International Financial Management lectures 1-4
IFM lectures and notes 1-4
IFM lectures and notes 1-4
Kartei Details
Karten | 64 |
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Sprache | English |
Kategorie | Finanzen |
Stufe | Universität |
Erstellt / Aktualisiert | 04.01.2022 / 13.01.2022 |
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calculate portfolio risk
- portfolio expected return: weighted average of epxected returns on individual stocks
- for risk: weighted avg of SD of stocks, only if prices of stocks move in lockstep
- cov = covariance btw stocks
- P = correlation btw stocks
- P = 0 : stocks are wholly unrelated
- P < 0: stocks move in opposite directions
- P > 0: stocks move together (-> most common case)
- p = + 1 : stocks are perfectly correlated (no gain from diversification)
- P = -1: stocks move in opposite directions, risk can be completely eliminated
limits to diversification
- many securities: covariances > variances --> variability of diversified portfolio reflects mainly covariance
- covariance of 0 = eliminating all risk bc stocks would move independently
- most stocks are tied together w positive covariances -> limits benefits of diversification
beta factor
- measures sensitivity of a stock to the market movements (covariance ÷ variance)
- beta > 1 : stock is more volatile than movement of market
- beta < 1 : stock moves in same direction as market but not as far
- portfolio beta = avg beta of securities included in portfolio
- market beta = 1
- risk of well diversified portfolio is proportional to porfolio beta
markowitz portfolio theory
- an investor can reduce standard deviation of portfolio returns by choosing stocks that don't move together
- past rates of return of a stock considered as conform to normal distribution -> epxected return and standard deviation are only measures that investors need
- graph expected return / standard deviation: efficiency curve btw perfectly correlated and perfectly opposite stocks
- efficient portfolios on that line have highest expected return for given SD (or lowest SD for given return)
- any point on that line is equally efficient, choice depends on preferences
Markowitz theory and borrowing and lending
sharpe ratio
ratio of risk premium to standard deviation
expresses performance of a portfoilio
risk premium
how much return you get for one unit of risk
difference btw nominal return (%) of T bills and return of bonds / stocks
capital asset pricing model (CAPM)
graph and assumptions
- if beta is not 0 or 1, expected risk premium varies in direct proportion to beta
- all investments must plot along sloping line btw beta of 1 and market return, starting at risk free return: security market line
- expected risk premium: beta * expected risk premium on market
- (false) assumptions
- T bills are risk free
- investors can borrow and lend at same rate of interest
5 basic principles of portfolio selection
- chose portfolios form efficient frontier (high return, low SD)
- lend / borrow at risk free rate of interest w efficient portfolio w highest ratio of risk premium to SD
- invest in risky market portolio and risk free loan, proportions depends on risk aversion
- contribution of risk of stock to portfolio risk depends on sensitivity to changes
- beta measures marginal contribution of a stock to risk of market portfolio
company cost of capital
expected return on a portfolio of all company's existing stocks
= opportunity cost of capital for investment in firm's assets
blend costs of debt and costs of equity
cost of debt and equity
- cost of debt: opportunity cost for investors holding firm's debt
- cost of debt < company cost of capital bc debt is safer than assets
- cost of equity: opportunity cost for investors holding firm's shares
- cost of equity > company cost of capital bc equity is riskier than assets
- company cost of capital: weighted avg of cost of debt and cost of equity
weighted caverage cost of capital, WACC (after tax)
- tells us how much on avg the stock price changed when market return was 1% higher or lower
- calculate WACC: regress stock returns on market returns to estimate beta
- to measure cost of equity
- regression line fitted through returns on stocks and markt, slope is beta factor
- R^2: measures proportion of total variance in stock's return explained by market movements
calculate project risk
- measured by asset beta
- blend of seperate betas of debt and equity
- diversifiable risks don't affect asset betas or cost of capital
- helps understand why project may be above or below avg risk
certainty equivalents
- CEQ to risk cash flow: smallest certain payoff for which investor would exchange the risky cash flow
- used bc project risk changes, is not constant
2 methods to value risky cash flows
- discount risky cash flow at risk adjusted discount that is higher than rf
- find CEQ cash flow and discount risk-free interest rate rf
Assets
Actifs
- current assets
- non-current assets
- tangible ex buildings (actifs courants)
- intangible ex trademark, logo, goodwill
Equity
= capital structure (capitaux propres )
- current liabilities
- non-current liabilities
- shareholder's equity
a bond
debt obligation, standardized "I owe you"
long term debt for companies
value of a firm
value of bonds + value of shares
goal of financial management
- maximize share price of company -> shareholder value maximization
- if no traded shares, maximize market value of owner's equity
money market vs capital market
- money market: short term, debt
- capital market: long term, equity and debt
dealer vs agency markets
- dealer markets: dealers are firms who provide liquidity by purchasing and selling against personal inventory and at own risk
- agency markets: agent buys and sells for customer, gets a commisson
primary vs secondary markets
- primary market: company issues its own bonds
- secondary: people buy bonds from each other without involving company
types of corporate firms and their liability
- sole proprietorship: unlimited liability, depends on life and personal wealth of 1 proprietor
- partnership: limited partnership limits liability of partners to amount they contributed
- corporation: limited liability, shareholders are not liable for obligations of corporation
single vs 2 tier board structure
- Single tier board structure: shareholders control corporation’s direction, policies, and activities
- Two-tier board structure: management is elected by and reports to a supervisory board
- DE: supervisory board with banks, government, trade unions (50%),..
agency theory
- different objectives, available information and money, between:
- managers and shareholders
- large and minority shareholders
- shareholders and debtholders
- need incentives for manager to act in interest of shareholder
- agency cost must be accepted to solve agency problem ex cost of monitoring
6 principles of good governance (OECD)
- effective corporate governance framework (CGF): efficient and transparent markets, division of responsibilities
- protect rights of shareholders (vs managers)
- equitable treatment of shareholders (controlling vs non-controlling shareholders), protect minority shareholders
- recognize rights of stakeholders (vs managers / shareholders)
- disclosure and transparency: timely and accurate disclosure
- responsibilities of the board: effective monitoring of management by board, and accountability to company. board must be objective and independent
future value
amount to which an investment will grow after earning interest
present value
the value today of a future cash flow
how much do we need to invest today to produce a given payoff at a point in the future?
discount factor
- (1+r)^-t
- measures present value of 1€ received in year t
- used discount the future value back to the present
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