Portfolio Management

This document provides study material on Portfolio Management. It includes solved assignments and essays on topics such as expected return, variance, present value of annuity, and more. The content covers questions related to asset X, portfolio return, expected payoff, expected return on portfolio, and the impact of equity issues on share prices. The subject is Portfolio Management and the course code and name are not mentioned. The document is not associated with any specific college or university.

Portfolio Management

TABLE OF CONTENTS
Question 1..............................................................................................................................3
Question 2..............................................................................................................................4
Question 3..............................................................................................................................5
REFERENCES...........................................................................................................................8

Question 1
A.
First, solve for the expected return of asset X:
Expected return on risk free asset = 9.5% = 0.5 * 4% + 0.5 *(Expected return on risky asset
X)
Expected return on risky asset X= (9.5% - 2%) / 0.5 = 15%.
The portfolio having the 20% risk free and 80% invested into riskier asset X has the expected
return of = 0.2 * 4% + 0.8 * 15% = 12.8%.
All the combination s will lie on the same line irrespective of the fact whether they are riskier
or risk free, therefore, they will have Sharpe ratio. Thus, Sharpe ratio will still remain the
same, thus, the standard deviation of the portfolio return with the revised weights is computed
below.
0.3667 = 0.128 -0.04 / σp
σp = 0.088 / 0.3667 = 0.240 = 24%
B.
There is an equation for the variance pertaining to the portfolio in regard to the assets and
covariance with the entire portfolio. In this, xi is the proportion of the portfolio invested in the
asset i.
Var (Rp) = ∑ xi Cov (Ri Rp).
Since, standard deviation is the square root of the variance, thus, the standard deviation will
be calculated as follows.
Standard deviation = Square root of [(40000 / 100000) * 0.15 + (20000 / 100000) * (-0.10) +
(10000 / 100000) * 0.20 + (30000 / 100000) * (-0.05)]
= 21.2%
C.
(i)
The present value of annuity refers to the current value of the future expected cash flows at a
particular rate also called as the discounting rate. Higher is eth discount rate, the less is the

present value in respect to the annuity (What Is Present Value (PV)? 2021). Due to time
value, eth money received today is of more worth in contrast to eth same amount in the future
date.
The formula for calculating the present value of annuity is
P = PMT * [(1 – (1/ (1+r) ^ n]
r
Using the given formula, the present value of the annuity 6% is:
Present value = $50000 * [(1 – (1/ (1+0.06) ^ 25]
0.06
= $639168
Based upon eth given information, the worth of the annuity is $10832 lees on the time
adjusted basis, thus, the client should pick eth option of lump-sum payment over the annuity.
Present value = $50000 * [(1 – (1/ (1+0.05) ^ 25]
0.05
= $704697.2
In this case annuity should be taken.
(ii)
Difference between ‘ordinary annuity’ and ‘annuity due’
An ordinary annuity refers to the series of equal payment which is being made at the end of
the consecutive period which involves a fixed period of time. For instance, loans like
mortgages involves ordinary annuity (What Is the Difference Between an Ordinary Annuity
& an Annuity Due? 2019). In contrast to it, the payment for the annuity due is made at the
starting of each period. An example of annuity due is payment of rent. When lease for an
apartment is signed, the rent is required to paid on the first of each month. Thus, this involves
annuity due as the payment is occurring at the regular interval and also at the beginning of
each period. Insurance premium payment is also an example of this annuity due. The variance
occurs when the payment is made which results into providing different present and future
values computations.
Question 2
a.
The expected payoff is a statistically calculated index which determined through the average
profit/loss factor. It accounts for the expected value of the project minus the cost. It is the
average amount of money which is earned from the all the project or a single project

(Understanding Trading Statements and Related Data. 2017). In statistical terms, it is the
calculated index which generally depicts the average profit/loss factor pertaining to eth trade
or project.
b.
Computing expected return on portfolio
Return = probability * expected return
Portfolio A & B plc’s recession return = .6 × (-40) + .4 × (80) = 8%
Portfolio A & B plc’s normal return = .6 × (25) + .4 × (2) = 15.8%
Portfolio A & B plc’s boom return = .6 × (90) + .4 × (-16) = 47.6%
Portfolio A & B plc’s expected return = 0.3 × 8 + 0.4 × 15.8 + 0.3 × 47.6 = 23%
c.
Stock A plc’s expected return in state = 0.3 × (-40%) + 0.4 × (25%) + 0.3 × (90%) = 25%
Stock B plc ’s expected return = 0.3 × (80%) + 0.4 × (2%) + 0.3 × (-16%) = 20%
Expected return on portfolio = Wt. in A × E(RA) + Wt. in B × E(RB)
= 0.60 * 25% + 0.40 * 20% = 23%
d.
Expected return on Beta plc = 0.6 × (3%) + 0.4 × (15%) = 7.8%
Expected return on Gamma plc = 0.6 × (6.5%) + 0.4 × (6.5%) = 6.5%
e.
WB = $2500 / $6000 = 0.417
WG = 1 – 0.417 = 0.583
Expected return on portfolio = 0.417 * (0.078) + 0.583 * (0.065) = 0.0704 = 7:04%
Question 3
Share price of companies announcing equity issues fall on average
Share price of companies announcing equity issues fall on average as there are
various reasons which need to be understand. The foremost reason for this is that whenever
selling equity on average is announced it is considered to be negative information about the
organization. From the market perspective it is crucial to emphasis on the factors that
announcing issue of equity is considered to be adverse information by the participants. The
issue of shares is represents as there is increase in the supply of equity to the market which
creates price pressure. Price declines if demand becomes elastic and result into greater
decrease for a large issue (Kim, Ko and Wang, 2019). Another factor which is widely taken

