Business Finance 1 Dersi 6. Ünite Sorularla Öğrenelim

Historical financial data reveals a relationship between risk and return: the higher the risk, the higher the returns.

Typically, the return on stocks has two components: dividends and capital gains.

Turkey’s stock exchange has been operating since the late 1980s.

We can use the arithmetic average (mean) to measure the expected value and the standard deviation to represent the volatility or dispersion around that expected value.

In an (informationally) efficient market, prices fully reflect all available information. In such a market it should not be possible for market participants to consistently earn excess returns, beyond the return appropriate to investments of that level of risk. Two important parts of the EMH definition that we should pay more attention to are “fully reflect” and “all available information”.

Weak form of the EMH states that all information contained in past prices is fully reflected in prices. If weak-form efficiency holds, it should not be possible for investors using information from past price changes to obtain consistent excess profits. Chartists and other technical analysts are engaging in useless activities.

When deciding on an investment, investors should take into account not only their expected returns and risk levels, but also possible interactions/ co-movements with other securities.

The first step in the calculation is to calculate their differences from their relative means (Rct - Rc ) and (Rdt - Rd ), and multiply them with each other for each state of the economy. Second, taking a weighted average of these terms gives us the covariance. When both returns tend to be above or below their relative averages at the same time, then the covariance becomes positive, and negative when they tend to diverge.

A positive correlation means that the investments will tend to have high or low returns at the same time.

If the returns of Compatible and Divergent were perfectly positively correlated then the standard deviation of portfolio becomes the weighted average of standard deviations of the individual securities.

The expected return, sometimes referred to as normal return, is the return that would be realized if everything relevant to the value of the company goes as expected.

Unexpected returns are the result of new unexpected information arriving to the market during the period which changes some of the factors we believe are pertinent. 

Market, portfolio or systematic risk is the uncertainty inherent to the market that cannot be controllable.

The diversifiable, unique or unsystematic risk is the uncertainty that is related to the invested asset. Therefore, unsystematic risk can be reduced through diversification whereas systematic risk cannot.

The Capital Market Line (CML) is the line that connects the risk-free asset with the market portfolio, where the line is just tangent to the efficient frontier on an expected return/ standard deviation graph.

The CML depicts the trade-off between risk and return for diversified (efficient) portfolios. relationship between the expected returns of efficient portfolios subject to standard deviation of a market portfolio and risk-free rate.

Capital-Asset-Pricing Model is a model describing the relationship between the systematic risk of a security, namely beta, and expected returns. As long as the market risk premium is positive, higher beta value bring higher returns.

The difference between Security Market Line
and Capital Market Line is that: on CML we are considering a portfolio that is composed of a risky assets plus a risk-free asset, and all the efficient points on this line denotes the expected return and standard deviation of this combination.