Investment Decisions using Time Value of Money and Portfolio Models

Desklib provides past papers and solved assignments for students. This report analyzes financial models and portfolio management.

Financial Assessment
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Table of Contents
Introduction......................................................................................................................................3
Question 1........................................................................................................................................4
(a).................................................................................................................................................4
(b).................................................................................................................................................4
(c).................................................................................................................................................4
(d).................................................................................................................................................5
(e).................................................................................................................................................5
(f)..................................................................................................................................................6
Question 2........................................................................................................................................7
A...................................................................................................................................................7
B...................................................................................................................................................8
C.................................................................................................................................................10
Conclusion.....................................................................................................................................12
Reference –....................................................................................................................................13
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Introduction
This report is used to evaluate various tools and models of the time value of money and portfolio
model on which company can make their investment decision. Further to understand concepts of
the time value of money and portfolio management this assignment divided into two parts. In the
first half problems related to the time value of money is solved and in second half portfolio
management model used to analyze the financial data of MYOB limited and a hypothetical
company from which portfolio and their risk are identified for better decision making of the
investor.
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Question 1
(a)
Calculation of Cash amount received by Bank
Particular Amount
Payment per period (CF) $26
Number of years (n) 4
Annual interest rate (r) 7.0%
No. of compounding periods per year (m) 12
Number of periods (m*n) 48
Periodic rate (r/m) 0.58%
Present value (PV) $1,094.12
(b)
Calculation of Annual Operating Revenue
Particular Amount
Present value (PV) $445
Number of periods (n) 5
Interest rate (r) 10.1%
Future value (FV) $720.26
(c)
Calculation of EAR for MYOB
Option A
Stated annual rate (r) 5.45%
No. of compounding periods per year (m) 12
EAR 5.59%
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Option B
Stated annual rate (r) 5.50%
No. of compounding periods per year (m) 2
EAR 5.58%
Option C
Stated annual rate (r) 5.40%
No. of compounding periods per year (m) 365
EAR 5.55%
(d)
Finding the payment required for an amortizing loan
Particular Amount
Loan principal (PV) $420,000
Term of the loan in years (n) 10
Annual interest rate (r) 3.8%
No. of compounding (payment) periods per year (m) 4
Number of periods (m*n) 40
Periodic rate (r/m) 1.0%
Loan payment per period $12,670.25
(e)
Calculation of Yield to Maturity For Bond
Particulars Amount
Par Value of Share 100
Number of Years to Maturity 8
Annual Coupon Rate 7.05
Current Price 109.5
Yield To Maturity 5.597%
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(f)
Calculation of Coupon payment
Particular Amount
Payment (CF) ($1,000 * 3.5%) $35
Number of periods (n) 12
Interest rate (r) 2.6%
Present value (PV) $357.94
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Question 2
A.
CAPM method:
Capital structure and pricing model identified the relation among risk and return for a specific
portfolio in the market. This helps management in understanding nature and financial
characteristics of a portfolio in which they want to invest their money. Through this model,
management can identify the expected rate of return which they can achieve from the portfolio in
the market in the near future. This model is widely used by an investor to analyse the portfolio
and takes corrective action in the selection of portfolio in the security market.
CAPM formula = Risk free rate (+) [Beta * (Market return rate – Risk free rate)]
Particulars Company X MYOB
A. Risk Premium in Market 6.00 6.00
* beta Factor for company (0.20) 0.47
Actual Risk Premium From Market (1.20) 2.82
Add - Risk Free Rate in Market 1.90 1.90
Expected return rate 0.70 4.72
Under this model expected rate of return for share and bond of Company X is 0.70 and For
MYOB 4.72 which majorly indicates the risk associated with portfolio and provides information
for expected return from the specific portfolio in the market.
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B.
(i):
Expected return:
The expected return is the volume of margin which investor received in the near future from a
specific investment option. This is a probable return which is achieved in the near future by an
investor from the selective portfolio in the market. The expected return is calculated by use of
the average tool in which investor average the return of all the bond and share existing in the
portfolio for the company. Expected return identified a probable performance of the portfolio in
near future ion which investor can invest their money in the respective portfolio in the market.