into consideration to identify the cause behind mentioned subject matter is cost issue which is
basically bear by the firm and tend to perceived by market that it is becoming difficult to
overcome such obligation therefore such actions are taken into procedure.
This type of asymmetric information formulates adverse impact on firm as market is
mostly informed about the prevailing practices. Market reaction is found to be not positive as
it perceives that firm is issuing s there is deficiency of proper management, lacking of
managing funds, etc. market reaction can be understood by giving emphasis on the demand
and supply of equity shares. The supply of equity shares at the time of announcement
becomes high as compared to previous which is foremost reason for the downward
movement of price chart of companies (Fu and Smith, 2021). There is possibility that by
getting such information major shareholders are selling that creates negative research notes in
respect to firm’s performance. These reports affect the market reaction and specially those
segments of clients who are short term oriented as a result selling pressure often ensues.
Determining the reason for this subject matter is practice of art and science as there
is involvement of several actions like modeling stock’s prices and art of collection
information from the market. With reports or the equity share companies as well provide
certain future guidelines that Play important role in fundamental Valuation (Barclay, Fu and
Smith, 2021). This creates scenario of getting information regarding internal process insights
that may increase expectations of investors and analyst along with future consideration
regarding downward movement of future sale, earnings, cash flow, etc. it became
consequence in revisions that decrease future value expectation that is one the fundamental
reason for the fall in share price.
News or information about a company leads to affect short term stock price changes
with higher volatility. There is certain impact of economic and sector influences as well
therefore these are associated as the critical factor for affecting price changes and impacting
the market reaction. Macroeconomics factors like interest rate, market shift to the lesser risk
providing investment, etc. are included in the factors influencing the prices alteration and
giving outcome in lessening value (Buckle and Thompson, 2020). The sector in which firm is
operating play crucial factor in deciding the extent to which market will react to the level of
price alteration. These two mentioned courses of actions are essential to highlight while
understanding the reason of share price of companies announcing equity issues fall on
average. Availability of potential information helps in deciding the extent of change resulting
into volatility. Managers of company act in favor of existing stakeholder to gain incentive

when it is overvalue thus making announcement about stock conveys negative information
and impact in fall of value.
The reaction of stakeholders varies from the scale of company operation and the level
of investment made in respect of getting announcement whether bad or good. The fluctuation
occurs due to change in demand and supply & logical relation is found as negative news
cause sale and price of equity shares (Fama, and French, 2021). Issuing the earnings reports
that are meeting expectations of investors tend to impact the stakeholder’s decision making
and they may lead toward selling their stock. It results in increasing demand and decreasing
supply & result in drop prices. Market expectations are always highlighted into current price
of shares so issuing announcement affect the expectation which influence value in downward
movement.

REFERENCES
Books and Journals
Barclay, M. J., Fu, F. and Smith, C. W., 2021. Seasoned equity offerings and corporate
financial management. Journal of Corporate Finance. 66. p.101700.
Buckle, M. and Thompson, J., 2020. The market for equities. In The UK financial system
(fifth edition). Manchester University Press.
Fama, E. F. and French, K. R., 2021. Financing Decisions Who Issues Stock? (pp. 750-788).
University of Chicago Press.
Fu, F. and Smith, C. W., 2021. Strategic Financial Management: Lessons from Seasoned
Equity Offerings. Journal of Applied Corporate Finance. 33(1). pp.22-35.
Kim, W., Ko, Y. and Wang, S.F., 2019. Debt restructuring through equity issues. Journal of
Banking & Finance. 106. pp.341-356.
Online
Understanding Trading Statements and Related Data. 2017. [Online]. Available through:<
https://admiralmarkets.com/analytics/traders-blog/understanding-trading-statements-
and-related-data>.
What Is the Difference Between an Ordinary Annuity & an Annuity Due? 2019. [Online].
Available through:< https://finance.zacks.com/difference-between-ordinary-annuity-
annuity-due-7289.html>.
What Is Present Value (PV)? 2021. [Online]. Available through:<
https://www.investopedia.com/terms/p/presentvalue.asp>.