Measures of Investment Return

Question 1

Geometric mean

Answer 1

Good measure of change in wealth over time.

1. Add 1 to decimil returns (or subtract if negative return)
2. Multiply the returns
3. Enter that as FV
4. 1 CHS is PV
5. N = number of years supplied for
   6 Solve for i

used to evaluate performance of fund manager…not affected by cash flows.

Question 2

Time Weighted Return

Answer 2

investment performance as a percentage of capital at work (income and price changes)

Eliminates the effects of additions and withdrawals

Used for investment performance!!

Question 3

Dollar Weighted Return

Answer 3

changes in total dollar value. Additions and withdrawals are treated as part of the return along with income, cap gains and losses.

Same as IRR/NPV calc

Question 4

Nominal Rate of Return

Answer 4

Actual rate earned over a period of time

Question 5

Real Rate of Return

Answer 5

Inflation Adjusted Rate of Return
Nominal rate adjusted for inflation

RRR = 1 + return
—————- -1
1 + inflation

Question 6

Total Return

Answer 6

annual return including interest and dividends

Question 7

Risk Adjusted Return

Answer 7

return that is altered for differences in risk among variables.

Question 8

Holding Period Return

Answer 8

total return over a period of time from purchase to end of period sale divided by price paid. (income plus price appreciation, dividends, minus margin)

Fails to consider timing of when cash flows occurred

Price sold + dividends - price paid (times .85 or.80 for after tax)
___________________________
Price paid

50% margin $10,000 means only paid $5000
subtract margin, cost and interest

Question 9

Internal Rate of Return

Answer 9

Discount rate
rate at which net present value of future cash flows equals the cost

when cash flow is 0 the discount rate is IRR

When IRR is greater than required return the investment is acceptable

CFO, CFJ, f IRR

Question 10

Yield to Maturity

Answer 10

Yield an investor can expect if bond held to maturity

takes in to account market price and, cap gain, or loss,

ALWAYS USE SEMIANNUAL COMPOUNDING!!! (unless problem says use annually)
(even with zero coupon)

YTM = -PV, FV, PMT(/2), N(x2), = i(x2)

Question 11

Yield to Call

Answer 11

Assumes bond will be redeemed on first call date by issuer

PV= price paid
FV = call price
PMT= coupon/2
N= years x2
1 = interest x 2

Question 12

Current yield

Answer 12

takes into account the current market price of the bond

CY = Annual Interest in $
_______________

     Bond's Current Price

Question 13

Tax Equivalent Yield

Answer 13

TEY = Tax Equivalent Yield
————————–
1- Marginal Tax Rate

Tax EXEMPT yield = Corporate Rate X (1-Marginal tax bracket)