + HPR t ) = CI t + Pt m

f (n, t ) = E [r (n, t )] Expectations hypothesis Bonds with different times to maturity offer the same expected HPR, hence perfect substitutes investors are risk neutral

Liquidity Premium hypothesis f(n,t) = E[r(n,t)] + E[LP(n,t)] investors are risk averse Higher HPR is expected from bonds with longer maturity Zero-coupon bonds certain or risk free HPR if held to maturity may help defer capital gains tax

Macaulay duration for coupon bonds

CPP FV n + t n t n = 1 ( ) ( ) r r + + 1 1 MacDur = P0
t

(CPPt + FV ) / (1 + r )t CPP1 / (1 + r )1 CPP2 / (1 + r )2 MacDur = 1 + 2 + ... + t P0 P0 P0

MacDur = w1t1 + w2 t 2 + ..... + wn t n = wi ti .
i =1 n

a function of interest rate level, bond maturity and coupon rate interest rate risk immunization bond portfolio mgt

Options Payoff & P/L Initial Payoff or Value t=0 (i) Long a call C0 (ii) Short a call -C0 (iii) Long a put P0 (iv) Short a put -P0 (v) Long a share S0 (vi) Short a -S0 share Payoff on Expiry Date t=T Max{(S* - X), 0} -Max{(S* - X), 0} Max{(X S*), 0} -Max{(X S*), 0} S* -S* Profit/Loss on Expiry Date t=T Max{(S* - X), 0} - C0 -Max{(S* - X), 0} + C0 Max{(X S*), 0} - P0 -Max{(X S*), 0} + P0 S* - S0 -S* + S0

Theoretical value of an option = intrinsic value + time value of the option Intrinsic value i) Call = max{ St X, 0 } where t = 0 (inception) up to T (expiration) ii) Put = max{ X - St, 0 } Option time value = f ( time to maturity and underlying asset volatility ) Black Scholes equation for a call option: C = SN(d1) - Xe-rtN(d2) Factors affecting the value of an option: S, X, T, , rf No arbitrage equilibrium and perfectly hedged portfolios Put-call parity theorem: P + S = C + Xe-rt

EMH Forms of market efficiency & information captured by stock prices What are the investment strategies carried out the (i) believers & (ii) non-believers in EMH? Value Investing vs Growth Investing

The End