In the above table, Hypothetical Company is used to identify the relation of expected return and
also identified the expected return for the portfolio. The company selected shares of two different
companies in a portfolio which financial information is given below
Particulars Weight Return Weighted Return
Company X 0.5 0.70 0.35
MYOB 0.5 4.72 2.36
Total 2.71
Expected Rate of Return = (E.R. of X * Weight) + (E.R. of MYOB * Weight)
= (0.70% * 0.50) + (2.36% * 0.50)
= 2.71%
In this scenario return calculated for both companies in figure 2.1 from which weighted given to
each company in the portfolio on this weighted average expected return is calculated from a
portfolio which is 2.71% for the investor.
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(ii):
Beta:
Beta is the factor which represents the degree of risk associated with portfolio in the market.
From the prospective investor, Beta is the most important factor which can provide adequate
information related to the portfolio on which they can allocate their fund in the different portfolio
in the market (Habibi et. al, 2016 ). Beta is a major factor which can influence the performance
of investor in the market further Beta guide investment decision for management. Further, it
helps management or investor to select the best option which helps them in the identification of
most suitable option to invest their money so can they achieve their goal of wealth maximization.
As the investor is included high beta which means they had a high probability of loss in the near
future and also the probable risk of financial losses in the near future for the company.
As the beta is indicated risk for the investor in the market, it reflects as negative in the market
and the entire agencies who are working in portfolio construction strongly consider this factor in
the market. Risk can be a systematic and unsystematic risk which is linked with a portfolio on
which performance of portfolio id dependent in the market (Li, et. al, 2018). It is a combined
average value which explains the level of overall risk that is associated with the whole portfolio.
= (Beta of “company A” * Weight) + (Beta of MYOB * Weight)
= [(0.20) * 0.50] + (0.47 * 0.50)
= 0.1+0.235
= 0.335
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C.
In this study, various financial tools and models are used to value the performance of the
portfolio in the market and also evaluate their performance in the near future for a company or
investor. For the purpose of study, MYOB company is considered and their financial information
used under CAPM model so that effective and relevant information identified to construct a
suitable portfolio according to the objective of investor. In the above analysis MYOB limited had
expected return of 4.72 and Company X which is a hypothetical company had expected a return
of 0.70 in the market. The portfolio is constructed from both of the shares on which share is
equally divided into the portfolio. The overall expected return from the portfolio is 2.71%.AS the
Beta factor of Portfolio is 0.335 which indicates the degree of risk associated with portfolio and
when it comes to MYOB Ltd. The beta factor is 0.47 so as the overall beta (risk) of the portfolio
is less than Companies beta factor.
Component of CAPM Model -
Risk-free Return
Risk-free return is the return on which risk is zero associated with investment options in the
market. Risk-free return is the theoretical rate of return on which investment option had Zero
rates of risk (Bragg, 2018). It Means Return from the safest investment option in the market is
called Risk-free return for the investor.
Risk premium Return
Risk premium return is the additional return which is achieved by the inventor on the portfolio in
the market. It can be identified as the difference of Market return or Risk-free return in the
market. It helps to identify the premium which investor received additional on risk-free return for
portfolio in the market.
Systematic Risk
Systematic risk is the undiversified risk which is associated with a portfolio in the market. This
risk also called a market risk which is associated with all the portfolio option available in the
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market for investment (Waemustafa & Sukri, 2016). As it impacts on the whole market this risk
can't be avoidable for the investor they can overcome this kind of risk by a systematical analysis
of their portfolio in the market.
Unsystematic risk
Unsystematic risk is the type of risk which is associated with a specific portfolio in the market.
This kind of risk is dependent on the performance of the share and portfolio in the market.
Diversification is the option from which investor can overcome their risk in the market so that
they can face on so many heavy losses in the near future on their investment money.
Risk is the major part of the portfolio as it describes the future outcome and probable chances of
return in the near future from investment option for company or investor (Modarres, 2016).
While drafting portfolio for the investment of fund investor or portfolio agency need to consider
adequate techniques and tools to evaluate the risk associated with the portfolio. The investor
needs to take decision according to the results arrived from portfolio model so that they can
overcome their risk and achieved profit in the market.
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Conclusion
In this study, various financial tools are used to analyze the financial information of the company
and also calculated the value on the given assignment problems in the scenario. Further various
concepts related to the time value of money and portfolio management is used in the solution of
the assignment in a given scenario. In this assignment, all the information related to investment
options for the investor is used and analysis so that investor can take a better decision which is
based on the result achieved from financial models of the time value of money and Portfolio
management.
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